China’s Economy Shows Signs of Stabilization, Still Offers Opportunities

The slowdown in China’s formerly roaring economy has alarmed many who worry that a drop in its massive consumption and production will take the rest of the world down with it. However, the Chinese government isn’t sitting idly by and waiting for things to right themselves; neither are businesses that have had a taste of capitalism.

China’s authorities took a number of actions in July as they moved increasingly to battle obstacles to growth targets. It announced what it said would be a small stimulus, but nowhere on the scale of government measures in 2008 when a package amounting to 4 trillion yuan ($586 billion in 2008 dollars) was unleashed. This time around, Lou Jiwei, China’s finance minister, said in early July that “large-scale fiscal stimulus” measures were not an option; instead, the government planned to focus on increasing employment, keeping its debt level steady and making small adjustments to policies already in place.

While at the time he indicated that the government would allow the country to miss its growth target of 7.5%, official news agency Xinhua later changed its report to say instead that there was no doubt China could meet that target.

The People’s Bank of China (PBoC) has also eliminated the floor on lending rates offered by the country’s banks. It also indicated that it may act on deposit rates as well, to protect banks and help raise household incomes while steering people away from nontraditional wealth management products. The floor on mortgage rates, however, has been retained, lest speculation in the real estate market increase.

Lending had tightened up so much in June as the Chinese government tried to rein in property speculation that people began to move money from conventional savings into wealth management products (WMPs), which offer a considerably higher return than normal deposits. WMPs, despite being offered by banks, are considered a part of China’s shadow banking system—since approximately 70% of them do not guarantee principal.

Investors, for their part, are mostly unsophisticated bank depositors who do not understand WMPs’ risks and seem blissfully unaware that they could lose their money; in their minds, the WMPs are sold by banks, so they are safe. Meanwhile, while some WMPs invest in safer products like money markets, bonds, and deposits, many others instead seek out riskier options like derivatives, stocks, and loans to property developers and municipal governments.

With such high returns on offer, the banks rely on additional investors to help supply the cash to pay out to earlier investors—causing Xiao Gang, chairman of the China Securities Regulatory Commission, to characterize them as a Ponzi scheme. According to Fitch Ratings, the main ways the banks get the funds to pay for maturing WMPs are from—you guessed it, investors in new products—and from borrowing from the interbank market.

Investments in WMPs have surged to the point that the banks’ safety is in jeopardy. Should the market in WMPs go bust, bank reputations will suffer and, despite the fact that many of the products do not guarantee principal, the banks may be forced to pay investors anyway.

The government has also ordered an audit of government debt, which has already begun. The need for such an action was characterized as “urgent” by the National Audit Office, to the extent that other projects were suspended to give the audit process priority. Concerns over levels of local government debt and reliance on nontraditional credit sources have pushed the government to try to find out just how extensive the problem may be.

China is also cracking down on corruption, both foreign and domestic, with recent actions including its moves against pharmaceutical companies, hospitals and officials for price fixing and bribery; milk products contamination and price fixing; and price fixing among jewelers and foreign luxury car importers, with more crackdowns on the way.