China is opening its financial firms to more foreign ownership. The opportunity might seem tempting. But developed-world buyers should beware — it’s possible that it’s a trap.
On Nov. 10, Vice Finance Minister Zhu Guangyao announced changes in the rules limiting foreign ownership of Chinese financial companies. Foreign investors will now be allowed to take controlling interests in Chinese securities firms, insurance companies, asset managers and futures traders. Banks may soon follow.
That sounds like a move toward greater openness for the world’s biggest economy. If so, it would run exactly counter to the recent trend of increased Chinese protectionism and economic nationalism. Why would China open its financial system to foreign investment even while it slowly closes off its consumer markets? I suspect that this move toward openness and globalization might not be all that it appears.
What Your Peers Are Reading
China’s financial system has been on shaky ground for at least two years now. The root cause is a cooling of the country’s rapid economic growth.
This was a natural and predictable slowdown, caused by the drying up of rural surplus labor, an aging population, rising labor costs and peak coal production. But even as the economy slowed, housing and stock prices kept rising. With asset valuations still gaining while the fundamentals slowed down, a correction was likely. For a while, it looked like a stock market plunge in 2015 was the beginning of the bursting of a huge bubble.
Capital flooded out of China for more than a year.
The government was forced to sell a sizable chunk of its foreign exchange reserves to prop up the yuan. Eventually China’s government managed to clamp down on the capital flight.
But there is a definite sense that China’s financial system in still on thin ice. For one thing, the country’s total debt level has risen a lot.
A high amount of total debt can signal systemic financial fragility. When everyone owes everyone else money, a negative shock to the economy — or even just a spontaneous panic — can upset the system by causing a lot of borrowers to default at the same time. When financial firms are highly leveraged, it also makes it easier to have a bank run or a similar liquidity crisis.