Little trouble in big China
10 March 2008
So far China's economy, exporting industries and foreign investors' businesses have been only marginally affected by the ongoing US sub-prime crisis. This is partly due to China's rigid foreign exchange policies and restrictions on capital moving freely in and out of the country. The Chinese business environment is therefore largely controlled by the country's protective economic structure and interventionist economic policies introduced during times of need.
In December 2007 China's central bank introduced a number of tightened monetary policy measures designed to improve liquidity management of the domestic banking system and control excessive credit growth. During 2007 the reserve requirement for domestic Chinese banks was raised in various stages from 8 per cent to 14.5 per cent and is expected to be raised to 16 per cent or more by the end of 2008. The interest rate was also increased in 2007.
As a result of these policies, there was some short-lived negative impact on foreign investors who were in the process of obtaining onshore financing or refinancing their offshore loans with cheaper onshore loans, since some domestic banks were reluctant to provide the necessary loans. But during the first two months of 2008 the money supply has not shrunk and lending still remains high despite all efforts to curb it.
To control the credit growth further it has been suggested that the China Banking Regulatory Commission (CBRC) will not allow new bank loans to grow by more than 13 per cent in 2008. However, domestic banks have already reached around three-quarters of the limit set for the first quarter in January alone. If the banks issue any additional loans above the set thresholds they will face sanctions.
It has also been reported that the tightened monetary policy may be further adjusted in the event of a US-led worldwide recession caused, in part, by the sub-prime crisis.
Various regulatory policies and legislative changes were introduced in a bid to slow down the booming Chinese property market in 2007. These made it difficult, if not impossible, for foreign investors to enter the market. Foreign-invested real estate enterprises are now largely only able to finance their projects by way of capital contribution, and are not allowed to obtain any foreign debt. Moreover, the CBRC's stringent requirements for any onshore lending for real estate projects have made it even more difficult for foreign-invested real estate enterprises to tap into the Chinese property market.
The effect of the sub-prime crisis on the Chinese bond market has so far been insignificant - mainly due to its immaturity and the lack of expertise. Securitisation is still in its infancy and China needs a more developed financial market and committed and motivated institutional investors, both of which it presently lacks.
China's equity market currently has limited exposure to international and institutional investors. This is mainly due to the existing Chinese foreign exchange control policies, the Qualified Foreign Institutional Investor scheme (a foreign investor who is allowed to invest in Chinese securities in a very controlled manner) and the Qualified Domestic Institutional Investor scheme (a Chinese financial institution which is, in a very limited manner, allowed to invest in offshore markets).
Some negative effects of the US sub-prime crisis can be seen in terms of IPOs launched in China. Some of these have recently been pulled from the market because of weaker investor sentiment, valuation concerns and unstable markets.
In addition, many of the Chinese domestic banks, such as Bank of China and the Industrial and Commercial Bank of China (both dual-listed on the Shanghai and Hong Kong stock exchanges) have invested in the failing US sub-rime market and may report large writedowns in 2008.
However, the US sub-prime crisis may actually have some positive effects on China's economy, and there has been an increase in outbound investments. This is expected to continue, as there will be many opportunities to buy assets abroad cheaply. To this effect, China Investment Corporation, China's sovereign wealth fund, has already capitalised on the US downturn by buying assets at a lower price, including its recent investment of $5bn (£2.52bn) in US investment bank Morgan Stanley. Moreover, the US sub-prime crisis will also assist the Chinese government in its continued efforts to cool down inflation to prevent China's growing economy from overheating.
A US recession?
With the sub-prime crisis showing few signs of easing, according to many experts the US is heading into a recession. Most countries, including China, are not entirely resistant to the impact this will have on the global economic climate. Analysts and economists predict that China will suffer somewhat by going from an export-driven economy to a domestic consumption-led economy.
However, China has the biggest wealth creation capability in the world, with foreign reserves equal to $1.53tr (£770bn) - as opposed to the US foreign reserves of $72bn (£36.27bn) - and the highest individual private saving ratio. Due to the lack of free public health care and a reliable pension system, many Chinese, in absolute terms, still save the same amount of money as before, while recent years of salary increases have gone and will continue to go directly towards spending.
As was the case with the Asian financial crisis of the late 1990s, China should manage to avoid the most serious consequences of the sub-prime crisis and a global economic downturn thanks to strict economic management and control.
For investors, financial opportunities continue to exist that are not available anywhere else in the world. China remains competitive in the international trade arena, the renminbi is still undervalued and the economy seems robust. Which is more than can be said for many other countries at the moment.
Han Qimeng is a partner, and Marianne Ramel a senior associate, at Gide Loyrette Nouel in China
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