Home / Opinion / China’s $600 billion subprime crisis is already here

Singapore: Sorry, Kyle Bass, you’re a bit late to the game. The debt problem in China has already reached the proportions of the US subprime mortgage debacle. Don’t worry, though: Chinese authorities are on the case—discussing reducing the required coverage for bad loans so that banks can keep booking profits and lending.

Including “special-mention" loans, which are those showing signs of future repayment risk, the industry’s total troubled advances swelled to 4.2 trillion yuan ($645 billion) as of December, representing 5.46% of total lending. That number is already higher than the $600 billion total subprime mortgages in the US as of 2006, just before that asset class toppled the world into the worst financial crisis since 1929.

The amount of loans classed as nonperforming at Chinese commercial banks jumped 51% from a year earlier to 1.27 trillion yuan by December, the highest level since June 2006, data from the China Banking Regulatory Commission showed on Monday. The ratio of soured debt climbed to 1.67% from 1.25%, while the industry’s bad-loan coverage ratio, a measure of its ability to absorb potential losses, weakened to 181% from more than 200% a year earlier.

The news looks to have scared Chinese authorities into reacting. Note that they aren’t curbing the ability of Chinese banks to lend or asking them to write off bad credit. Instead they’re considering putting aside checks already in place that are aimed at ensuring the health of the financial system: by reducing the ratio of provisions that banks must set aside for bad debt, currently set at a minimum 150%, as Bloomberg News reported on Tuesday.

Perhaps, they’re hoping banks will lend even more if they ease the rules. That’s one way to keep the ratio of nonperforming loans under control. As the denominator increases the ratio remains steady or even drops. The absolute number of bad loans, however, keeps swelling.

Guess what? Banks are lending more. China’s new yuan loans jumpedto a record 2.51 trillion yuan in January, the People’s Bank of China reported on Tuesday, way above the 1.9 trillion yuan median estimate in a Bloomberg News survey. Aggregate financing, the broadest measure of new credit, also rose to a record, at 3.42 trillion yuan.

China’s bad loans have grown 256% in six years even as their ratio to total lending dropped. The true amount of debt that isn’t being repaid is open for debate. One example of how the data can be distorted: Banks are making increasing use of their more opaque receivables accounts to mask loans and potential losses, as Bloomberg News reports today. Still, adding special-mention loans to those classed as nonperforming gives some measure of the size of the bad-debt problem. Unfortunately, the CBRC started to publish special-mention loan numbers only last year, so it’s hard to put them in historical context.

The dynamic is clear. A splurge of new lending can help to dilute existing bad loans, but only at a cost. This is a game that can’t continue forever, particularly if credit is being foisted on to an already over-leveraged and slowing economy. At some point, the music will stop and there will have to be a reckoning. The longer China postpones that, the harder it will be. Bloomberg

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