China's shadow banking crackdown buoys offshore financing market

Moody’s notes that there are limits to how much banks can substitute for lower shadow credit levels.

As China ramps up its deleveraging campaign to rein in risks in the financial services sector, a growing number of lenders have been pivoting towards the offshore market to finance their operations as they shift away from shadow finance to on-balance-sheet financial products, according to a report from Moody’s Investors Service.

"There are limits to which the banks can substitute for the decline in shadow credit, a condition which could result from their own capital and liquidity constraints and underwriting processes more stringent than those of the shadow banking sector," George Xu, a Moody's analyst.

The country’s banking system assets plunged from 16.5% in 2016 to 8.7% in 2017 representing the first drop to single-digit growth in more than a decade, according to a separate report, reflecting the ongoing transition of banks to on-balance-sheet activities like loans.

Also read: China's shadow banking crackdown slows home market

With intensified regulatory scrutiny on shadow credit, banks with weaker credit profiles have been caving under pressure of tight credit costs and elevated financing risks, Xu added, prompting them to turn to offshore alternatives. "Moreover, even though China's banks have stepped up the supply of credit, they will not fully substitute reduced supply from shadow credit." 

Also read: China's RRR cut cushions lenders against impact of shadow banking crackdown

Total shadow banking assets barely grew in 2017, with outstanding assets standing in at $10.27t (RMB65.6t) at the end of 2017 compared with $10.1t (RMB64.5t) in 2016. The country’s Big 4 also witnessed a surge in profitability in 2017 after they posted $30.5b in combined earnings following the widespread portfolio cleanup.