Author: Sunil Jain
Publication: Business Standard
Date: December 8, 2003
The NPA problem of Chinese banks
is well known, but the Zhu Kuan story & a totally different cup of
tea
At a recent seminar on India and
China, Jairam Ramesh of the Congress party asked a senior Chinese banking
functionary about how serious the non-performing assets (NPA) problem was
-while most analysis feel that this is China's Achilles heel, Jairam pointed
out, none of the presentations by the Chinese delegates suggested a sense
of crisis! Not surprisingly, the answergiven by the Chinese official was
really a non-one.
Two sets of information I've seen
since, throw a whole new light on the problem. One is a report by credit
rating firm Fitch, while revising upwards the outlook on Chi-na's long-term
foreign currency ratings from stable to positive in October, and the other,
a news story in the Business Week dated December l.The Fitch report first.
While talking of the very high investment to GDP ratios in the country,
around 46 per cent at the moment, . Fitch uses something called the Hodrick-Prescott
filter to calculate the 'credit gap' in China, and concludes that the credit-to-GDP
ratio is currently around 8 percentage points above the long-term trend,
and so is a leading indicator of an imminent banking crisis in the country-clearly,
with a 8-9 per cent GDP growth, the investment growth is excessive, and
points to large investments yielding sub-optimal returns.
More important, while previous Fitch
analysis (May 2003) argued the Chinese government finances could absorb
the cost of restructuring the banks (in the sense of recapitalising them),
this could run into a problem given the fact that a lot of the new loans
by banks are turning into NPAs as well, and it doesn't help that the loan
growth is currently quite spectacular. With domestic credit growth more
than double the growth in nominal GDP, according to Fitch, a NPA rate of
5 per cent on new loans, for instance, would generate fresh losses equal
to 1.5 per cent of GDP per annum - a 10 per cent new NPA rate would generate
losses of 3 percent of GDP per annum, and so on.
The Business Week story doesn't
talk of the normal type of NPAs, of private sector firms taking a loan
and then not repaying it. What it talks of instead, is of a city-that's
right, a whole city-in southern China that appears to have taken a host
of foreign banks for a ride! Since a very large part of the Chinese investment
boom is really that of various local governments, the city of Zhuhai set
up the Zhu Kuan Group in order to borrow from banks-in turn, land from
the city was transferred to Zhu Kuan, and became the collateral against
which the loans were secured. Money thus raised was used to develop grand
infrastructure projects. With this mechanism, the state borrowed more than
$ 750 million from financial institutions like Standard Chartered, Morgan
Stanley, Lehman Brothers and local banks like the Bank of China (Hong Kong).
By November 1998, Zhu Kuan began defaulting on loans, and by June 2002,
a new agreement was tentatively worked out between the city and the lenders.
What's got the lenders all agitated now, it appears, is that, in July this
year, the city government transferred land worth around $ 1 25 million
out of ZhuKuan's control - in other words, this land can no longer be taken
by the creditors. In August this year, the creditors asked for the company
to be liquidated, through a suit in a Hong Kong court - 17of Zhu Kuan's
5O subsidiaries are located in Hong Kong.
While Zhu Kuan officials deny the
land transfer is asset stripping, Business Week points out that the fight
is being seen as a test of whether the former colony can enforce its standards
on assets controlled by mainland companies- Zhu Kuan has in fact asked
the court to dismiss the case for lack of jurisdiction!
More important, with an independent
legal and regulatory system in China almost non-existent, the Zhu Kuan
episode reflects the serious problems western institutions are likely to
face when the China boom slows down, particularly in cases where government-promoted
firms are the defaulters.
In the Zhu Kuan/Zhuhai case, the
city built all manner of projects that never really paid off. An $ 800
million international airport, for instance, never received Beijing's permission
to land international flights, and so serves fewer passengers in a year
than Hong Kong does in a week. Similarly, good money, probably borrowed
from some western financial institution, was used to develop a Formula
1 high-performance track, but for whatever reason, the Formula 1 approvals
never materialised.
RSM Nelson Wheeler, which has been
appointed by the Hong Kong court as the provisional liquidators told Business
Week that Zhuhai authorities were not making company records and public
documents available-part of the shares of Zhu Kuan's Hong Kong listed arm
were, for instance, transferred to a company outside the control of the
group, a company which is controlled by the Zhuhai municipal government!
When the liquidators petitioned the Zhuhai Intermediate People's Court
for an administrative review of the land confiscation, the court demanded
a $ 1.2 million fee-the customary fee Business Week was told by Zhu Kuan's
creditors, is $ 12!
What's the moral of the story? The
easy one, especially for an Indian, is to say this shows India is a lot
more stable than China as far as investments are concerned-of course, US
investors like Enron and GE who put in money into the Dab-hoi power plant
will question such an assertion (see 'Rex is Lex', September 15). But two
points are obvious. With the country's growth future somewhat perilous,
it's unlikely the Communist rulers will loosen their grip any time in the
near future. More important, with so much asset creation, and a lot of
which is dearly sub-optimal, China will have to continue to grow at an
even faster pace if it is to service the debts assumed along the way. That
also means China's export drive just cannot falter. Whether that is possible
with increased US-China trade tension, and powerful US pressure for China
to revalue its currency, is something worth paying serious thought to.
What does this say of the future ? It's difficult to say, but I'd go along
with the old Chinese saying: it's very difficult to prophesy, especially
about the future!
