Samah El-Shahat, Al Jazeera’s resident economist: “China puts people before banks”
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There has been a lot of talk about China saving the world in the “Western” press. I think China increasing internal consumptions is going to dampen the U.S. trade deficit with her, and beyond continuing to help pull along other developing countries who were already reliant on her in the past, China is not going to be able to fix the mess that exists in the developed countries in the near future. She continues to loan to the U.S., but that’s only a measure to avoid collapse of the USD – which is the interest of both countries.
Samah El-Shahat, an Al Jazeera resident economist wrote, China puts people before banks. It amazes me that the financial industry in the U.S. is essentially allowed a free pass on the destruction of so much of its citizens wealth. Could we agree the Chinese government is perhaps doing something savvy for its people?
Samah El-Shahat, Al Jazeera’s resident economist, writes a regular column analysing key elements that have contributed to the global financial downturn and its impact across the world.
China hasn’t allowed its banking sector to become so powerful
The one question that isn’t going away this global recession, is whether China can save the world.
But before we go running to Beijing, hat in hand, demanding assistance or else, there are some home truths that need to be considered first.
China is a developing country, with a per capita income of $4,000, which is much closer to those of African economies than to the US per capita income at $39,000, and $33,000 in Europe.
China has 130 million people who still live in absolute poverty, and even electricity hasn’t made it every household yet.
So why should China be asked to save anyone but itself right now?
China: Special Report
In fact, as Michael Pettis, a professor at Peking University’s Guanghua School of Management says, China’s consumption was about the equivalent of France’s last year, but no one is calling on Paris to save the world.
The crisis, though, has exposed and clearly magnified the fault lines in China’s emerging economy of 1.3 billion people.
The Asian giant needs to nurture its own domestic demand, so that when the export market goes sick, like it has in this Great Recession, it doesn’t drag China down with it.
But making her people spend more than they save is harder said than done. After all, less than a generation ago the Chinese were so poor that hunger was the accepted norm in their daily lives.
Tiger has risen
Speak to Chinese officials in their late 40s onward and they will tell you that thinking about food was a major preoccupation as they were growing up – it was so scarce and many had to collect food coupons.
Yes, this Asian tiger has risen despite a recent past of malnutrition. So getting the Chinese to move away from the “survivors'” mentality of savers to one of spenders will not be easy.
Economists believe it takes a whole generation before people can change their ways and habits. But such a change can be overwhelmingly helped by the establishment of social welfare and safety nets such as health care provision, and other forms of social security.
This might encourage the Chinese to loosen their purse strings.
So why do we assume China can save the global economy?
Is this not a warped sense of economic prioritising to ask a developing country with pressing economic and social problems of its own to come in and sacrifice herself for the rest of the world?
Lending the US
This could have something to do with China’s $2tn in denominated securities, and bonds it has acquired from the US. It is after all the US’s biggest lender.
Yet, take that two trillion-dollar sum and divide it by 1.3 billion – the Chinese population – and I assure you not much would be left for your average Chinese citizen.
However, I feel this basic misunderstanding of China and her position in the world, has to do with our negative bias toward that country – we are much tougher and harder when it comes to the way we report our economic stories on China.
We are not telling enough stories of how we can in fact learn from China, particularly in the way its keeps the power of its banks in check.
Something we have been unable to do.
China is the one leading economy where the divide – the disconnect between its financial sector and the world normal Chinese people and their businesses inhabit – doesn’t exist.
Both worlds are booming again and this is due to the way the government handled its banks.
China hasn’t allowed its banking sector to become so powerful, so influential, and so big that it can call the shots or highjack the bailout.
In simple terms, the government preferred to answer to its people and put their interests first before that of any vested interest or group.
And that is why Chinese banks are lending to the people and their businesses in record numbers. Why don’t we hear more about that in the media?
Different planets
In the UK and US, the financial sector is booming, while the world of normal people seems to be going from bad to worse, unemployment is high, businesses are folding and house foreclosures are still taking place.
Wall Street and Main Street might as well be existing on different planets.
And this is in large part because banks are still not lending money to the people.
In the UK and US, banks have captured all the money from the taxpayers and the cheap money from quantitative easing from central banks.
They are using it to shore up, and clean up their balance sheets rather than lend it to the people.
The money has been hijacked by the banks, and our governments are doing absolutely nothing about that. In fact, they have been complicit in allowing this to happen.
I asked Costas Lapavitas from the School of Oriental and African Studies (SOAS) whether governments had put the interests of banks before the interests of their wider populations.
“Yes I think you can say that. I think governments will probably come out and say that we helped rescue the banks, and we prevented generalised collapse. And to a certain extent that is true of course,” he said.
“However there were so many ways in which banks could have been rescued and this particular way has been done in such a way that the banks have no incentive to change the ways they operate … It is as if the banks have written the policies that the state adopted.”
Interests of shareholders
The US and British governments have allowed banks to solve their own crises in the interests of their own mangers, and shareholders – they are after all private business.
Governments should have made it conditional for banks to lend to us, before they are given access to so much of our money and the Federal Reserve’s cheap credit.
So the Western hemisphere is suffering the consequences of government failure, while the Asian Giant is celebrating government getting it right.
Funny, how our seemingly democratic governments have been taken over by vested interests.
So, lay off China. It is the one country that is putting the interests of its people above that of the banks.
And in these pressing times I say Hallelujah to that.
Samah El-Shahat also presents Al Jazeera’s People & Power programme.
The views expressed in the above column are the author’s own and do not necessarily reflect Al Jazeera’s editorial policy.
There are currently 4 comments highlighted: 45429, 45543, 45645, 45725.
August 14th, 2009 at 1:23 pm
ad And that is why Chinese banks are lending to the people and their businesses in record numbers.
see
At the end of 2008, the percentage of loans to private companies among banks’ total short-term lending was only 3.37%, and this number fell even lower in January and February of 2009.
http://www.chinastakes.com/2009/8/china-stimulus-plan-criticized-for-crowding-out-private-sector.html
August 14th, 2009 at 5:05 pm
The article is awful for a number of reasons, but the first that came to mind is that the author implies she is making an original comment. In fact she’s nearly a year late (at the least).
So why do we assume China can save the global economy?
Who is “we”, Samah? I don’t. You clearly don’t. A horde of other European and American economists don’t. Who do you quote saying “China can save the world if only it tries”, or something to that effect? Erm, no one that I can see. So where do you get it from? There was a desperate hope held by some that China might be able to do something, but no universal expectation.
Even last year people were saying China couldn’t save the world.
http://business.timesonline.co.uk/tol/business/economics/article4912632.ece
There have been no demands of China to “save” the world at the expense of Chinese people. There have been calls for China to consume more and save less, but at the same time many people have said America and Europe needs to save more and consume less. Other points suggested are about China reforming its economy in a way that would benefit and the rest of the world in the long-run. But majority opinion does not say China can bring immediate relief for other countries.
China hasn’t allowed its banking sector to become so powerful, so influential, and so big that it can call the shots or highjack the bailout.
No, China has stopped its banking sector gaining proper independence from State control. There’s a difference. If you support banking independence, you have to accept the banks won’t dance to the tune of politicians. Where do you stand on that matter, Samah? Do you support State control of the banking sector?
In the UK and US, the financial sector is booming, while the world of normal people seems to be going from bad to worse, unemployment is high, businesses are folding and house foreclosures are still taking place.
What planet is she living on? In the UK the financial sector is still trying to recover. There are positive signs, but they’re hardly booming! Besides, if they started booming again it would be great – they employ real people. Does Samah El-Shahat think they hire robots or something?
I asked Costas Lapavitas from the School of Oriental and African Studies (SOAS) whether governments had put the interests of banks before the interests of their wider populations.
Interesting, I thought I’d have a look at what this guy teaches.
Courses Taught
* Financial Systems And Economic Development
* Marxist Political Economy And Global Development
* Marxist Political Economy And World Development
I’m not sure what the point of talking to people who would appear to be so partisan on the matter is, other than getting the answer you want.
Governments should have made it conditional for banks to lend to us, before they are given access to so much of our money and the Federal Reserve’s cheap credit.
How do you tell the banks that they must lend? By saying, “you must lend to Mr and Mrs Jones of Newcastle, Mr Smith of Chester……”? Obviously that won’t work. Or “you must increase lending by 10%”? What if banks don’t get a 10% increase of reliable customers? They have to lend to the same sort of people who caused them to accumulate the bad debt in the first place? Samah, you’re insisting governments do something that they can’t without encouraging the same sort of irresponsible behaviour that got us into this mess.
The banks played their role in the financial crisis, but so did politicians. Greenspan did it by keeping interest rates low. Congress did it by allowing Fanny Mae and Freddy Mac to gobble up all the good business with State subsidies, forcing the opposition to go after shaky deals. Gordon Brown did it by openly calling for bankers to take risks and banks to give mortgages of over 100% of the value of properties. They were all silent when the financial industry was getting it wrong because they were getting lots of tax on the bonuses and salaries being handed out. Why should that industry listen to them now? It’s going to play it safe.
There are doubtlessly things to learn from China, but I’m not sure what we’re supposed to learn in regard to the financial industry. As far as I understand it Chinese banks are lending in the fashion that they are because they weren’t hit as hard by the lack of credit moving around the international system, confidence in the Chinese economy has recovered faster than it has in America or Europe and the government is using its considerable power over the banks to keep things flowing. Whether the last decision is a good one to make depends on who they’re lending to, but we might not know the answer to that for a long time.
I would have enjoyed reading an article setting out what it is that China has arguably done better with its banks, but I see no figures on how to assess whether it’s easier to get a loan in China than elsewhere, no discussion of what controls or conditions the Chinese government placed on the banks, etc. All I see is a populist drone about how the US and UK governments aren’t doing enough.
August 15th, 2009 at 9:10 am
Yes, the trolls are out everytime someone posts anything with a semblance of putting china in a positive light.
Having been close to the center of the near, and still possible, crisis, I find the gist of her article more accurate than most reporting of the issues involved.
I find the attempts to discredit her logic laughable. One argues that no one expects china to save the world because people already argued that china wasn’t going to save the world. Well if no one really expects china to save the world, why did they have to issue arguments against it in the first place? Not that I think china intends to save the world – just pointing out the cheap faulty logic some use.
August 15th, 2009 at 9:26 am
colin, given I’m the only person to criticise the article so far you’re clearly talking about me. I’ll remind you of the conduct rules that prohibit childish things like name-calling. That said it’s rather amusing to think you believe you can avoid them simply by not naming the person you’re directing the comment towards. 😀
anything with a semblance of putting china in a positive light
Quite the opposite. I’d love to know what it is that the Chinese government is doing differently.Just saying “the banks are lending more” is not helpful at all because it makes no commentary on that actions the government has taken.
Well if no one really expects china to save the world, why did they have to issue arguments against it in the first place?
It seems you didn’t read my post properly (not that I’m surprised). I said that some people were hoping out of desperation that China might. There was no wide-spread expectation.
August 15th, 2009 at 10:36 am
To say that China is putting its people before the banks is even sillier than the many points Raj has listed. Chinese banks never lended to small businesses but only to state-owned enterprises and large corporations controlled by senior party members. And worse, they keeping interest rates on deposit much lower than they should be, and this makes a very high but hidden tax on millions of Chinese people who are struggling and who must save a lot of what they earn because of terrible health care system. Except powerful Chinese most people have no legal way to save except by depositing money in the bank. This “tax” is for subsidize funding costs for large corporations and ensure very high profits for banks, who waste billions on bad loans to business men whose familes have good political connections.
The whole financial system is a way to transfer money from workers to powerful people, and it is no secret, and also it is no surprise, that in the past two decades China has one of the least unequal income distributions in the world to become one of the most unequal.
You disparage warnings about the banking system by saying they are “Western” media. This is a cheap debating trick. Western media say stupidly optimistic things about China as much as they criticize, and more importantly, many of these same arguments were being made by important Chinese economists, who you insult by pretending they are too stupid to see reality unless it is explained to them by Westerners.
Stop throwing away criticisms by saying they are Western. Maybe if they are Western they are even right, and maybe they are also criticisms by Chinese. If you want something good for China, you should wish that the banking system changes compeltely.
August 15th, 2009 at 10:17 pm
At least Chinese government isn’t lending taxpayer’s money to banks which Western nations has done.
At least Chinese government isn’t into corporate fascism than Western nations.
August 16th, 2009 at 12:13 am
@ Jason: Actually, China has used federal money in government owned banks to cover bad loans. I’m not criticizing it, I think it was necessary at the time. Currently the government has pumped in a lot of liquidity to increase spending and create jobs.
August 16th, 2009 at 6:41 am
Hi Guys,
Like colin, I was surprised a bit to see the meaty response from Raj. 🙂
Hi LiW, #5,
Thx for chiming in.
“Chinese banks never lended to small businesses but only to state-owned enterprises and large corporations controlled by senior party members.”
I am curious how you came to this conclusion. I would agree with you it was true prior to China joining WTO before massive privatization started. You saying that is true still?
Also, we are not talking about private individuals – its obvious the banks are lending to people so they can buy homes.
A good friend of mine recently got a 500k RMB loan for his company. He is not state owned. I read in Business Week maybe a year or two ago where they wrote China’s GPD was now made up 70% by private sector. How was that possible without banks lending private companies?
August 16th, 2009 at 7:57 am
Huaren, just look at banks balance sheets. It is not a secret. Loans to consumers and SMEs is each less than 10%, and small businesses complained many times that they cannot get money from banks. They must fund themselves from retained earnings. Also China’s GDP is less than 70% private sector because many “private” companies, like banks, and almost all large companies, are state-controlled even if they have stocks owned by investors.
But the question we are asking is not how much GDP is private. The question is how much lending is to private companies, and even if SOEs only make 30% of GDP, they get 70% of loans (and 50% of workers). Other large private firms that are really state controlled get much of the rest. Look at the PBoC statistics on the website. And maybe your friend isn’t state-owned, but 500k RMB is not a serious share of banking market.
Jason, after huge losses in late 1990s and early 2000s the government gave billions of taxpayer money to banks. They also forced households to earn very low interest, which is a very high tax.
Colin, Raj is right to criticize these numbers. It is not because they are favorable to China but because they are not true. We don’t need foreigners to help by saying nice things that are not true as if Chinese are children. This is not being friendly to China, it is just Westerners orientalism, but a more fashionable style than the old style. True numbers and correct analysis are much better.
August 16th, 2009 at 10:31 am
“How was that possible without banks lending private companies?”
foreign investment?
August 16th, 2009 at 8:24 pm
@ Steve and @ LiW
Just a few terminologies:
Socialism: Chinese govt pumping taxpayer money to GOVT-owned banks
corporate fascism: Western govt pumping taxpayer money to COMMERCIAL banks.
August 17th, 2009 at 2:02 am
@ Jason: Both Chinese and western countries are engaged in different types of corporatism. Both are pumping tax money into banks to cover bad loans, regardless of who owns the banks. The biggest difference is that most western countries are having to borrow the liquidity while China has no need to borrow. It’s not socialism and it’s not corporate fascism. Socialism covers a much broader range of issues and uses an egalitarian method of compensation while corporate fascism is far more totalitarian and is not limited simply to the banking industry.
August 17th, 2009 at 6:21 pm
Samah’s essay (it is an opinion piece, not reportage, so it is clearly meant to present a particular point of view) is not as bad as Raj and LiW make it out to be.
Samah offers a simplistic view of things, but that is not necessarily a bad thing. Comparisons of banking policy get mind numbingly turgid when expressed in systematic detail. Her objective is to offer her observations and conclusions, which are not far off the mark so long as you recognize the ideology that accompanies it; at the same time, criticisms such as those posed by Raj and LiW are also simplistic and express their own ideology and assumptions. This is not to say Raj and LiW’s views are bad – blog comments are of course going to be simplistic – but they have their perspectives.
Because Samah’s view is rarely expressed in popular English-language media (it is Al-Jazeera after all!) I think we owe it some attention to give it the best reading possible (and then one can criticize that view, rather than knocking down side arguments that don’t get at the main point).
Her central point is that in China, banking policy supports the interests of “the people” rather than the narrower interests seen in the recent global meltdown: the shareholders of the banking enterprises, or even more narrowly, certain well-compensated employees thereof.
The comments made by LiW seems to suggest that because bank lending is concentrated in the SOE sector rather than private borrowers, Samah’s conclusions are false; that only by lending to private borrowers would banks help “the people”, since keeping the SOE sector alive keeps the present government and Party in power.
I disagree.
Some commentators of the right-wing variety will use terms like “dinosaurs”, “bleeding red ink”, “bloated”, “inefficient”, “moribund”, and “wasteful” to describe these SOEs. These criticisms are accurate to some degree. But SOE’s also still employ a lot of people and support vast numbers of communities throughout China. Think hundreds of GM’s, Chryslers and Fords scattered across China. China’s social welfare “safety net” for many people are the wages and benefits provided by SOEs. If the SOEs were not supported by bank lending against the cruel vissisitudes of the marketplace, many ordinary people would suffer.
Right-wing commentators will often favor “shock treatment” for SOE reform. They think SOEs should lay off all their excess workers, then open their assets up for private and foreign investment. The results however are assets transferred at fire-sale prices, resulting in a massive transfer of wealth to private hands. Russia’s oligarchs were the result of the USSR collapse. Lots of money was made by small numbers of people. The fact that communities throughout Russia were destroyed overnight, leading to widespread poverty and hardship, was the inevitable and even welcome “creative destruction” that went along with the shock treatment.
But the human damage was incalculable. All those Russian women driven to prostitution around the world and the exponential growth of organized crime of the “Russian Mafia” variety were wholly-predictable results of this sudden withdrawal of the state sector economy. (See http://www.thefreelibrary.com/New+markets+expanding+for+dirty+businesses.-a0196440992)
For example, in 2002, the International Organization for Migration estimated that over 100,000 Russian women were trafficked for prostitution in 1997 alone. The IOM wrote: “Moreover, with the downturn in financial and economic conditions that has occurred over the last decade throughout Russia and the former Soviet republics, there are more and more children and women who are too vulnerable, too uninformed, or too desperate to prevent themselves from falling prey to the sex industry. Many of them then discover that, once they have become a part of this trade, it is almost impossible to be extricated. Many women have few choices because they have become impoverished and find themselves devoid of options for jobs or means of survival. This is the plight of many women in poor rural and remote areas in Russia or those attempting to survive urban poverty.” (See http://www.uri.edu/artsci/wms/hughes/russia.pdf).
Given the dire consequences of sudden collapse of the state-owned sector, China’s government has chosen to adopt a more gradualist approach, seeking to reform the SOE sector by making it more efficient and productive. Market forces are allowed to play a role in setting prices, private capital is allowed in to share risk and play a role in management, and more flexibility is given in hiring and firing. However, the focus overall remains job creation and achieving full employment (or at least low unemployment).
This overarching policy goal plays out in China’s banking policy, as the following passage from a recentUniversity of Chicago Graduate School of Business research paper observes:
“At least three indicators suggest continued government influence on bank operations: ongoing concern about absorbing surplus labor, high rates of government and enterprise investment undertaken in part to create jobs, and ongoing SOE restructuring.”
“Employment creation to absorb surplus labor is a major priority. Urban job creation has managed to keep up with new entrants, migrants, and layoffs from SOEs through flexible labor market policies, enterprise transformation, remarkable openness to trade and direct investment, and massive investment projects in manufacturing enterprises, infrastructure, and real estate construction projects, particularly in the coastal provinces. [Nicholas] Lardy argues that the lending and investment booms of 2003 were triggered in part because “the new leadership that assumed political power…in 2002 appears determined to sustain China’s rapid economic growth, and, if possible, to increase the pace of job creation compared to their predecessors. They were strongly supported by local government and [Communist] party officials who shared those goals.”
(See: Dobson and Kashyap, “The Contradiction in China’s Gradualist Banking Reforms”, University of Chicago Graduate School of Business Research Paper No. 08-07, http://ssrn.com/abstract=1193362)
***********
Now, here we see a clear distinction between banking policy in China and countries like the U.S.: In China (as noted above), banking policy is aimed to promote employment and SOE restructuring.
In the U.S., banking regulation is aimed (among other things) to produce “safety and soundness” of the banking system and availability of credit which is understood to promote business; profit-making by bank shareholders is balanced against the need to make expenditures for such “safety and soundness” mechanisms and deposit insurance. Capital adequacy standards are enforced (even at the expense of profitability) to keep risks in line. The CRA (Community Reinvestment Act) layers on a gloss of local community support. But yet, the pursuit of profitability through complex financial products and securitizations with inadequate regulatory oversight of systemic risks (and in an environment of easy money) led to massive losses and destruction of bank capital, resulting in a need for the government to inject capital and provide liquidity.
For the man-on-the-street, having a government that forces banks to help government-owned businesses create jobs seems like not such a bad thing. If I was out of work, and I got a job that way, I won’t complain about the long-run inefficiencies inherent in this approach. After all, I gotta eat. It is not incorrect for Samah to thereby conclude that in China, the government forces banks to serve “the People”.
Perhaps there will come a time when China’s economy is more mature that banks will not be given such direct lending requirements; the paper cited above advocates for such approach sooner rather than later. However, given the enormity of China’s task of reforming its economy and the as yet low level of its overall wealth (not yet even the 100th wealthiest country in per capital income), I suspect it will be several decades before China’s commercial banks are completely freed from its burden to wei ren min fu wu (“serve the People”)!
August 17th, 2009 at 7:34 pm
@ perspectivehere #13: Thank you for providing such a thorough analysis of the banking situation in China. Al Jazeera ought to think about giving you a column.
August 17th, 2009 at 8:48 pm
Hi Perspectivehere, #13,
Excellent post.
I like your summary as well.
August 18th, 2009 at 2:07 am
Who is to say that China won’t put people before its banks? Afterall, the honchos at the CPC made it perfectly clear two years ago China’s economy MUST grow at all costs (at the time I think 8% annual growth in GDP was mentioned), or else people would revolt and over throw the government.
The reason why the world has a lot of hope in China is because China with its centralized economy can do what other pure capitalist nations cannot – Force the state owned corporations to spend even in the face of a economic downturn. US and Europe on the other hand, can only lower the interest rates and HOPE that businesses will reinvest.
August 18th, 2009 at 3:09 am
“The whole financial system is a way to transfer money from workers to powerful people,…”
By saying the above, LiW showed that he didnt know what he was talking about.
Do I have to use India as counter-example compared to China again ?
In Russia, under Yeltsin, Russia plunged deep into debt plus dozens of billionaires + hundreds of billion dollars of black money in swiss bank. After Putin took over, Russia was able to pay back all the debt and extra 200 billion dollar savings which helped Russia during this financial crisis.
August 18th, 2009 at 7:36 am
“Who is to say that China won’t put people before its banks?”
was it different in usa in case of easy housing loans and ineffective car industry?
i think world will be satisfied enough with china survive present crisis (fall of export markets, foreign investment and related private industry troubles) alone
August 18th, 2009 at 1:43 pm
Perspective looks at my second entry, which is a specific response to huaren’s question, and concludes it is my main point supporting the claim that the banks do not support the people. It is not. I said in the first posting:
And worse, they keeping interest rates on deposit much lower than they should be, and this makes a very high but hidden tax on millions of Chinese people who are struggling and who must save a lot of what they earn because of terrible health care system. Except powerful Chinese most people have no legal way to save except by depositing money in the bank. This “tax” is for subsidize funding costs for large corporations and ensure very high profits for banks, who waste billions on bad loans to business men whose familes have good political connections. The whole financial system is a way to transfer money from workers to powerful people, and it is no secret, and also it is no surprise, that in the past two decades China has one of the least unequal income distributions in the world to become one of the most unequal.
August 18th, 2009 at 5:04 pm
LiW @#19 makes some very good points. I will try to respond to them individually.
“And worse, they keeping interest rates on deposit much lower than they should be,…”
LiW is partly correct. That is to say, China banking regulations provide for a ceiling on interest rates paid on RMB deposits – they can be no higher than the Central Bank’s base rate for RMB deposits. See for example, http://www.hsbc.com.cn/1/2/misc/customernotice.
If such regulations did not exist, some banks would presumably offer higher interest rates to depositors as a way to compete, and presumably, retail depositors would, all else being equal, move their savings to those banks to earn a higher rate of interest.
Those banks that paid higher interest rates would then look for higher yielding investments in order to pay the higher interest rates on those deposits. All else being equal, in an efficient market, the higher yielding investments would be higher risk than safer, lower-yielding investments. If banks were free to make investments in higher-yielding securities, they might choose to invest in junk bonds instead of government bonds or high quality corporate bonds. Or (as many did in the most recent crisis) they might choose to invest in securities backed by a portfolio of sub-prime mortgages. Or they may choose to lend to real estate developers, where the riskiest projects would offer the highest loan rates. The need to pay a market rate of interest for their funding will drive some banks to seek the riskiest investments. When economies turn south, financial crises result as banks are unable to recover on their investments, and depositors flee in classic bank runs. This has happened so many times around the world – from the U.S. S&L crisis in the 1980’s, to Latin America, to Asia in 97, that it should be a familiar story by now.
When I was younger in the U.S., I remember radio ads for savings banks would always say “we pay the highest interest rates permitted by law.” Yes, there was a time in recent memory when the U.S. limited bank deposit rates. Then money market accounts came on the scene (pioneered by Merrill Lynch – a securities firm, not a bank!) that functioned like savings accounts, offered checking services, but paid higher interest rates than banks, because Merrill was not regulated as a bank in the Glass-Stegall days. Soon the banking industry complained, and Congress accommodated their demands for a “level-playing field” with the securities industry by allowing banks to pay market rates of interests. Banks started playing a game of attracting “hot money” by offering “jumbo CDs” through CD brokers around the country. No-name banks would offer high interest rates to depositors around the country, and then invest those funds into junk bonds popularized by Michael Milken at Drexel and risky real estate projects. By the end of the 1980’s, more than 700 financial institutions failed in the U.S., and the U.S. taxpayer had to foot the bill at over $100 billion to bail out these institutions (and protect depositors).
See a timeline here: http://www.fdic.gov/bank/Historical/s&l/
Or just Google “savings and loan crisis” and you should find lots of interesting history to learn from. Pay close attention to stories like the Silverado S&L, which involved Bush family members and taxpayer bailouts.
Your point is that the interest rate is lower than it “should’ be. I disagree. Like speed limits, China’s banking authorities have an interest in limiting interest rates to a level where they will not lead to ruinous competition among a banking sector which is still relatively immature and have weak risk management controls (like the S&L’s). Basically, one could say that the U.S. deregulated interest rates before the S&Ls were ready to face the competition. The special role of banks makes their failure much more devastating to an economy than the failure of, say, a clothing retailer; the negative externalities of their failures are much higher.
So I think a more transparent statement from you should be “the Chinese banking authorities keep the interest rates on deposit lower than they would be if deposit rates were deregulated and banks were free to pay a market rate of interest. They claim to do so for prudential reasons given the immaturity of the banking sector; however, I believe that the banking authorities should let the market set its own level; any resulting bank failures are an unfortunate but necessary part of the adjustment to a full market-based economy.”
You wrote “…and this makes a very high but hidden tax on millions of Chinese people who are struggling and who must save a lot of what they earn because of terrible health care system.”
As I mentioned above, in the U.S. the taxpayer eventually had to foot the bill for over $100 billion to bail out the S&L’s. Now I wonder – is it better for the U.S. public to have received lower, regulated rates of interest on its deposits (and suffered a hidden tax of their savings) but not have suffered the visible tax burden from the S&L bailout, or to have gone through what they did go through?
I think the “hidden tax”, while lamentable, is much more prudent way of managing a banking system – but that’s just my opinion.
“Except powerful Chinese most people have no legal way to save except by depositing money in the bank.”
Let’s see, where to begin. I think the first point is to take note that China has over 300 million middle class Chinese. Where did they come from if they had “no legal way to save”? You don’t just conjour up 300 million people nowhere – they must have somewhere to put and build their savings. And the 300 million came about in the span of 30 years. 30 years! Even the U.S. does not have 300 million middle-class people. So you need a reality check.
Second, you are talking about financial instruments, and the dearth of variety to choose from. But hang on, what about government bonds? They are safe investments. The interest rate is low, but they are rock solid – sort of like treasury securities in the U.S. And what about the stock exchanges? If you can stomach the volatility, there are substantial returns to be had, if you don’t lose your shirt first. Then again, they can invest in the stock market the way retail investors do elsewhere – mutual funds. These have been around for almost 10 years: http://www.businessweek.com/magazine/content/01_51/b3762171.htm
Outside of the financial markets, there is the most common investment available: real estate. This has been one of the most important form of savings. Banks have done their part to make housing loans. For example, CCB claims to have made more than RMB 850 billion in housing loans: http://www.ccb.com/en/personal/20090616_1245116755.html
Then there is insurance. Insurance policies are an important form of savings in China as elsewhere.
So I think you are wrong when you say that Chinese have no way to save. The Chinese are well-known as prodigious savers. They must be doing it somehow.
You wrote:
“This “tax” is for subsidize funding costs for large corporations and ensure very high profits for banks, who waste billions on bad loans to business men whose familes have good political connections.”
Hmmm. Hard to comment. There is a lot of truth in what you write. As mentioned above, banking policies are intended to fund SOEs more cheaply, but the objective is to help them stay in business (and employ workers) while restructuring. “Ensure very high profits for banks” is another way of saying “keep them from incurring losses and going under”. “Waste billions on bad loans to business men whose families have good political connections” – I can’t argue with you on this one, except to note that this happens in outside of China as well, so it’s not clear that “regulated low interest rates” are intended to permit fraudulent loans to well-connected businesspeople, but rather that “well-connected” people everywhere know how to milk the system for their benefit.
“The whole financial system is a way to transfer money from workers to powerful people, and it is no secret, and also it is no surprise, that in the past two decades China has one of the least unequal income distributions in the world to become one of the most unequal.”
Uh, there’s a lot of people around the world right now who think “the financial system is a way to transfer money from workers to powerful people.” As mentioned in my first post, the policies in China appear to be directed towards job maintenance and creation by SOEs. If it bothers you that managers of SOEs are “powerful” and “connected to the government”, then you will never be satisfied because by definition, the managers of SOEs will be powerful and connected to the government.
As for the inequality of income, it is the current regulatory structure and taxation system that attempts to redistribute the income of those who are “getting rich first”. The system does not work well, but every day you hear reports of how enforcement is getting stricter. I think too that the Wen-Hu administration is more focused on redistribution and on “sharing the wealth” with those who have been left behind by the economic progress of the past 30 years. It is a work in progress, no question there.
August 18th, 2009 at 5:31 pm
Further to my response to LiW’s point that low regulated interest rates in China constitutes a “tax for subsidiz[ing] funding costs for large corporations and ensure very high profits for banks, who waste billions on bad loans to business men whose familes have good political connections”, I want to cite this article about Neil Bush from the Austin Chronicle.
http://www.austinchronicle.com/gyrobase/Issue/story?oid=oid%3A81085
There is no question that banks are often used as a mechanism to benefit those with connections. Actually, any form of financial concentration can be used to confer benefits to the politically well-connected. (That is the point of politics, isn’t it? To profit from one’s powerful position? Why else would people go into politics anyway – to serve others?) It’s hard to see how one can say that China’s banking policies foster this phenomenon more than elsewhere in the world.
August 18th, 2009 at 9:10 pm
@ perspectivehere #20: I don’t know much about economics and had a few questions after reading your post that I wonder if you could answer…
You talk about banks investing in riskier loans in order to make higher profits and attract shareholders. Weren’t some of the investment options created by firms in the US super risky? I had read somewhere that they were basically mirrors of real assets so the original value was extended; I think they are called derivatives. Why would any government allow what is essentially a pyramid scheme? If the value of the original asset collapses (which it did) then a value far beyond the loss would be incurred. If China did not allow ultra speculative investments such as this, would that allow them to open up the market?
“Except powerful Chinese most people have no legal way to save except by depositing money in the bank.”
Let’s see, where to begin. I think the first point is to take note that China has over 300 million middle class Chinese. Where did they come from if they had “no legal way to save”? You don’t just conjour up 300 million people nowhere – they must have somewhere to put and build their savings. And the 300 million came about in the span of 30 years. 30 years! Even the U.S. does not have 300 million middle-class people. So you need a reality check.
Didn’t they mostly put their savings into the bank and rather than earn much in interest, their savings represents the value of the principal saved? Is it possible they put it there but it didn’t build much, and that is the complaint?
I had heard for years that whole life insurance policies, by hiding the true interest within the cost for insurance, usually offer a pretty low rate of return. Is that true? How can the Chinese investor insure he is getting a reasonable rate of return on his insurance policy if the rate is hidden?
My last question concerned the alternative for Chinese investors to putting their money into bank savings accounts. Isn’t quite a bit of the lent money, including much of the economic stimulus, going into the real estate and stock markets? Both have rebounded strongly since the accelerated lending began so I worry about the danger of a bubble in both markets. If that indeed happens, then won’t the loss to the economy be just as great as any other bad investment?
Thanks in advance for answering my questions!
August 19th, 2009 at 6:57 am
the central bank’s extremely loose monetary policy is leading to new imbalances in the system. Many state-owned enterprises have put the great sums they borrowed into the real estate and stock markets seeking big returns, but also driving prices up to unrealistic levels
http://www.chinastakes.com/2009/8/china-risks-second-contraction-deflation-and-bursting-bubbles.html
August 19th, 2009 at 7:46 am
More food for thought – I learned of this article through Chan. I’d encourage you guys to read the comments at the end of that article – just follow the link.
http://www.huffingtonpost.com/ellen-brown/chinas-miracle-economy-ha_b_260409.html
“China’s Miracle Economy: Have the Chinese Become the World’s Greatest Capitalists?”
Ellen BrownAuthor, “Web of Debt”
Posted: August 17, 2009 03:27 PM
“I don’t care if it’s a white cat or a black cat. It’s a good cat so long as it catches mice.” — Deng Xiaoping, who opened China to foreign investment after 1978
China is being called a “miracle economy.” It seems to have decoupled from the rest of the world, preserving an 8% growth rate while the rest of the world sinks into the worst recession since the 1930s. How is that phenomenal growth rate possible, when other countries relying heavily on exports have suffered major downturns and remain in the doldrums? Economist Richard Wolff skeptically observes:
We now have a situation in the world where we have a global capitalist crisis. Everywhere, consumption is down. Everywhere, people are buying fewer goods, including goods from China. How is it possible that in that society, so dependent on the world economy, they could now have an explosive growth? Their stock market is now 100 percent higher than at its low — nothing remotely like that hardly anywhere in the world, certainly not in the United States or Europe. How is that possible? In order to believe what the Chinese are saying, you would have to agree that in a matter of months, at most a year, no more, they have been able to transform their economy from an export-based powerhouse to a domestically focused industrial engine. Nowhere in the world has that ever taken less than decades.
Perhaps, and the United States has certainly failed to pull that result off with its own stimulus plan; but there is a notable difference between its stimulus plan and China’s. What Wolff calls a “global capitalist crisis” is actually a credit crisis; and in China, unlike in the U.S., credit has been flowing freely again to businesses and industry. State-owned banks have massively increased lending, with local governments and state enterprises borrowing on a huge scale. The People’s Bank of China estimates that total loans for the first half of 2009 were $1.08 trillion, 50% more than the amount of loans Chinese banks issued in all of 2008. The U.S. Federal Reserve has also engaged in record levels of lending, but its loans have gone chiefly to bail out the financial sector itself, leaving Main Street high and dry.
The Secret of China’s Success
Samah El-Shahat is a presenter for Al Jazeera English who has a doctorate in developmental economics from the University of London. In an August 10 article titled “China Puts People Before Banks,” she writes:
China is the one leading economy where the divide — the disconnect between its financial sector and the world normal Chinese people and their businesses inhabit — doesn’t exist. Both worlds are booming again and this is due to the way the government handled its banks. China hasn’t allowed its banking sector to become so powerful, so influential, and so big that it can call the shots or highjack the bailout. In simple terms, the government preferred to answer to its people and put their interests first before that of any vested interest or group. And that is why Chinese banks are lending to the people and their businesses in record numbers.
In the U.S. and the U.K., by contrast:
[T]he financial sector is booming, while the world of normal people seems to be going from bad to worse, unemployment is high, businesses are folding and house foreclosures are still taking place. Wall Street and Main Street might as well be existing on different planets. And this is in large part because banks are still not lending money to the people. In the UK and US, banks have captured all the money from the taxpayers and the cheap money from quantitative easing from central banks. They are using it to shore up, and clean up their balance sheets rather than lend it to the people. The money has been hijacked by the banks, and our governments are doing absolutely nothing about that. In fact, they have been complicit in allowing this to happen.
Cracks in the Dike?
The Chinese economy is not perfect. Chinese workers are now complaining of too much capitalism, since they are having to pay for housing, health care and higher education formerly picked up by the State. The push to make profits, particularly from foreign investment capital, has encouraged speculative ventures, with a great deal of money going into high-rise apartments and other real estate developments that most people cannot afford. And state-owned businesses and large corporations are still getting most of the loans, because the banks have been told to tighten their lending standards, and these larger entities are safer credit risks. But efforts are being made to make more loans available to medium-sized and small businesses, and China’s stimulus plan seems to be working well overall.
Wolff thinks China’s “miracle” is a bubble that is about to burst, with catastrophic consequences. But historically, when bubbles have collapsed suddenly, it has generally been because they were punctured by speculators. When the Japanese stock market bubble burst in 1990, and when other Asian countries followed in 1998, it was because foreign speculators were able to attack their currencies with exotic derivatives. The victims tried to defend by buying up their own national currencies with their foreign currency reserves, but the reserves were soon exhausted. Today, China has accumulated so much in the way of dollar reserves that it would be very difficult for speculators to do the same thing to the Chinese stock market. A gradual stock market decline due to natural market forces is something an economy can take in stride.
Economic Role Reversal
To the extent that China’s stimulus plan is working better than in the U.S. and the U.K., this seems to be because the government is using the banks for public ends, rather than allowing the banks to use the government for private ends. The Chinese government can operate the banks’ credit mechanisms in a way that serves public enterprise and trade because it actually owns the banking sector, or most of it. Ironically, that feature of China’s economy may have allowed it to get closer to the original American capitalist ideal than the United States itself.
Politically, China is often referred to as communist, although it has never really been communist as defined in the textbooks and is far less so now than formerly. As Deng Xiaoping famously pointed out, the name isn’t as important as whether the job gets done; and China’s economy today provides a framework that effectively encourages entrepreneurs. Jim Rogers is an expatriate American investor and financial commentator based in Singapore. He wrote in a 2004 article titled “The Rise of Red Capitalism”:
Some of the best capitalists in the world live and work in Communist China….No matter how long China’s leaders persist in calling themselves Communists, they seem quite intent on creating the world’s dominant capitalist economy.
Five years later, the Chinese have evidently succeeded in this endeavor; and they have done it by keeping a brake on irresponsible bank speculation and profiteering by keeping a leash on their banking sector. While the Chinese have been busy perfecting their own brand of capitalism, the U.S. has sunk into what Rogers calls “socialism for the rich.” When ordinary businesses go bankrupt, they are left to deal with the asphalt jungle on their own. But when banks considered “too big to fail” go bankrupt, we the taxpayers pay the losses while the banks’ owners keep the profits and are allowed to continue speculating with them.
The bailout of Wall Street with taxpayer money represents a radical departure from capitalist principles, one that has changed the face of the American economy. The capitalism we were taught in school involved Mom and Pop stores, single-family farms, and small entrepreneurs competing on a level playing field. The government’s role was to set the rules and make sure everyone played fair. But that is not the sort of capitalism we have today. The Mom and Pop stores have been squeezed out by giant chain stores and mega-industries; the small private farms have been bought up by multinational agribusinesses; and Wall Street banks have gotten so powerful that Congressmen are complaining that the banks now own Congress. Giant banks and corporations have rewritten the rules for their own ends. Healthy competition has been replaced by a form of predator capitalism in which small fish are systematically swallowed up by sharks. The result has been an ever-widening gap between rich and poor that represents the greatest transfer of wealth in history.
The Best of Both Worlds
The Chinese solution to a failed banking system would be to nationalize the banks themselves, not just their bad debts. If the U.S. were to follow that example, we the people could get something of value for our investment — a stable and accountable banking system that belongs to the people. If the word “nationalize” sounds un-American, think “publicly-owned and operated for the benefit of the public,” like public libraries, public parks, and public courts.
We need to get our dollars out of Wall Street and back on Main Street, and we can do that only by taking the punch bowl away from our out-of-control private banking monopoly. We need to reclaim “the full faith and credit of the United States” as a monopoly of the people of the United States. If the Chinese can have the best of both worlds, so can we.
August 19th, 2009 at 8:11 am
24
i just wonder if appeared similar artickle during 30’s crisis calling for soviet system
August 19th, 2009 at 5:58 pm
Hi real name, #25,
I think there is definitely that effect. When you are not doing well, you tend to reflect, and that’s when you learn something new.
I tend to think developing countries tend to reflect a lot while developed countries tend to be cocky and dictate a lot.
August 19th, 2009 at 6:05 pm
what is funny for me in my country teens years ago was problem with many bad loans and deficit in state banks
state once put money to clean bills and sold them completely – from that time no special problem
no one interesting calls for return them to state hands
August 19th, 2009 at 8:22 pm
@Steve #22
Thanks for the compliments and interesting questions. I’ll try to answer them although these views are just opinions only and do not have textbook accuracy.
You asked:
“You talk about banks investing in riskier loans in order to make higher profits and attract shareholders. Weren’t some of the investment options created by firms in the US super risky? I had read somewhere that they were basically mirrors of real assets so the original value was extended; I think they are called derivatives. Why would any government allow what is essentially a pyramid scheme? If the value of the original asset collapses (which it did) then a value far beyond the loss would be incurred.”
You might be thinking about this interview with Gao Xiqing at CIC: (http://www.theatlantic.com/doc/200812/fallows-chinese-banker), where he said “First of all, you have this book to sell. [He picks up a leather-bound book.] This is worth something, because of all the labor and so on you put in it. But then someone says, “I don’t have to sell the book itself! I have a mirror, and I can sell the mirror image of the book!” Okay. That’s a stock certificate. And then someone else says, “I have another mirror—I can sell a mirror image of that mirror.” Derivatives. That’s fine too, for a while. Then you have 10,000 mirrors, and the image is almost perfect. People start to believe that these mirrors are almost the real thing. But at some point, the image is interrupted. And all the rest will go.”
Gao’s analogy is very funny and perceptive. This is a quality of good lawyer/teachers – taking something very complex and reducing it down to an example that the student can understand. A derivative is a contract. The value of the derivative contract uses the value of something else as a reference. This is the “mirror” aspect he is referring to.
But any such analogy is never perfect. In this case, the “mirror” analogy does not convey the “hedging” and “matching” aspect of derivatives that are very important. That is to say, there are two parties on each side of a derivative contract. For example, you and I can enter into a derivative contract based on the price of the RMB against the US dollar. If in 3 month’s time, the RMB is worth more than 6.50 Yuan to the dollar, I will pay you $10,000. For this privilege, you must pay me $500 today. (The terms may be a bit more complicated in real life, but the economic effect will be like this). Why would you enter into such a bet, other than pure speculation? You might be buying an apartment in Beijing, and you are worried that by the time the deal closes, the RMB will strengthen, causing you to have to pay more in dollar terms. You might be willing to pay me the $500 to protect yourself. The alternative might be that you convert all your dollars to RMB today rather than wait 3 months. But then you might be losing out on the higher interest rate from your 3 month US dollar time deposit (paying 2.4%) versus a 3 month RMB time deposit (paying 0.5%) if you do that. On my side (if I was a bank), I might have hundreds of customers who have entered into these kinds of contracts with me, and the contracts go in different directions and prices and time periods, so that if the RMB does strengthen by a certain amount at a certain time, I pay out on some contracts, but receive more on other contracts. The “risk management” function at the bank is supposed to figure out how much risk the bank is taking on by entering into these contracts, and they use very sophisticated mathematical models to do so.
The same holds true for various “bets” the bank makes on interest rates (for example, lock-ins and resets on mortgage interest rates have derivatives behind them). The dizzying variety of mortgage products and terms available to the U.S. property investor would not be possible without the arcane machinery of derivatives and markets. Once lent out, the banks sold the mortgage loans to securities firms who then repackaged them into securities for investment by institutional investors like mutual funds, pension funds and insurance companies.
However, risks built up in ways that are still poorly understood. Complexity is partly to blame – the mathematicians who develop the models may not have fully incorporated real-life details for the models to accurately predict risk, or the risk managers and bankers who use the models may not be applying them properly. For example, there is a story that the rating agencies that were hired to rate the riskiness of mortgage securities used models that did not include scenarios where U.S. housing prices went down. This means that a life insurance company may have invested customer premiums in mortgage securities that it thought were worth $10 million, but are now worth $2 million because of the decline in housing prices. An insurance company that invested in too many of these could go under. Many of the banks facing failure during the past year had too much invested in assets whose values have plummeted.
Because of the important roles that financial institutions – banks, mutual fund companies, securities companies, insurance companies – play in any economy, the question facing our society is how much freedom to allow these companies to innovate and create new products (and developing the tools to manage those products) and how much oversight there needs to be from regulatory agencies.
The typical U.S. cycle of regulatory oversight seems to be – financial disaster/crises followed by picking up the pieces and tighter regulation. Then there is a golden period when things go well, and regulators are convinced to loosen up. Then the market goes crazy with all its freedoms and disaster strikes, leading to another round of tight regulation. In the U.S. the 1920’s were a very free time, financially speaking. The 1929 crash and depression led to the New Deal structure of regulation. There was a “golden period” in the post-war era up to the 1970’s. Then the deregulatory impulse came with the Reagan administration and since then many of the New Deal protections and restrictions went away. The financial system flourished with new products, innovation and jobs. But the meltdown shows that there are problems in the regulatory system that needs to be fixed if the industry is to be sustainable.
Steve, that’s all I can do for now – I’ll get to your other questions later!
August 19th, 2009 at 9:17 pm
Steve,
These are three interesting articles that address the failure of the regulators and the market players to understand the complexity of the financial products they created:
Recipe for Disaster: The Formula That Killed Wall Street: http://www.wired.com/techbiz/it/magazine/17-03/wp_quant?currentPage=all
http://www.portfolio.com//news-markets/national-news/portfolio/2008/11/11/The-End-of-Wall-Streets-Boom/
http://www.wealthmanagementexchange.com/articles/175/1/Why-Economists-Failed-to-Predict-the-Financial-Crisis/Page1.html
August 20th, 2009 at 4:42 pm
@ perspectivehere #28: Thanks for the thorough reply in answering my questions! Let me digest it and I also want to read the three links you provided when I have more time. Three links? Sounds familiar! 😛
August 31st, 2009 at 7:48 pm
9. SOEs 50% of workers
realy not less than 10%?
guardian: more than 60% of Chinese residents employed by the private sector
but people.com.cn: private enterprises employing 82.12 million people
has someone recent employment data give 100% together?
July 24th, 2013 at 11:17 am
I’m impressed, I must say. Rarely do I encounter a blog that’s equally educative and interesting,
and without a doubt, you’ve hit the nail on the head. The problem is something too few folks are speaking intelligently about. I’m
very happy I found this in my hunt for something relating to this.