Huarong’s Shadow Bank Bailout: This Changes Everything

By Sara Hsu, an Assistant Professor of Economics at the State University of New York at New Paltz. Her research interests include the Chinese economy, financial flows, and the international economy. Originally posted at Triple Crisis.

Two days ago, we learned that the Chinese government was behind the bailout earlier this year of a trust product—a type of financial product that the central government has heretofore emphatically distanced itself from. Huarong Asset Management, using a 3 billion RMB loan from the Industrial and Commercial Bank of China (ICBC), the trust product seller, was the mystery lender behind the January bailout of the Credit Equals Gold trust product, the Financial Times reported on August 31. ICBC and Huarong Asset Management are both state-owned entities.

This is a notable event that changes the way that analysts look at shadow banking financial products. Up until this point, there appeared to be a firewall between the traditional banking system and the shadow banking sector. The China Banking Regulatory Commission (CBRC) has sternly warned the financial sector that it would not bail out non-traditional loans or other assets. In keeping with this approach, many flagging financial products were indeed not bailed out by the central government, including trust products like those sold by Jilin Trust and CITIC Trust and, more recently, mutual fund products including those sold by Shanghai Goldstate Brilliance Asset Management and Mirae Asset Huachen Fund Management Co. The central government aimed to limit its implicit backing of the financial sector.

Now, however, as a result of the Huarong fund injection, we know that the implicit guarantee in practice runs deep, especially when financial products are sold via state-owned banks.

In this case, ICBC was pressured by investors and the government to guarantee the product’s payment. ICBC is the world’s largest lender by assets and market capitalization and is listed on the Hong Kong and Shanghai Stock Exchanges.

ICBC previously experienced a trust product default. A prior potential wealth management product default in July 2013 was realized. The default was greeted with a protest from investors dressed in white sheets. Investors were furious that the product defaulted, as they were led to believe that ICBC guaranteed the product. In the cases of other trust products, defaults were often avoided as local governments stepped in to repay investors.

Until this point, the central government has not been on the hook for shadow banking liabilities. Although some analysts have viewed local government bailouts as potential central government liabilities, this has not been clear. Certainly, we have seen local governments increase their liabilities via local government financing vehicles (LGFVs), entities closely tied to local governments. The liabilities have mounted, and the leadership has announced that local governments will be able to issue municipal bonds to roll over some of this debt. This is already starting to happen. Nothing has been as explicit, however, as a bailout via a central government asset-management firm.

A central-government guarantee of the shadow banking system would extend its financial responsibility from 71.90 trillion RMB in bank loans (outstanding loans at year-end 2013) to 110 trillion RMB (outstanding shadow banking assets under management plus loans at year end 2013) in bank loans and shadow banking loans, an increase of over 50%. The central government has been loath to extend guarantees to the shadow banking sector, which inherently carries far greater risks.

Can the central government support this new scale of debt? Not comfortably. The central government has worked hard to keep non-performing loans in its state-owned banks to a very low ratio. Government revenues are not overwhelming, and local governments already face a revenue shortage in the redistribution of funds from the local governments to the central government, and back again. Assets can be sold, or foreign reserves used, at great expense to the domestic economy.
Does this increase moral hazard among non-state financial entities? You bet. Knowing that the central government has set the precedent of contradicting its own terms and bailed out a failing financial product will increase the likelihood that shadow lenders will take risks. As a result, the CBRC and other financial regulatory bodies had better increase regulations for the shadow-banking sector before moral hazard takes root on a grand scale.

Additional regulations are expected to be implemented soon. Draft regulations are under way, as the CBRC prepares regulations on banks’ off-balance sheet lending. Regulations to increase control over internet lending and other components of shadow banking are also being considered. Somehow the shadow-banking system needs to be made less of a liability. The leadership is well aware of this issue, but addressing it is difficult and complex. The Huarong bailout may have made the process of reducing risk in the financial system even harder.

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About David Dayen

David is a contributing writer to He has been writing about politics since 2004. He spent three years writing for the FireDogLake News Desk; he’s also written for The New Republic, The American Prospect, The Guardian (UK), The Huffington Post, The Washington Monthly, Alternet, Democracy Journal and Pacific Standard, as well as multiple well-trafficked progressive blogs and websites. His has been a guest on MSNBC, CNN, Aljazeera, Russia Today, NPR, Pacifica Radio and Air America Radio. He has contributed to two anthology books, one about the Wisconsin labor uprising and another on the fight against the Stop Online Piracy Act in Congress. Prior to writing about politics he worked for two decades as a television producer and editor. You can follow him on Twitter at @ddayen.


  1. MyLessThanPrimeBeef

    If the US, Britain and other countries are anything to go by, then China should look forward to a booming stock market, after the roughly $US 20 trillion (110 trillion RMB) (shadow) bank bailout.

    Like the unnecessary concern over China’s screening of political candidates (one of the recent links), our own history suggests there is nothing to worry about and their 1% will be fine thanks to the bailout as long as their government does a good job imitating ours.

  2. abynormal

    wow, GE must be in pigs heaven…for now.
    didn’t Marco Polo quip ‘China will open its doors and close them at will’?
    this is a huge Global game changer but if history still rhymes…
    mo popcorn please

  3. James Levy

    As I like to say, Capitalists will try anything, any damned harebrained scheme, over simply paying people more to generate demand. This endless multiplication of scams to extend credit or create “investment opportunities” is just a substitute for a Fordist regime of paying workers to buy their own products. But that would mean depending for their incomes on profits rather than rents, and modern capitalists couldn’t abide such a cruel restriction on their ability to amass ungodly fortunes.

    1. Louis

      There’s definitely some truth there, especially when I think of how, in some parts of the country, developers have overbuilt luxury and high-end housing. The surplus goes unsold or doesn’t sell quickly enough, yet , simultaneously, numerous people struggle to afford a place to live in. Each developer persists (individually) in the belief that they’re the ones who are going to get rich someday–they don’t want to be the first one to lower prices and admit they misjudged the market.

    2. mark

      “capitalists will try anything”….. etc

      compliments to you. This really sums the system up in one simple paragraph.

  4. ArkansasAngie

    Moral hazard?
    Geez … how quaint.
    In a world of pie in the sky liquidity, insolvency has been outlawed.
    Elasticity? There is no breaking point.

  5. financial matters

    This is an interesting situation and seems to relate to how to keep easy credit from fueling asset growth. Especially real estate and stock markets. And to try and keep from drying up credit which leads to deflation and unemployment.

    It seems that at some point you have to let people lose money on these products such as the current home rental securities in the US. It would also be good if countries had better ways to measure the health of their economies other than stock market indexes. Employment and purchasing power seem key. People wouldn’t have to worry about making interest on various risky ‘wealth products’ if their social needs including medical, education and retirement security were better provided for.

  6. David Petraitis

    This really (for me at least) begs the question of who (as in which part of the party apparatus) was behind Huarong. The Con-munist Party will not hesitate to use a crisis to purge its ranks of ‘undesirables.’ This smells of internecine Party purging and protecting.

    1. NotTimothyGeithner

      I think the youth of the Communist Party, the under 50 crowd, represents an Outlook closer to true believers rather than the hodge podge of cultists and opportunists of yesteryear. For the last 30 years, Mao has been done away with, and there is no replacement which means no cultists or an outlet for them, and the sociopaths and opportunists have been going into business not the government/party. Who is joining the Communists and participating believers without messy cult connections to an individual or connected Cadre.

      They are too large to be purged, and the young party members were likely behind the fall of the defense minister. If Xi Jiping isn’t allied with them, he lacks the the political strength to not listen to the young Communists in the absence of a connection to the Revolution or a popular election. Avoiding a crisis until the young Communists can move into the upper echelons and Xi Jiping doesn’t become a cornered animal is the main goal of the Chinese government. The business elite have invested in too many places not named China to return and gain power.

      The Soviet Union fell when the veterans of World War II who became party and government functionaries after purges on a grand scale reached their retirement age all at once.

  7. craazyman

    It doesn’t change anything. Did anybody doubt this would happen? Only people who want to lose all their money going short — they doubted it. If anybody can make money of this “news” they’re a very lucky person. And if they’re that lucky, why waste their time in the stock market? There’s a lottery right now someplace with $100 million for the winner. You gotta go for it since it’s more efficient for you, if you’re that lucky, lucky enough to make money off news that China’s bailing out its cronies so the place doesn’t implode like a wormhole in deep space. What would anybody do with $100 million, especially in China. Here’s what they’d do: They leave. That’s a weird thought. YOu get so lucky you have to high tail it out of there and live in a fortress in Vancouver or someplace. Hmmmm. Think about that for a minute and write an essay on what money is. If you’re not too lazy that is. Is Professor Hsu that lazy? maybe. Put a few thought down and see if they lead anywhere. All this nonsense about “financial flows” only makes sense if you’re a trained economist. Walk out the door and see if you see money anywhere. You won’t because not only is it invisible, it doesn’t even exist in reality. People just make it up and it appears and disappears without the slightest trace of velocity or momentum, even over vast distances. Does that sound like a “flow”?

    1. Chauncey Gardiner

      Whoa!… I agree… just a gigantic accounting system with “creative” inputs (USG spending, Fed and banks employees’ keystrokes) and outflows… (taxation as a basis for sovereign money).

      Out here on the left coast where the firs are shrouded in mist and the rocks of the inner continental shelf washed by Fukushima Cesium-137 and Chinese coal-fired acidity, one has time to reflect on sea star wasting disease, orcas starvation, and the money of ancestors… dentalium shells…. used for trade and as a store of wealth from Southern California to Alaska… and likewise featuring a strange but enviable class of priests responsible for harvesting and issuance.

      Like art and life, all money is transitory. Funny that you’re looking for something permanent. Why?

  8. beene

    ” Government revenues are not overwhelming, and local governments already face a revenue shortage in the redistribution of funds from the local governments to the central government, and back again. Assets can be sold, or foreign reserves used, at great expense to the domestic economy.”

    I would suggest the above quote from the article, says their middle class does not exist, as this is what local governments depend to generate economic activity. This in spite of all the infrastructure China has been building since the 80’s. When I was there in the late 80’s it had an excess of infrastructure that no one was using.

    1. financial matters

      Their set-up seems to be different in that it relies on more of a state run or ‘public’ banking system. So I don’t think their local governments can be compared to those in the US that are more dependent on taxes and fees. With the shadow banking system though the government loses control over how those monies are allocated.

      As the author states foreign reserves can’t really be used in their own country without increasing the value of their currency. Selling assets would just be generating short term profits for their princelings who could then bolt to Vancouver.

      I think that the best way for them to establish a good middle class, similar to what would be useful in western society, is to provide good social benefits and lower asset prices. Then wages would show more effective purchasing power.

      1. abynormal

        recently, i caught a clip of china media showing thousands flushed with cash and buying 2nd, 3rd houses. packed shops set up everywhere creating short fast track applications. one 30 something male applicant described the situation as ‘necessary’…explaining they weren’t allowed legally to invest or trade directly in Chinese Markets and their only choice of asset is landlord. prices were rising as this young man was being interviewed and yet he had the look we’re now too familiar with: prices won’t ever reverse.

        their purchasing power is being created for them. at the same time, im reading about spots/certain villages of chinese real estate bubble popping. it’s madd.

        1. MyLessThanPrimeBeef

          Why not adopt a hungry child in Africa or America, like you see (or used to see, as I haven’t watched TV in a long time, during which, the middle class here has gone missing) on TV?

          They don’t all have to be landlords. And charity is certainly a Confucian virtue, treasured by all Chinese, rich or poor.

          “Adopt a poor American family on 10 RMB a day. It’s tax deductible.”

          1. abynormal

            id like to see a different middle class…your onto something.
            we could start by adopting each other.
            (me first please, i cook too)

  9. Louis

    Could this be sign that the dire predictions of China’s current economy, in particular those of a bubble about to pop, are coming to fruition?

  10. Chauncey Gardiner

    Not quite seeing how “This changes everything”? Rather, the PBoC’s bailout of a shadow banking entity just seems to me like more of the same types of policies we have seen from other major central banks, albeit the magnitude of China’s problem appears to be larger in both absolute and relative terms.

    The PBoC’s balance sheet has been expanding significantly for years, largely due to China’s enormous trade surpluses, the conversion by the central bank of those surpluses to Yuan, and the recycling of that money to domestic borrowers, often for nonproductive purposes.

    Whether the bailouts will become permanent policy, and the alternative forms the bailouts might take are unclear from this article; i.e., whether the bailouts will take the form of direct cash infusions a’la TARP, or QE-ZIRP over a protracted time frame.

    I am also unfamiliar with the PBoC’s monetary transmission/distribution system and whether a similar set of primary dealers are involved as with Western central banks. If so, it seems to me that the PBoC could potentially become another huge source of liquidity for the global carry trade.

    Maybe that is how this will “change everything”.

    1. OpenThePodBayDoorsHAL

      China has expanded credit since 2009 by an amount equal to the entire US and Japanese banking sectors combined. That’s either going to be a masterstroke of policy as we break through to a “post-scarcity” MMT world where prosperity can just be printed at will;
      It’s going to end in a giant global singularity reset Jubilee.

      As Dirty Harry said: “do you feel lucky”?

    2. abynormal

      Jan 2014 “The tightening of shadow banking will likely slow fixed-asset investment this year,” said Yuan Gangming, a researcher with the Chinese Academy of Social Sciences. “We’ll see more defaults.”

      At its annual meeting yesterday, the banking regulator noted risks from loans to local government financing vehicles, the property sector and industries with overcapacity as well as wealth management services, trust businesses and those stemming from micro-credit and guarantee companies.”

      seems larger than they can report or guess.
      if it blows at this time, i don’t imagine ‘recovery’ will be whispered: intentional?

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