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QNA
Doha
The threat of a financial crisis in China would come as a massive blow to the global economy, Qatar National Bank (QNB) said in its weekly economic commentary issued Saturday.
While it does not appear that such risks are imminent, China remains the biggest threat to global financial stability, according to a survey on the financial stability risks conducted by QNB in the United States, Europe and China.
Why does China pose the biggest risk to global financial stability? QNB said there are three main reasons: First, the scale of its challenge is much bigger considering that it encompasses almost three times the size of its economy.
Second, its outsized role in global trade means it would induce a crisis to the rest of the global economy rapidly.
Third, compliance with post-crisis financial regulations is much higher in the US and Europe than in China.
In late-August, the heads of the world's major central banks gathered at the Jackson Hole Symposium in Wyoming, an annual forum for global economic policymakers and academics.
Attracting the most attention at this year's symposium was the discussion on financial stability andthe ability of the financial system to manage and absorb shocks and prevent major crises from emerging. While the focus of the Jackson Hole debate was on the US, there are also important financial stability risks emanating from Europe and China.
In the US, the concern around financial stability reflects elevated equity prices, which are stretching fundamentals, and high corporate leverage. US equity prices have risen dramatically since the election, spurred on by President Donald Trump's proposed fiscal stimulus.
The fiscal stimulus was planned to be implemented through corporate tax cuts and a large infrastructure spending program which would benefit certain sectors, such as health, materials and transportation.
However, should the fiscal stimulus not materialise or be reduced in magnitude, earning prospects for the affected industries might not justify their current valuations and cause share price corrections.
Meanwhile, corporate leverage has risen substantially in recent years but firms earnings have not gained proportionately, resulting in higher debt servicing burdens.
According to the QNB analysis, faster-than-expected monetary tightening could further stretch corporate debt servicing burdens, risking defaults and creating stress in corporate credit markets.
Potentially exacerbating both challenges is the Trump administrations plans to loosen financial regulations, which includes allowing more risky lending and permitting banks to trade on their own behalf and not strictly for clients, the so-called Volcker Rule.
Meanwhile, the challenge in Europe is the continents troubled banks. There is an overconcentration of European banks and legacy of bad loans, particularly in Portugal, Italy, Ireland and Greece.
Essentially, there have been too many banks chasing after a limited pool of profitable lending opportunities, which has led to excessive risk taking.
The result has been weak profitability which has hampered bank's ability to build stronger buffers and has increased their vulnerability to failure in the event of an economic shock.
Moreover, a lack of a common depositor insurance scheme amongt Euro Area countries and complex fiscal rules relating to bank bailouts, limit the maneuverability of policymakers to resolve bank failures.
The analysis noted that China's issue is its massive debt burden. Debt in China is over 250 percent of GDP and largely held by state owned entities (SOEs).
The crux of the issue is that growth has been driven by rapidly expanding credit to SOEs in targeted sectors such as real estate and industrials, but now these sectors are plagued by massive excess capacity. Authorities therefore face the challenge of gradually unwinding large non-performing loans without causing a collapse in growth.
