China Watch Blog has learnt that Chinese banks misclassified about 20 percent of their outstanding loans to local governments, understating the risk that slowing revenue will cut borrowers’ ability to repay, Bloomberg reported, citng a person with knowledge of the matter.
The China Banking Regulatory Commission told lenders last month that they had incorrectly placed about 1.8 trillion yuan (US$286 billion) of loans to local government financing vehicles in the safest category of lending, the person said, declining to be named because the matter is private. The banks erred in calculations and underestimated risks when they decided the loans were fully covered by cash flows from the projects, the person said.
Reclassifying the debts may force banks to set aside greater loan-loss provisions and seek more collateral from regional authorities, whose revenue growth has slumped as the world’s second-biggest economy slows. The Agricultural Bank of China on Thursday unexpectedly posted its first drop in quarterly profit since its 2010 listing.
“The impact of a reclassification would not be huge for the entire industry but it can be much bigger for a few banks if the problems are concentrated in them,” said Yvonne Zhang, a Beijing-based vice president and senior analyst at Moody’s Investors Service. “In our stress tests, we assumed that between 20 percent and 33 percent of those loans will eventually turn sour without government assistance.”
Local governments in China, prohibited from directly taking out bank loans or selling bonds, have set up more than 6,000 financing companies to raise funds for projects such as stadiums, roads and bridges, the National Audit Office said in a June report.
Regulators and investors have expressed concern that if local-government loans aren’t repaid they could lead to China’s third banking bailout in less than two decades.