In March, Chinese Premier Li Keqiang vowed to bolster opportunities for private businesses pinched by the US trade war, saying commercial banks would increase lending to small companies by 30%. It marked the first time an annual report on the government's work has made a specific target for lending to small companies.
China's biggest banks have passed with flying colors. By September, the value of outstanding loans to small businesses at the top five lenders jumped 48% from the end of 2018. "Inclusive financing," or loans to small firms, soared 41%, according to the People's Bank of China.
Dig deeper, however, and it's a sham. In President Xi Jinping's China, many equate reining in financial risk with restricting lending to private businesses. That point of view hasn't really changed. What has is the metric.
Economists have increasing difficulty tracking the status of small and private firms' access to credit. The PBOC introduced a new, narrower metric this year for small business lending. But the so-called inclusive financing metric isn't inclusive at all. It covers a loan book of around 10 trillion yuan ( $1.4 trillion), only one-third the size under the previous indicator. So it's no surprise that the new metric is showing much faster growth than the significantly slower pace the older method would have, notes Gavekal Dragonomics, an economics research platform.
One doesn't need macro statistics to confirm what's obvious in the marketplace. In the corporate bond world, traders are shunning private issuers en masse. With state-owned entities absorbing virtually all demand for new issues, private firms are seeing their bonds maturing faster than they can refinance with new ones, notes Gavekal's analyst Xiaoxi Zhang. At 110 billion yuan year-to-date, defaults in China are edging close to last year's record 122 billion yuan.
Underlying this is Beijing's crackdown on shadow banking, the major provider of credit to private entities. The industry has shrunk by 1.5 trillion yuan this year, following 2.9 trillion yuan in 2018.
This has created a vicious cycle, with banks and lenders shutting down credit as soon as there's any sign of distress. For instance, cross guarantees are a common practice used by private companies to secure more credit. So when Xiwang Group Co., a distressed industrial conglomerate in the northeast province of Shandong, defaulted last month, investors immediately started dumping bonds issued by other firms in that region. They didn't bother with due diligence on whether these firms were involved in Xiwang's credit chain.
After many default scares, liquidity conditions in China do seem to be improving. On Monday, the PBOC reduced short-term interbank rates for the first time in four years, following a slight cut to its one-year loan rate to banks. In its latest monetary report, the central bank warned of an economic slowdown and vowed to make "counter-cyclical adjustments."
Unfortunately, these tiny rate cuts are symbolic at best. Unlike in the US, where the Federal Reserve is a powerful economic institution, China's central bank does not sit at the top of the power pyramid. Enter the 25-member Politburo, of which the PBOC governor isn't a member. It meets quarterly to set China's leading economic agendas. As long as the Politburo talks up deleveraging, or repeats Xi's motto that apartments are for living, not speculating, shadow financing will remain tight.
Central banks around the world are feeling the limits of their toolboxes. China is no exception, even if the reasons are different. So while the private sector feels the pinch, the best the central bank can do is to change its definition of what constitutes inclusive financing. It's like offering a cup of tea while the house burns — comforting, but that's all.
Disclaimer: This article first appeared on Bloomberg.com, and is published by special syndication arrangement.