CHINA MONETARY POLICY UNCHANGED, BUT CREDIT FLOW

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C O N F I D E N T I A L SECTION 01 OF 02 BEIJING 002342

SIPDIS

STATE FOR E, EAP, EAP/CM, EEB/OMA
NSC FOR LOI
TREASURY FOR OASIA/DOHNER/WINSHIP

E.O. 12958: DECL: 08/13/2029
TAGS: EFIN ECON PREL PGOV CH
SUBJECT: CHINA MONETARY POLICY UNCHANGED, BUT CREDIT FLOW
SLOWS

REF: BEIJING 02284

Classified By: Acting DCM William Weinstein; Reasons 1.4 (b, d)

1. (C) Summary. China Banking Regulatory Commission (CBRC)
Director General Han Mingzhi confirmed to the Acting DCM on
August 12 that China will maintain its moderately easy
monetary and proactive fiscal policies. At the same time,
the CBRC must continue to serve as "watchdog" for the banking
system, requiring the banks to improve vigilance and risk
management and ensure bank lending is used for the real
economy. Han said that in addition to improving their risk
assessment and management capacities, banks also must improve
financial services for underserved areas of central and
western China. He agreed that small and medium (i.e.,
privately owned) enterprises sometimes lack adequate access
to credit, although that situation is improving. Han also
suggested that the U.S. and China, which share similar views
on the timing and need for exit strategies from stimulus
policies, should work together at the Pittsburgh Summit to
convince the Europeans not to implement their own exit
strategies too hastily. End summary.

Monetary Policy
--------------

2. (C) During an August 12 courtesy call by the Acting DCM,
China Banking Regulatory Commission (CBRC) Director General
Han Mingzhi acknowledged the apparent contradiction between
his agency's efforts to control bank lending, which seem to
have resulted in a sharply reduced flow of new credit in
July, and several recent high-level reaffirmations that China
would "stay the course" of moderately easy monetary policy
together with proactive fiscal policy (ref). Han said some
other departments of the government want to boost the real
economy, but the CBRC must fulfill its mission of "watchdog"
for the banking system. To that end, it has instructed banks
to "open their eyes wider" and be vigilant about lending
risks, and to "re-check" their loan portfolios and borrower
qualifications; Han observed that deferral of these checks
until late 2009 or early 2010 might be too late. Similarly,
the CBRC is seeking to ensure that bank lending is used for
the real economy, rather than diverted to the stock market or
real estate speculation, although loans for legitimate real
estate investments are permitted. He said most banks have
done well in this regard, but a small portion of lending may
have been funneled through "indirect channels" for such
unauthorized purposes.

3. (SBU) Note: Although not discussed in this meeting, in
recent weeks CBRC has issued several new instructions to the
banks concerning regulation of credit card business (July
16),second mortgages (July 23),fixed asset loans (July 27),
project financing (July 27),and risk management for trading
derivatives between banking institutions and institutional
clients (August 5). The intent and effect of these issuances
has been to tighten regulator control of credit.

4. (SBU) Note, continued. Whatever the precise causes, after
pumping out RMB 1.5 trillion in new lending in June and
averaging RMB 1.2 trillion per month in the first half of
2009, China's banks have eased the flow of credit
dramatically. July lending totaled just RMB 356 billion, a
rate most analysts regard as appropriate and sustainable for
the remainder of this year. To some extent, the lending
numbers for this year are not abnormal, as bank lending in
China usually is front-loaded to maximize bank interest
earnings and also because most investment projects are
approved early in the calendar year. Also, there was a
particularly strong push by the government this year to
finance projects under the fiscal stimulus program announced
last November. That said, however, the aggregate amount of
lending extended thus far in 2009 easily dwarfs any other
year in recent history; the next largest half-year figure is
RMB 2.544 trillion in 2007. End note.

Go West, Young Bankers
--------------

5. (C) Han said China's banks face two major challenges.
First, they must further improve their ability to assess and
manage operational, credit, and market risks. In this
respect, he believes bank capacity has increased enormously
over the past 5-10 years, but more progress is needed.
Second, the banks need to extend and improve financial
services for small markets in underserved areas of central
and western China, where the large banks have been reluctant
to open branches. Han said the banks only want to serve

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people and businesses in the cities, not in rural areas: they
collect deposits in small towns and rural areas, but then are
reluctant to lend in those localities. Han said meeting this
challenge is more important than even dealing with
non-performing loans (NPLs) -- which also is important,
although the NPL ratio has fallen to just 1.8 percent in 2009
-- because failure to address this need would leave financial
reform incomplete.

6. (SBU) Note: CBRC recently posted statistics on its web
site that support Han's assertion that rural areas have been
underserved by banks, while also suggesting that the new
emphasis on lending to those regions is taking root. For the
first half of 2009, the top five provinces for new credit
volume all are eastern and highly urbanized: Guangdong (RMB
855 billion),Jiangsu (753 billion),Zhejiang (636 billion),
Beijing (564 billion),and Shandong (506 billion). On the
other hand, when ranked by credit growth speed, four of the
top five provinces are rural and/or western: Chongqing,
Guangxi, Inner Mongolia, and Sichuan. End note.

SMEs vs. SOEs
--------------

7. (C) Han said China's large banks have separate policies as
well as credit quotas (approximately 20 percent of lending)
for small and medium enterprises (SMEs) that cannot be
transferred to state-owned enterprises (SOEs). He believes
SME access to credit in coastal regions is not a serious
problem, although some export-oriented companies have
encountered short-term difficulties during the economic
crisis. In smaller cities and in central regions, however,
SMEs face difficulty obtaining bank loans because their
creditworthiness is difficult for the banks to assess. As a
consequence, they sometimes turn to the informal or
underground banking systems to obtain credit; Han believes
that system needs to be formalized, rather than banned, as it
serves clients unable to obtain normal bank credit. The CBRC
is encouraging large and small banks to establish separate
departments to deal with SMEs.

Pittsburgh Summit
--------------

8. (C) Han observed that the U.S. and China share similar
views on the timing and need for exit strategies from ongoing
economic stimulus policies. Accordingly, the two countries
should work together and have a "strong voice" at the
Pittsburgh Summit in September, in order to convince the
Europeans not to implement their own exit strategies too
hastily, lest they inadvertently ignite another economic and
financial crisis. Han said CBRC Chairman Liu Mingkang
intends to attend the summit, as does Minister of Finance Xie
Xuren, People's Bank of China Governor Zhou Xiaochuan, and
Minister of Foreign Affairs Yang Jiechi.

9. (C) Comment: The CBRC and China's other financial
regulators are fighting against the tide, seeking to ensure
that the push by senior and provincial leaders -- and most of
the economic ministries -- for high GDP growth rates does not
bring a return to the "bad old days" of the 1990s, when easy
credit and government-directed lending created enormous
problems in the banking system. After strong reforms,
capacity building, and much improved management, that system
-- as well as the regulatory structures and agencies -- now
are vastly improved. At this time, there are no indications
that serious credit leakage has occurred, although some
diversion to the booming stock market and real estate
speculation undoubtedly has slipped through. Inflation
remains virtually non-existent. For NPLs, however, the huge
volume of new lending has diluted the overall ratio for now,
but the regulators understand that any problems in this area
will not emerge for several years. End Comment.
GOLDBERG

CHINA MONETARY POLICY UNCHANGED, BUT CREDIT FLOW

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