Reforming China's Financial Markets: the Problems of Shadow Banking and Non-performing Loans

In May-June 2013, interest rates rose on China's money market (interbank market). While this was a liquidity problem in the short term, structurally it was the result of the expansion of banks' balance sheets and the development of off-balance-sheet financial products.The latter is also sometimes seen as China's shadow banking problem. Shadow banking in China consists largely of bank wealth management products and trust products, which together have been estimated to make up more than 50% of China's GDP. In recent years, Internet finance has also been growing.The response of the Chinese government at the end of 2013 was to issue an internal directive to the country's monetary authorities and local governments to tighten the regulation of shadow banking, to assign regulators for shadow banking operations and individual financial institutions, and to create a comprehensive regulatory framework.In addition, the Chinese government has set a timetable with a deadline of 2018 for adopting the Basel III framework and is seeking to put bank balance sheets on a sounder footing. While shadow banking in China has some negative aspects, such as circumventing regulation and introducing risk factors into financial markets, it also has some positive aspects, such as making it easier for SMEs to raise capital and offering Chinese households what amount to financial products with deregulated interest rates.Ultimately, the problems need to be solved as part of the process of reforming China's financial markets and fostering the development of the country's securities and asset management industries.