Thursday, April 29, 2004

More on the lending suspension. A member of Chinapol suggests that the suspension of lending is due to preparations to increase interest rate, but I am not entirely convinced:

You present a very interesting scenario. In the past, whenever a lending crackdown or an interest rate increase was anticipated, banks usually lent out money rapidly. This suspension might be an attempt to stop this sort of behavior. However, if Wen really wanted to increase interest rate, he can simply call all the banks and do it; there wouldn't be time for rational expectation to kick in.

In today's WSJ, there was some bad press on the crackdown, but I think this method of cutting with one knife serves another important function (in addition to stemming the inflow of hot money), it also selects the bad borrowers from the better borrowers. With a sudden suspension of funds, companies that live from working capital loan to working capital loans or highly leveraged projects will get into trouble immediately. In the mean time, companies with better cash positions will stay trouble-free. This is a harsh tactic of artificially inducing a mini financial crisis, which is often characterized by cash shortage. However, given the way things are going, I would say this is not the most insensible way to go. After all, it has worked quite well in the past.

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