Friday, April 30, 2004

Okay, someone complained that firms should not be obligated to keep a cash reserve under a perfect financial market. I agree. My earlier comment about the selection effect of loan suspension has to do with particularistic features of the Chinese financial system, and is by no means a comment on how firms should operate in a perfectly competitive market. Currently, banks are required to lend to borrowers who can front a certain % of “self-raised funds.” In recent months, some banks have broken that rule and are lending to companies and projects that do not have any “self raised” portion. Suspending lending for a while might be a mechanism whereby the Chinese government can pick out the violators of this rule. Of course, the basic structural problem is that banks have little incentive to do due diligent in the first place

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