Monday, March 21, 2005

Beijing-based "political economist" Laurence Brahm came out with a surprisingly criticial editorial at the SCMP. It details audits and inspections carried out by the CBRC and the NAO, which discovered hundreds of billions in illegal loans. It also details asset stripping carried out by the AMCs. In truth, is anyone surprised by the asset stripping? The AMCs were given an impossible mandate to begin with--they had to buy NPLs at face value and recover as much as 20%. Even when I interviewed AMC officials in 2001, they showed an incredible amount of cynicism about what they were suppose to do. One AMC official pointedly told me that he was there to make as much money as possible and would get out before AMC had to tackle the really bad assets, which is worth essentially zero. Because AMCs bought bad assets at face values, banks also saw the AMC as a perfect way to get rid of their NPLs. This is especially the case since Zhu and now Wen forced unrealisitic NPL reduction quotas on them. Officials at the banks and AMC shuffle papers to fulfill unrealistic quotas, while everyone tries to get a piece of the action by either making illegal loans or selling state assets at below-market prices.

Tuesday, March 22, 2005

Solution now part of the problem

China's financial institutions are rotten, spread with cancerous problems of illegal lending and embezzlement of state and depositor funds. The problem runs from the state-owned top commercial banks right down to local credit unions and even postal deposit bureaus. Exacerbating the problem are the four state asset-management companies. Set up in the late 1990s to clear the state commercial banks' books, they have become an integral part of the feeding frenzy, as corruption sets in there, too.

The sheer size of the problem in China's financial institutions is shocking, and is eating at the very root of the nation's financial and social stability, threatening to derail a decade of economic reforms.

Last year, the China Banking Regulatory Commission despatched 16,700 teams to investigate just how much the situation had really deteriorated from 2003. Shockingly, they uncovered 584 billion yuan in illegal funding by banks and financial institutions, compared to the 407.2 billion discovered the previous year. Altogether, 2,202 financial institutions were implicated in the commission's investigations, involving 4,294 officials and staff. Yet only two banks with foreign investment were found to have problems.

Among the four asset-management companies established to dispose of non-performing loans in the key state commercial banks, the State Audit Office recently confirmed that 38 cases of embezzlement and fraud had been discovered, totalling 6.7 billion yuan.

The commission says that irregularities were found in the management and disposal of non-performing loans, which involved asset stripping, illegal asset disposals, insider trading and bogus auctions and tenders.

Auditor-General Li Jinhua revealed that these companies had colluded with the banks in what amounts to massive asset stripping. The banks were pressured a year ago by Premier Wen Jiabao to reduce their non-performing loans. They did this through a charade of excessive new lending and collusion with the asset-management companies to strip out bad loans and financial burdens. This massive cover-up to evade responsibility for the bad loans racked up through corruption and self-interest has, arguably, only made matters worse.

In turn, the asset-management companies engaged in what the authorities have identified as "bleeding state assets" by fraudulently selling them at bargain prices. This, of course, stimulated last year's gold rush of foreign investment banks to Beijing to purchase discounted assets and repackage them. What a year ago was "flavour of the month" for investment banks and fund managers is now a national scandal.

Adding fuel to the flames, the proceeds from these fire sales were then falsely reported. Some asset companies even went as far as engaging in the bogus sale of assets which did not belong to them. Others diverted funds from the sales into inflated salaries and bonuses.

These cases draw into sharp focus the inability of the state to control an unravelling situation. While talk of financial reform sounds nice at international conferences, it cannot be implemented in practice. Every branch of every local bank operates as an independent fiefdom, giving loans to projects and enterprises supported by officials who often behave more like mafia members than government employees.

It is, therefore, hardly surprising that central banker Zhou Xiaochuan deftly described China's US$609.9 billion in foreign reserves as "normal". In the end, a large portion may be needed to bail out a system in a cyclical frenzy of embezzlement and waste. The question is: how much of the new prosperity is simply a function of officials raping the national coffers? The fate of China's economic successes lies in the hands of the same officials who should be working to resolve the problems.

Laurence Brahm is a political economist and lawyer based in Beijing.

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