China’s permanent QE has many losers.
Joe Zhang, SCMP, 2 Feb 2015,
In 1983, the People’s Bank of China had just risen from being a
junior sidekick to the Ministry of Finance to an equal entity
within the government. A staffer from the US Federal Reserve who
visited the PBOC, where I was a graduate cadet at the time,
explained why an independent monetary policy was a wonderful thing
before asking why China had not made its central bank independent
of the government.
With no trace of irony, my superior replied, “that would be very
inconvenient!” The visitor almost laughed himself off his
Last week, US President Barack Obama stressed in his State of the
Union speech, inequality has become a major challenge for US
society. What he did not say is that the QE (quantitative easing of
the monetary policy) since 2008 has made a key contribution to the
worsening of inequality. As Europe digs deeper into
the QE hole, everyone pretends there is no link between QE and
inequali ty. But sadly there is. Just look at how convenience in
mainland central banking has created massive inequality.
While the term QE was invented in the United States, mainland China
has proven to be the most daring in practising it. In its “annual
credit plan”, the PBOC makes liberal predictions on the banking
sector’s deposits and loan demand, and plugs the gap by making
loans directly to each bank. It also extends additional loans as it
sees fit during the year. No collateral is ever needed. For many
years, the banks’ loan-to-deposit ratios far exceeded 100 per cent.
For the mainland’s banks (rapidly growing from just one in 1983 to
several thousand today), bargaining with the central bank has been
the most lucrative game: they borrow from the central bank at 1 per
cent to 2 per cent annual rates, and lend out at 6 per cent to 8
When Western observers warn of the rapid growth of the balance
sheets of the US Federal Reserve and the European Central Bank on
the back oftheir QE actions, it is worth pointing out that the
Fed’s balance sheet of about US$4.5 trillion and the ECB’s US$2.7
trillion are still far smaller than the PBOC’s US$5.5 trillion –
even though the mainland has a much smaller economy.
On the mainland, a vicious cycle has lasted 36 years: rapid credit
growth leads to high inflation (and expectations of higher
inflation) which makes the controlled interest rate seem low (and
even negative) in real terms. That, in turn, encourages borrowing,
which the central bank is often too happy to accommodate. Even in
2014, the third consecutive year of “economic slowdown”, the
mainland still recorded a money supply growth of more than 12 per
Apart from corruption, the biggest factor behind the mainland’s
inequality is asset inflation, with the root cause being its
perpetual QE. New credit flows constantly into state-owned
companies and well-connected private businesses. Low interest rates
on deposits rip off savers on the one hand and subsidise borrowers
on the other. To benefit from asset inflation (mainly in real
estate), you have to have assets and, more importantly, leverage.
But access to credit has been a watershed between winners and
Regulated interest rates also make matters worse. Privileged
borrowers pay 6 per cent to 8 per cent a year to the banks, but the
vast numbers of small and medium-size businesses and consumers pay
15 per cent to 25 per cent to the shadow banking industry, if they
can get credit at all.
Perpetual QE has also caused the mainland’s stock market inflation.
Despite the stock index today being half the peak level seen seven
years ago, the market is still the most overvalued on the planet.
Most companies trade at 30 to 50 times earnings, with dodgy ones
being the most expensive. Observers are misled by the average
market valuation of, say, “only” 17 to 18 times earnings, but that
average is distorted by the 20-plus banks which between them
account for over a thirdof the market value and over half of the
total net profit of the market. They trade at seven to nine times
earnings, but as the economy slides into a new normal, one must
consider their rising bad debts and their true valuation.
Since 1992, Beijing has treated the stock market as a device for
credit rationing. Initially started with a stated objective of
“alleviating poverty for the state sector”, the mainland’s market
has been ripping off millions of ignorant retail investors.
Through strict controls over how many businesses are allowed to go
public, and who they are, the government has not only played
favourites but also kept the stock market valuation high. Naturally
the process is fraught with corruption, as the media and the
regulators have discovered.
In the wake of the global subprime crisis, Western countries have
broken some policy taboos. For example, the idea of central banks
buying government bonds is now acceptable. Strict independence of
the central banks isno longer such a big deal. But their
single-minded pursuit of QE policies and ultra-low interest rates
will make inequality much worse, as the mainland has learned.
Joe Zhang is chairman of China Smartpay Group.