China’s gargantuan state-owned banks are sick. In fact they are so unhealthy they pose a risk to the global economy, according to one asset manager.
China’s banking sector is 3.5 times the size of the country’s overall economy, said Stewart Paterson from Tiburon Partners, a fund management business based in London. The country’s “Big Four” commercial banks are state-controlled, and they are the world’s biggest.
“Clearly it is impossible for a banking sector that is that big to be highly profitable, because they would be taking too big a slice of the cake,” Paterson told CNBC. “So what we are seeing is falling returns on assets in the Chinese banking sector, which is a reflection of the falling profitability on the industrial side.”
One of the “Big Four” — the Industrial and Commercial Bank of China — recently made headlines when four of its directors were arrested in Spain as part of a money laundering investigation. Similar scandals have occurred in Italy and the U.S.
Watch this short report from wochit News about the arrests in Spain:
The other three banks of the “Big Four” are the Bank of China, the China Construction Bank, and the Agricultural Bank of China.
Throughout the global financial crisis, the Chinese government used its banks to stimulate the national economy, which created a large increase in debt levels from local governments and state-owned companies. As a result, China’s banks now have a large amount of non-performing loans. This has been exacerbated by a slowing economy and the industrial sector’s lowering profits, which make it more difficult for debtors to pay off their loans.
“There is going to have to be a large amount of debt forgiveness and there is going to have to be a large amount of recapitalization of the banking sector in China. How that takes place over the next couple of years we are yet to see any clear guidance on,” Patterson said.
Patterson said he views China’s banks as “external risks” to the U.S. economy.
“The Chinese financial system is in a very fragile and precarious situation,” he said. “It is gargantuan relative to the Chinese economy and of course the Chinese economy has accounted for a disproportionately large amount of the growth that we have seen in the global economy since the global financial crisis,” said Patterson.
Watch this episode of China Uncensored for an overview of China’s current economic challenges:
He pointed out that if the Chinese financial system does spiral out of control, the deflationary shock on the rest of the world is going to be huge. He said that such a scenario is “probable, not just possible.”
Given the above it is no surprise that Patterson warned private investors to stay clear of China’s banks.
“Personally, I think the banks are un-investable — as a minority private investor you are likely to be wiped out, maybe many times over,” he said.
“These are organs of the state; they are there to fulfill the agenda of the Communist Party of China and why anybody would want to be a minority shareholder in them I’m not sure.”
Watch this 15 minute Financial Times report about the end of the Chinese miracle: