Financial Reform, With Chinese Characteristics

China's top leaders are now stepping up calls for better integration and enforcement of financial regulations across the country's banking, securities and insurance regulators, as well as urging stronger efforts to root out financial sector corruption. In his comments to the National People's Congress in March, and again in a statement published in early April, Chinese Premier Li Keqiang vowed to severely punish corrupt regulators and executives known as "financial crocodiles," and he called for the creation of a "firewall" against financial risks. These came on the heels of a late February announcement that China's economic regulators, led by the Chinese central bank, would draft new, unified rules to oversee asset management products. The $8.7 trillion industry encompasses a wide range of "shadow" investment tools like wealth management products, through which state-controlled banks channel funds into riskier securities promising high returns.

These and other recent developments illustrate different aspects of China's financial reform mosaic. Broadly speaking, "reform" in this context has three basic meanings: rooting out corruption, addressing local government debt and revamping the country's regulatory structures.

Reining In the Regulators

A major point of focus for Beijing is cracking down on corruption across major financial institutions, and the three agencies tasked with overseeing them: the China Banking Regulatory Commission (CBRC), China Insurance Regulatory Commission (CIRC) and the China Securities Regulatory Commission (CSRC). In an April 25 meeting with politburo members and senior regulators, Chinese President Xi Jinping likewise urged better protections against financial risks. Meanwhile, on April 9, authorities detained CIRC chairman Xiang Junbo on corruption charges. The following week, CBRC deputy chairman Yang Jiacai was sacked for corruption. The state-run People's Daily subsequently warned that "the best show is yet to come," suggesting that Xiang and Yang will not be the last financial crocodiles to fall.

To be sure, the extent to which financial corruption cases like those against Xiang and Yang reflect authorities' genuine interest in fighting graft, rather than providing political cover for Xi's elimination of potential opponents in the sector, remains unclear. As with other targets of the president's anti-corruption campaign, both imperatives are likely at work. But whatever the balance of interests behind the ongoing wave of financial corruption cases, it creates room for appointees whose interests align with Xi's. As a result, cracking down on corruption both advances the president's power consolidation drive and, in theory, lays the basis for implementation of his economic priorities in the future — whatever those may ultimately be. This makes anti-corruption a front line of sorts for financial reform efforts: Though rooting out graft and eliminating potential opponents on its own does little to address systemic faults in China's financial sector, China's leaders clearly see it as a precondition for enforcing reforms that do.

Tackling Local and Corporate Debt

In addition to rooting out graft, financial reform also refers to the central government's long-running efforts to create institutional mechanisms to help local governments and businesses repay their existing debts and absorb nonperforming loans. To this end, Beijing established in 2015 a local debt-bond swap program, in which local governments trade a portion of their outstanding loans for slower-maturing, lower-interest municipal bonds (held primarily by state-owned banks). More recently, it has begun emphasizing corporate debt-for-equity swaps, in which state-owned banks buy back loans in exchange for equity stakes in debtor companies. Both programs have expanded rapidly. Since 2015, local governments have swapped roughly 9 trillion yuan worth of loans for bonds, with authorities planning another 6 trillion in debt-for-bond swaps by the end of 2017. Likewise, in the first quarter of 2017, Chinese businesses traded 238 billion yuan in outstanding loans for equity stakes (to be held by the creditor banks), up from 203 billion, 30 billion and zero in the fourth, third and second quarters of 2016, respectively.

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