Shadow Banking: Wealth Management Products in CHINA Introduction to Banking Industry in China, 12-10-2017 Group 3 : John Carlbaeck, David Tingaker, Jonathan Jarlén, Marcus Karnermo, Floriano Bollettini

Shadow banking “... system of financial intermediaries that engage in credit-creation within the financial system but without proper regulatory supervision” Purpose to Increase the volume of credit Wealth Management Products (WMPs)

The study objective ... discuss the phenomena of WMPs in the context of the regulatory environment. Provide a better understanding of the underlying incentives to the rapid growth of the WMP market in China, as well as risks associated to it and the difficulties to regulate it. Has the WMP market grown too big and important to fail?

Wealth Management Products Characteristics: - Short maturity, average 4 months - High Fixed return, roughly 4-13% - 80% of GDP - 9 trillion US dollar WMP allocation: - 50,99% - Bond&Money Market - 22,38% - Cash&Bank Deposits - 15,73% - Non-Standard Credit Assets - 7,84% - Equities - 3,06% - Others

WMP Off balance sheet activities offsets the Reserve Ratio Requirement, theoretically down to 0%. Since companies can reinvest their capital in WMPs. Official requirement is roughly 17% Reinvesting in new WMPS = Inducing risk

Wealth Management Products Concerns: - The Case of Credit Equals Gold #1 False perception of all products being guaranteed Marketed and sold as low risk investments Limited information regarding the underlying assets

The reason for the increase in WMPs Transitory force - Big financial crisis in 2008 - Aggressive lending - Stimulus plan - Difficult to stop Structural force - The government-dominated banks - State-owned enterprises as main targets for lending - SMEs need other ways of financing The reason for the increase in WMPs

The incentives of actors in the WMP market Depositors - Ceiling on interest rate - Greater yield Banks - Higher interest rates - Meet loan-to-deposit ratio - Competitive advantage

Main risks regarding WMPs Systemic risk - The risk of a whole system and or industry collapsing - An increasing risk due to the sheer size Default risk - Depending on the specific product Interest risk - Maturity miss-match

Managing the risk Yihang Sanhui - The People's bank of China, the China Banking Regulatory Commission, The China Securities Regulatory Commission and the China Insurance Regulatory Commission. Cross-sectorial products, Subject to supervision from all regulatory bodies Inform the public about the risks Limits the risk of moral hazard

Regulations in recent times China's banking regulators to start to impose more control Perform internal risk inspections Who will be allowed to invest in equity and “non-standard credit assets” In total 46 new or revised regulations during 2017

Regulations going forward Regulators in china have understood that the WMP market brings with it with large risks The ambition seems to be to tighten the regulatory environment Enough to sufficiently lower the risk? Too much regulations may result in large exit of capital from the products And if funds are not put back into the products this may result in the entire system falling on its side.

Regulation goals - Circular 107 States the overreaching policy goals -> maximize the benefits and minimize the risks Add transparency and accountability to the industry. WMPs must be separated Clearly address in which sector the risk-bearing product operates in.

Analysis Pros Positive effect on the economic growth of China - Allow to finance corporations in need - Increase profits for both banks and private investors Cons Substantial share of Chinese credit Too poorly regulated Maturity mismatch High risk of default Dramatic consequences in case of default

Conclusion Has the WMP market grown too big? - Indications of the WMP market becoming too big to fail How can the government regulate the market without the sector going bust? - Loosen restrictions on deposit rates - Inform about the risk - Small gradual regulations - Smaller Bailouts

Q & A