Surging Loans to China Could Pose a Risk to Hong Kong

1. Surging Loans to China Could Pose a Risk to Hong Kong’s Economy Chris Cruse and Associates Real Estate Broker http://blogs.wsj.com/economics/2014/04/17/surging-loans-to-china-could-pose-a-risk-to-hong-kongs-economy/

3. Slowing growth in China’s massive economy has raised concerns that the rest of Asia would suffer if China continues to lose momentum. Rapid growth in lending to the mainland would seem to put Hong Kong at particular risk in case China’s economy experiences a “hard landing.” Of course, few analysts expect Chinese growth to slow sharply:. More likely is a gradual deceleration, after data Wednesday showed China’s gross domestic product growth slowed to 7.4% in the first quarter of the year, from 7.7% in the final quarter of 2014. Most analyses have focused on how slower Chinese growth would impact Asia through the trade channel. Even by that metric, Hong Kong – which sends 28% of its exports to China – would appear to be among the most exposed. Other economies with heavy export exposure to China include Singapore, Taiwan, South Korea and Vietnam, according to a recent report from Capital Economics.

4. But the greatest risk for Hong Kong would appear to be through the financial channel: Lending to mainland businesses by all authorized institutions (“AIs” in the attached chart) has surged from about 5% of total banking sector assets in 2007 to nearly 20% today, according to the Hong Kong Monetary Authority. “Given the size of Hong Kong’s economy relative to the mainland and how much it’s lending to the mainland, it does look quite worrying,” Capital Economics analyst Julian Evans-Pritchard told The Wall Street Journal. “It has become quite a large percentage of Hong Kong GDP.” Foreign-currency lending by banks in Hong Kong rose to a record 2.9 trillion Hong Kong dollars (US$368 billion) by the end of 2013, most of that to China, according to the HKMA. That’s up from just HK$486 billion in 2005, when China began loosening restrictions on its currency. In its latest Monetary and Financial Stability Report, issued last month, the HKMA called banks’ rising exposure to the mainland “a key risk factor to watch for.”

5. Total mainland-related exposure amounts to 165% of Hong Kong GDP, according to the HKMA — though it noted that 43% of the outstanding loans come from foreign banks operating in Hong Kong, rendering a comparison to the city’s GDP less relevant. In addition, some of those funds end up being used outside the mainland, the HKMA said. In any case, authorities don’t see an imminent danger. Just ahead of this week’s China GDP release, Arthur Yuen, the HKMA’s deputy chief executive officer, called a news conference to say the authority was on top of any risks from mainland loans. “Despite the absence of any early signal of credit quality deterioration, the HKMA will continue to closely monitor banks’ asset quality and ensure banks are resilient to credit loss throughout the economic cycle by maintaining strong capital positions and, where necessary and appropriate, regulatory reserves,” Mr. Yuen said in a statement.

6. Bank of America Merrill Lynch analyst Marcella Chow isn’t quite so sanguine. Though she also considers a hard landing unlikely, if Chinese growth did slow sharply, she said, “we could see a sizeable increase in nonperforming loans from the corporate loan book to mid-market enterprises and Hong Kong corporates, which may have engaged in speculative currency loans to benefit from the USD/CNY carry trade.” Ms. Chow estimates that about 30% of Hong Kong banks’ loans go to China. Stress tests conducted by Bank of America assume that about 6% of uncollateralized loans could go bad. In that case, “the spillover effect from further deterioration in the quality of Chinese nonfinancial and financial corporations could be substantial,” she said, affecting Hong Kong through trade, tourism, foreign direct investment and financial channels. But, Ms. Chow noted, Hong Kong banks appear to be proactive about managing the risks of their China exposure, “as they recognize the challenges related to collateral enforcement or the use of judicial procedures in the mainland.”

7. The real danger, said John Zhu, an economist at HSBC in Hong Kong, would come if China’s real-estate market suddenly collapsed – perhaps due to a combination of falling prices and a supply glut. Given the fact that so much of Chinese citizens’ wealth is tied up in real estate, a pricking of the real-estate bubble could set in motion a rapid downward spiral for consumption, investment and overall growth. Still, Mr. Zhu agreed with the HKMA that there’s no immediate risk to Hong Kong’s economy. “On the whole I think the risks are there, but probably contained for now,” he said. Visit our website: http://www.chriscruserealestate.com