Skip to main content

Chinese paramilitary policemen stand on duty outside the People's Bank of China in Beijing, China

Ng Han Guan/ASSOCIATED PRESS

Europe's financial sector woes have been pushed from the headlines by Chinese banks, which suddenly find themselves wrestling with a liquidity crisis.

Earlier this week Chinese interbank lending rates – the rates that the banks charge to borrow from one another – reportedly shot as high as 28 per cent after financial institutions started hoarding their cash. Because they staunched the supply of credit, anyone who wanted to borrow had to pay a hefty price.

The financial crisis in 2008 began in a similar fashion, and the situation quickly spiralled out of control, ultimately sending Lehman Brothers into bankruptcy.

Story continues below advertisement

Luckily the situation isn't so dire this time around, and for good reason: the government actually hoped this would happen. For months there have been concerns about the volume of debt that is sloshing through the Chinese economy, so the People's Bank of China limited the amount of cash they injected into the banking system.

China's shadow banking sector – comprised of institutions that lend to people like property developers – has grown astronomically, and the credit bubble has fuelled speculation that the financial sector could come crashing down if the economy cools and loan defaults spread like wildfire.

After the government turned off the cash taps, the banks cut back on how much they lend. The problem is that China's financial sector – and economy in general – is such a black box that suddenly people started freaking out and borrowing rates skyrocketed.

By the end of Thursday, interbank borrowing rates jumped to 11.6 per cent and one individual loan was inked at 28 per cent – an astronomical rate that spooked investors.

Making things worse, this confusion spread at precisely the same time the global markets came off their morphine drip better known as the Federal Reserve's bond buying program, adding to negative investor sentiment.

The good news is that the Chinese government got the message: act now, before the situation gets out of hand. On Friday morning the People's Bank of China started pushing more cash into the system, and it asked banks not to hoard their reserves. Interbank borrowing rates quickly fell, relieving some of the system stress.

However, this does little to solve the long-term problem. China has an unbelievable amount of debt circling through its financial system, and at some point the government will need to curtail how much is being lent out – the same way the Fed has to, at some point, end its bond buying.

Story continues below advertisement

How successfully China does this could very well determine whether its financial sector stays strong.

(Tim Kiladze is a Globe and Mail Reporter.)

Return to Streetwise home page.

The Globe has launched a Streetwise and ROB Insight newsletter, with content available exclusively to subscribers of Globe Unlimited. Get the best of our exclusive insight and analysis delivered straight to your inbox in a daily e-mail curated by our editors. Sign up for it and other newsletters on our newsletters and alerts page.

Report an error Editorial code of conduct
Comments

Welcome to The Globe and Mail’s comment community. This is a space where subscribers can engage with each other and Globe staff. Non-subscribers can read and sort comments but will not be able to engage with them in any way. Click here to subscribe.

If you would like to write a letter to the editor, please forward it to letters@globeandmail.com. Readers can also interact with The Globe on Facebook and Twitter .

Welcome to The Globe and Mail’s comment community. This is a space where subscribers can engage with each other and Globe staff. Non-subscribers can read and sort comments but will not be able to engage with them in any way. Click here to subscribe.

If you would like to write a letter to the editor, please forward it to letters@globeandmail.com. Readers can also interact with The Globe on Facebook and Twitter .

Welcome to The Globe and Mail’s comment community. This is a space where subscribers can engage with each other and Globe staff.

We aim to create a safe and valuable space for discussion and debate. That means:

  • All comments will be reviewed by one or more moderators before being posted to the site. This should only take a few moments.
  • Treat others as you wish to be treated
  • Criticize ideas, not people
  • Stay on topic
  • Avoid the use of toxic and offensive language
  • Flag bad behaviour

Comments that violate our community guidelines will be removed. Commenters who repeatedly violate community guidelines may be suspended, causing them to temporarily lose their ability to engage with comments.

Read our community guidelines here

Discussion loading ...

Due to technical reasons, we have temporarily removed commenting from our articles. We hope to have this fixed soon. Thank you for your patience. If you are looking to give feedback on our new site, please send it along to feedback@globeandmail.com. If you want to write a letter to the editor, please forward to letters@globeandmail.com.
Cannabis pro newsletter