The pot and the kettle

When they saw America's debt rating being lowered to AA+, the Chinese had some very mixed feelings. Quite a few were certainly amused to watch the monetary superpower being left at the mercy of volatile international markets.

Yet, as we know, it also happens to be the case that the Chinese have parked for almost $1.2 trillion in the American Treasury: A pretty big chunk of China's $3.1 trillion foreign exchange reserve. But what matters more, is that the People's Republic itself sinks increasingly into the red figures, and because of the murkiness of its domestic lending, it does not have much reason to chide the United States.

At first glance, China's national savings of $3.2 trillion are massive. They exceed those of the United States and the European Union. Only half of what households put aside, is kept on bank accounts. So, there is a lot more of savings that go unreported. Chinese citizens have a good reason to keep the money under their mattress: As a developing country, China might be spending more than it should and often also on projects of rather dubious value.

Let us depart from this breathtaking $3.2 trillion in national savings. About $ 1.1 trillion is sliced away by the central government that asks banks to buy its bonds in order to build high-speed railways, electricity grids, etc.

The National Audit Office reports that local governments take another $1.6 to 2.2 trillion. Added to that, Chinese banks lend massive amounts, some assume much as $1.5 trillion, to large state-owned companies, often at very low interest rates. But there is another circuit used to finance those national champions: the stock markets of Shanghai and Shenzhen.

All the largest listings here are again those by state-owned companies. The largest share owners are unsurprisingly big state-owned banks and other state-owned companies. The two stock markets have thus become self-serving casinos for a selected club of big industries, with Chinese banks once again gambling with households' money.

The word gambling is appropriate. Chinese stock markets lack transparency and listed firms are not always audited properly. Instead of departing from the true competitiveness of listed firms, decisions to invest or lend usually depend on personal contacts between captains of big companies and banks, government instructions, and the expectation that state-owned companies will gain from government policies: large infrastructure projects, investment in new technologies, etc.

That also applies to the granting of loans. Even officials of the National Development and Reform Commission once confided me that banks hardly study the books of those enterprises that ask for credit, as long as they can demonstrate that they will benefit from one or another government decision.

That banks lend money is, of course, a normal thing. What is less normal is that they are often expected to do so at artificially low interest rates. It is also peculiar that lending is more guided by political parameters than by the benchmarks of economic sustainability and profitability.

It is here that the shoe pinches. At least 3 percent of loans to state-owned industries is non-performing and has to be written off. Cheap loans also encourage national champions to invest in activities that could not be sustainable without the very low interest rates.

A bigger worry even is the credit extended to funding vehicles of local governments. Here the losses could be as high as 23 percent, with another 50 percent at risk of cash default. Those governments cannot repay their dues because infrastructure falls short in generating the expected economic growth and revenues. Such infrastructure is not necessarily wasted. An avenue that stays empty today could well be jammed in a decade or so. The matter is rather that in their quest for growth, stability, and prestige, local governments became too adventurous and borrowed more than they can repay on time.

So, yes, the West will have to make up for credit-card capitalism, in America's case, and welfare on tick, as regards Europe. But for a developing country, China's current lending spree too could compromise its future prosperity and exacerbate setbacks whenever they occur.

Even if banks boast that they have many times more on their deposits than that they expect to loose from non-performing loans; that does not mean that all this will come available if a crunch were to happen. For all the trumpeting, the West's financial mayhem is by no means China's victory march.

The author is research fellow at the Brussels Institute of Contemporary China Studies