China s Financial System: Developments and Challenges Jiang Wang MIT
China s Economic Growth China s GDP, International Trade and FX Reserve (USD Billion) 12,000 10,000 8,000 6,000 4,000 2,000 0 1976 1980 1984 1988 1992 1996 2000 2004 2008 2012 2016 GDP Trades Reserve 1
China s Economic Growth China s Economy in Comparison (2016.12) USD Trillion US China Japan Germany India GDP 18.57 11.20 4.94 3.47 2.26 International Trade 4.92 3.69 1.36 2.39 0.63 Trade Surplus -0.50 0.51 0.04 0.28-0.10 Foreign Reserve 0.12 3.01 1.25 0.20 0.40 Population (million) 323 1,379 127 83 1,324 GDP per capita (USD) 57,467 8,123 38,894 41,936 1,709 2
Financial Development: China and US (USD Trillion) (2016.12) Sector Bank Credit Stock Fixed Income Insurance Investment Funds Size (China) 15.45 7.32 10.43 2.19 1.32 Size (US) 12.44 27.35 39.36 8.46 19.20 % GDP (China) 137.95% 64.30% 93.12% 19.55% 11.76% % GDP (US) 67.00% 147.40% 211.95% 45.56% 103.39% 3
China s Capital Market: A Global Comparison The Size of Capital Markets of Major Economies (USD Trillion) (2016.12) US China Japan Germany UK France Stocks 27.35 7.32 5.06 1.73 3.50 3.49 Gov t Bonds 13.91 3.28 9.11 1.22 1.78 1.77 Corporate Bonds 20.73 2.99 0.67 2.19 2.09 1.67 Total 61.99 13.59 14.84 5.14 7.37 6.93 % of GDP 331.8% 121.3% 313.7% 146.9% 278.1% 278.3% GDP 18.56 11.20 4.73 3.50 2.65 2.49 4
China s Foreign Direct Investment China s Total Foreign Direct Investment (USD Billion) 1400 1200 1000 800 600 400 200 0 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 For the US, the total FDI reached USD 5.6 trillion in 2016 (at historic cost). Average around USD 200 billion per year between 1990-2016. 5
Casual Observations China has made long strides in its financial development In certain areas, the progress is very fast However, the development often lacks clear goals o Is market a goal or a tool? o Opaque, segmented and fast changing plans/rules The development is uneven across different areas The pace of progress is not consistent, words often exceed reality Many distortions still remain (although improving) o Government implicit guarantees and direct interventions o Biased prices: interest rates and stock prices o Missing/constrained markets o Segmentation from global financial markets Many fundamental/structural reforms have yet to occur o Boundaries of the government, property rights, legal system, 6
Institutional Reality 1. Government s dominance in the economic/financial landscape 1) political, social, legal 2) economic and financial 2. Main objectives of the government (central and local)/officials 1) political/social stability 2) economic growth and fair distribution 3) economic efficiency (long vs. short term goals) 4) career 3. Legacy of the planned economy/socialist sentiment 4. Existing political/social/legal environment 7
Major Reforms/Developments 1. Banking 1) opening of the banking sector 2) interest rate liberalization 3) new finance (mobile payment and banking) 2. Capital market 1) stocks 2) corporate bonds 3) derivatives 3. Globalization 1) capital account liberalization/rmb convertibility 2) capital market opening 3) investment management 8
Key Events -- Banking 1976: End of the cultural revolution, beginning of the economic reform 1984: Four state owned banks were spurn off from the central bank (PBOC); first issuance of stock shares and enterprise bonds 1986: First stock share bank established (now 12) 1995: First city bank established (now 134) 1996: RMB convertible under current accounts 2001: Joining of WTO 2002: Union Pay established (credit card) 2004: The big four banks began the process of becoming listed (on/off shore) 2013: Bank lending rates liberalized 2015: Deposit insurance established; cap on deposit rates abolished; private banks approved 2017: Establishment of Financial Stability and Development Council; centralized payment clearing system 9
Bank Assets (RMB Trillion) and ROA (%) 160.00 Major Banks Joint Stock Banks City Banks 1.6 140.00 1.4 120.00 1.2 100.00 1.0 80.00 0.8 60.00 0.6 40.00 0.4 20.00 0.2 0.00 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 0.0 10
Bank Deposit/Lending Rates 14.00 1 year Deposit Rate (Benchmark) 1 year Lending Rate (Benchmark) 1 year Deposit Rate (Min) 1 year Deposit Rate (Max) 6 month SHIBOR 12.00 10.00 8.00 6.00 4.00 2.00 0.00 1989-02 1992-02 1995-02 1998-02 2001-02 2004-02 2007-02 2010-02 2013-02 2016-02 11
WMP through Banks (RMB Trillion) Principal Guaranteed Principal Unguaranteed 35 30 25 20 15 10 5 0 Dec-13 Jun-14 Dec-14 Jun-15 Dec-15 Jun-16 Dec-16 Jun-17 12
New Finance : Mobil Payment Mobile Payment (2016.12) Transaction volume (USD trillion) 2.78 Annual growth 22% Number of mobile pay accounts (million) 469 Annual growth 31% Third-party payment license first granted in 2011. 13
New Finance : YuEBao Mobile Banking Size of YuEBao (RMB billion) FR007 (%) YuEBao (%) Current Deposit (%) 8 7 6 5 4 3 2 1 0 2013 2014 2015 2016 2017 1600 1400 1200 1000 800 600 400 200 0 YuEBao s size reached USD 211.5 billion by 2017.6.30. Vanguard s Prime Money Market Fund is ~USD 97 billion. 14
Major Events Capital Market 1981: Issuance of the first central government bond 1990: Establishment of Shanghai and Shenzhen stock exchanges 1998: Emergence of many trust, investment corporations and closed-end funds 2001: First open-end mutual fund established 2005: Split share structure reform 2010: Opening of China Financial Futures Exchange (stock index futures) 2014: Shanghai-Hong Kong connect established 2015: Corporate bond registration system implemented 2017: Fidelity s license for on shore RMB funds granted 15
Stocks Stock Market Capitalization Floating Shares (1990.12 2015.12) No. of Listed Stocks Market Cap (RMB Trillion) Number of listed stocks: 8 (1990.12) 2,774 (2015.12) Market cap (RMB trillion): 0.0006 (1990.12) 41.5 (2015.12) 16
Stocks Floating vs. Non-Floating Shares Floating vs. Non-Floating Shares (1990.12 2015.12) Market Cap (RMB Trillion) Percentage Market cap (RMB trillion): Floating: 0.0006 41.5; Non-floating: 0.0012 11.2 Percentage (%): Floating: 35 (1990.12) 79 (2015.12); Non-floating: 65 21 17
Government and Enterprise Bonds Government and Enterprise Bonds Outstanding (RMB Trillion) (1997.01 2015.12) Government Bonds Enterprise Bonds 18
Investor Structure of Bond Market (2016.12) Government Bonds Policy Bank Bonds 5.89% 11.95% Banks 12.33% Banks 15.09% Special Clearing Members 22.88% Funds 67.07% Exchanges 64.79% Others (Special Clearing Members, Credit Unions, Security Firms, Insurance, Exchanges) Enterprise Bonds Medium Term Notes 11.05% Funds 9.80% Funds 14.58% 47.69% Exchanges 9.14% 46.17% Banks Banks Insurance 26.69% Others (Special Clearing Members, Credit Unions, Security Firms, Insurance) 34.89% Others (Special Clearing Members, Credit Unions, Security Firms, Exchanges) Data Source: WIND 20
Return and Risk from Chinese Stocks Wealth Indices of Investments in the Chinese Capital Market - Stocks (Year-End 1992 = 1.00) 21
Return and Risk China Summary Statistics of Yearly Returns -- China (%) (1993.01 2015.12) Geometric Mean Arithmetic Mean Standard Deviation Large Company Stocks 6.4 18.8 60.0 Small Company Stocks 22.5 36.4 67.0 Long-Term Corporate Bonds 5.3 5.7 9.1 Long-Term Government Bonds 6.5 6.9 10.1 Short-Term Government Bonds 4.0 4.0 3.5 Inflation 4.2 4.4 6.3 22
Return and Risk US Summary Statistics of Yearly Returns US (%) (1926.01 2015.12) Geometric Mean Arithmetic Mean Standard Deviation Large Company Stocks 10.1 12.0 20.0 Small Company Stocks 12.2 16.5 32.0 Long-Term Corporate Bonds 6.1 6.3 8.4 Long-Term Government Bonds 5.7 6.0 10.0 Short-Term Government Bonds 3.5 3.5 3.1 Inflation 2.9 3.0 4.1 23
Returns on Major Stock Markets -- USD Dollar Returns on Major Stock Markets (1993 2016) Geometric Mean Arithmetic Mean Std. Dev. US Japan UK Germany France China US 0.10 0.12 0.20 1.000 0.544 0.878 0.788 0.799 0.291 Japan 0.01 0.04 0.25 1.000 0.656 0.654 0.666 0.013 UK 0.05 0.07 0.17 1.000 0.913 0.835 0.304 Germany 0.09 0.12 0.24 1.000 0.820 0.382 France 0.06 0.08 0.23 1.000 0.382 China 0.10 0.20 0.54 1.000 24
Return and Risk of Major Stock Markets USD Return (Annual) Return (Arithmetic Mean) and Risk of Major Stock Markets USD (1993-2016) 0.5 0.45 0.4 0.35 0.3 0.25 0.2 0.15 0.1 0.05 0 Return and Risk Characteristics of Main Stock Markets (in USD) (1993-2016) Different Countries Without China With China UK France 0 0.1 0.2 0.3 0.4 0.5 0.6 Data Source: BLOOMBERG, CCM, WRDS US Germany Japan Standard Deviation (Annual) China 25
Return and Risk of Major Stock Markets RMB RMB Returns on Major Stock Markets (1993-2016) Geometric Mean Arithmetic Mean Std. Dev. US Japan UK Germany France China US 0.08 0.10 0.20 1.000 0.588 0.901 0.819 0.821 0.374 Japan -0.01 0.02 0.23 1.000 0.693 0.693 0.694 0.010 UK 0.04 0.05 0.18 1.000 0.920 0.854 0.389 Germany 0.08 0.11 0.25 1.000 0.846 0.448 France 0.04 0.06 0.22 1.000 0.449 China 0.08 0.20 0.60 1.000 26
Return and Risk on Major Stock Markets RMB Return (Arithmetic Mean) and Risk on Major Stock Markets RMB (1993-2016) 0.6 Return and Risk Characteristics of Main Stock Markets (in RMB) 1993-2016 0.5 Return(Annul) 0.4 0.3 0.2 0.1 0-0.1 China US Germany UK Japan France 0 0.1 0.2 0.3 0.4 0.5 0.6 0.7 Standard Deviation(Annual) 27
2015: Stock Indices (2010-2017) 4.5 SCI SzCI SzSM GEM 4 3.5 3 2.5 2 1.5 1 0.5 0 2010 2011 2012 2013 2014 2015 2016 2017 28
PE for Each Market (2010-2017) 140 SCI SzCI SzSM GEM 120 100 80 60 40 20 0 2010 2011 2012 2013 2014 2015 2016 2017 29
Margin Trading and Short Selling (RMB Billion) 2,500.00 2,000.00 1,500.00 1,000.00 500.00 0.00 Margin Trading Short Selling % of Floating A Share 2010 2011 2012 2013 2014 2015 2016 2017 5.00 4.50 4.00 3.50 3.00 2.50 2.00 1.50 1.00 0.50 0.00 Note: Average shorting was RMB 2.71 billion and max was 8.85 billion. 30
Stock Index Futures (CSI300) 6000 5000 4000 VOLUME (left) CLOSE (left) OPEN INTEREST (right) 1. 2015.9.7: Non-hedging transaction margin raised to 40%, commission raised to 0.23%, opening transaction limited to 10 contracts per account per day. 2. 2017.2.17: Non-hedging transaction margin lowered to 20%, commission lowered to 0.092%, opening transaction raised to 20 contracts per account per day. 3. 2017.9.18: Transaction margin lowered to 15%, commission lowered to 0.069%. 300000 250000 200000 3000 150000 2000 100000 1000 50000 0 4/16/2010 4/16/2011 4/16/2012 4/16/2013 4/16/2014 4/16/2015 4/16/2016 4/16/2017 0 Data Source: WIND. Peak daily volume exceeded USD 600 billion. 31
Corporate Bonds Register Form Corporate Bonds: Issuance and Outstanding (RMB Trillion) (2008.12 -- 2016.12) Monthly Issuance Total Amount Outstanding Shanghai Stock Exchange Shenzhen Stock Exchange Shanghai Stock Exchange Shenzhen Stock Exchange 0.2 0.18 0.16 0.14 0.12 0.1 0.08 0.06 0.04 0.02 0 12/1/2008 12/1/2010 12/1/2012 12/1/2014 12/1/2016 4.5 4 3.5 3 2.5 2 1.5 1 0.5 0 12/1/2008 12/1/2010 12/1/2012 12/1/2014 12/1/2016 Outstanding: Exchange: 0.051 (2008.12) 4.128 (2016.12) (Only register-form corporate bonds. Source: CSDC) 19
Concluding Comments 1. Chinese financial system has experienced a rapid growth 2. More is needed (quantity and quality) 1) To improve allocation efficiency and social welfare 2) To facilitate the transition to a more sustainable grow model 3. Challenges 1) Clear development goals 2) Boundaries between government and market 3) Fundamental reforms: property rights, legal system 4) More coherent regulatory framework 5) Well functioning financial markets 6) Integration into the global financial system 4. Research 1) More data to shed light on existing paradigms 2) Unique problems, important in their own rights 3) Meaningful cross-section for new paradigms (e.g., role of government) 32