BofA Merrill Lynch Researcher Warns Against China's Subprime Crisis

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Shadow banking could be fueling a subprime crisis in China, warns a senior researcher from the Bank of America Merrill Lynch Global Research.

Shadow banking is a term used to describe the use of non-bank institutions that provide services similar to banks.

[David Woo, Head of Global Rates and Currencies Research, BofA Merrill Lynch]:
“Now, the Chinese economy is becoming increasingly dependent on the local government investment vehicle as well as, basically, shadow banking. Meaning that retail investors are buying into this structural investment vehicles to fund risky loans, in properties and in other sectors. I think from one point of view, in many ways, there is a China sub-prime, basically crisis in the making.”

Woo was speaking during the BofA Merrill Lynch 2013 conference called Year Ahead in New York last Tuesday (Dec. 11th).

China’s credit market is heavily dominated by state banks. They often favor extending credit to large state-run companies. That means, for many private companies, they have to look elsewhere for loans.

This shadow banking system is loosely regulated at best.

[David Woo, Head of Global Rates and Currencies Research, BofA Merrill Lynch]:
The biggest downside risk for many people, including myself, is that something might happen with the shadow banking system. The shadow banking system has been responsible for a big part of the credit growth and the financing over the past year in particular. And I think we’ve gone to a point now, where I think people are starting to worry about the vulnerability of the whole system.

During the conference, panelists from BofA Merrill Lynch predict the global economy will pick up next year. China could play a part in that, but not in the way it did previously.

[Ethan Harris, Co-head of Global Economics Research, BofA Merrill Lynch]:
“One of the issues for China is that, when China was first embarking on this big export boom, it was a small country and it could, kind of, lean very heavily on that. But now that China is a big player in the global markets, it can’t grow the way it did, in terms of exports, so the country needs to develop more balance.“

The panel also said rising inflation in 2013 would be a problem for the Chinese economy, as well as for other developing countries.

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