Risk of massive default by Chinese banks increases

Seven-fold surge in trust loans worries central government.

A huge 679% jump in lending by China’s trust companies in December has forced the China Banking Regulatory Commission, the banking sector regulator, to warn banks against the risk of default.

Trust loans, or loans typically extended to higher-risk companies such as property developers or local-government investment vehicles, rose US$42 billion from a year earlier, said the People’s Bank of China (PBOC), the central bank. One of PBOC’s goals is to limit risks in the financial system.

That amounted to 16% of total financing, including bond and stock sales. The amount of loans in China due to mature within 12 months has doubled in four years to US$545 billion, or over half China’s gross domestic product in 2011.

In China, companies resort to trust loans when they face financing troubles. A breakdown in this financing chain will eventually lead to a default on debt this year, fears some analysts.

The growth in trust loans threatens banks selling wealth-management products that include such assets should insolvencies occur.

PBOC in late December announced its new policy objective of controlling risks and said it will seek stable and appropriate growth in loans, stocks and bond sales. CBRC said this week that banks are banned from selling wealth-management products without authorization, and should stop offering private equity-related products or misleading customers into buying such investments.