Inclusion of Interbank CD’s in Macro-prudential Assessments Will Have Limited Impact on Banks: PBOC

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The Chinese central bank’s recent decision to include interbank certificates of deposit in its macro-prudential assessments (MPA’s) of lenders will not have a sizeable impact upon the banking system as a whole, according to one of its leading researchers.

The People’s Bank of China recently revealed that it would include the interbank CD’s held by Chinese banks with assets in excess of 500 billion yuan in their MPA’s for the first quarter of next year.

According to PBOC this will be for the purpose of better determining the dependence of Chinese financial institutions upon interbank financing, as well as guiding financial institutions in the proper performance of liquidity management.

Xu Chengyuan, chief economist at ratings agency Dongfang Jincheng (东方金诚) said to Economic Information Daily that interbank CD’s have seen explosive growth in recent years, yet inadequate regulation has transformed them into a major source of regulatory arbitrage, as well as key tool for raising leverage levels in the Chinese finance system.

While some observers have expressed concern that the inclusion of interbank CD’s in assessments of lenders could have a sizeable adverse impact on the Chinese banking systems, Xu Zhong, head of PBOC’s research department, writes in an article for Caixin that such concerns are misplaced.

Xu notes that interbank CD’s were first formally launched in December 2013, with the goal of satisfying interbank financing demand as regulators pushed for the free market to play a greater role in setting interest rates.

The instruments possess the advantage of high levels of liquidity and transparency, while their use as a substitute for more opaque interbank deposits would be of benefit for the standardisation of transactions on China’s financial markets.

Interbank CD’s have seen particularly rapid growth since 2015, with outstanding interbank CD’s reaching in excess of 100 billion yuan by the time MPA’s were launched in 2016.

Despite their exorbitant volume, regulators opted to temporarily refrain from including them in key measures of interbank debt, in order to abet the progress of interest rate reforms, encourage the development of new products, as well as raise the independent pricing capability of financial institutions.

Xu notes that the scale of interbank deposits remains far larger than that of interbank CD’s, leaving the latter with still ample scope for growth.

According to Xu PBOC’s simulations indicate its latest decision to include interbank CD’s in macro-prudential assessments will not have a sizeable impact upon the banking sector.

Based on information provided at the end of Q2 2017, PBOC concludes that the majority of the 35 banks whose asset scope qualifies them for inclusion in interbank CD assessments would already satisfy the upgraded requirements.

Xu further points out that PBOC has left those remaining banks who would not satisfy upgraded indices at present with an ample transitional period of eight months between now and the next MPA to sort out their their interbank CD’ portfolios.

In his opinion this should be an easy task given that most interbank CD’s have terms of three months, while a small number have six month terms and only a few are for in excess of a year.

“From a dynamic perspective, the new interbank debt-asset ratios of many banks had already fallen significantly by the end of the second quarter compared to the end of the first quarter,” wrote Xu Zhong.

“It is expected that following 8 months of transitional adjustments, the pressure to  meet targets will not be significant.”

Xu further notes that PBOC has prohibited the reciprocal issuance and purchase of interbank CD’s by lenders, and that those banks that currently engage in such conduct could see their issuance qualifications temporarily suspended, which will be reflected in MPA’s.

 

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