Us & China

China's Credit Boom

* In response to the global financial crisis of late 2008, Beijing ramped up in bank lending to finance an infrastructure and real-estate boom. China avoided recession despite a severe reduction of exports. "

* The credit boom lasted two years. Financing expanded by 42% of GDP in both 2009 and 2010. New financing for 2011 will hit 17.5-18 trillion yuan ($2.7-2.8 trillion), equivalent to 37% or more of GDP.

* At the same time, the fixed exchange rate forced China to import the US monetary expansion. This led to inflation and real appreciation of the exchange rate.

* The resulting inflation forced China to raise reserve requirements. The past two years have seen an explosion in shadow banking activity as Beijing's monetary policy tries to navigate a path between recession and inflation.

* Today China has to control a real estate bubble, but its control of credit has been weakened by the rise of shadow banking.

Growth of shadow banking

* Creative forms of credit have increased largely which allow banks to participate in the lending boom while not exceeding their official loan quotas.

* Popular tactics include informally securitizing acceptance bills (which are normally merely short-term loans to companies made against anticipated income from a customer who has signed a contract); and entrusted loans by which banks facilitate loans made by one non-banking company to another, an activity that's technically illegal.

* The repackaging of credit is complex. The result is that the state-owned banks themselves have created a shadow banking system to conceal lending from state supervision.

* These smaller non-bank financial institutions are not only expanding credit on their own, they are also starting to interact with the banks. Many are unregulated, and unsupervised.

Wenzhou

* Wenzhou, the cradle of China's capitalist experiment, has been hit by failures of credit-squeezed small- and medium-sized enterprises. Most of these companies had borrowed at high interest rates from informal lenders--the so-called curb market--when they couldn't get bank loans. Many borrowed for real estate or other speculation. Such business failures could haunt the banks themselves since what appears to be informal lending still retain ties to the banks. "

* With so much informal credit also coming from stated owned enterprises that on-lend money borrowed from the banks, small business failures could also trigger defaults in what appear to be safe, traditional corporate loans.

Crisis

* In China, the banking system lacks transparency, and most of the big banks are predominantly state-owned. So if banks end up with a large