China's credit bubble will burst, warns BIS

Excessive lending by China’s banks could lead to a financial crisis in the next three years, according to a report by the Bank for International Settlements (BIS).

The report, published on Sunday, said the manufacturing giant is showing signs of financial overheating with their credit to gross domestic product (GDP) gap hitting 30.1 in the first quarter of this year.

BIS said any level above 10 suggests that a crisis is will occur “in any of the three years ahead”.

In August China’s banks more than double lending from the previous month, with much of the demand coming in for mortgages. More is being lent to home buyers and developers than at any time since the global financial crisis in 2008.

New data from China's National Bureau of Statistics on Monday showed Beijing's efforts to cool the housing market are failing to have much effect, with prices of new homes increased in 64 of the 70 tracked cities and a 33% annual rise in the value of new home sales in August.

The BIS noted that outstanding debt in China rose to 255% of GDP in 2015, which was largely fuelled by a rise in corporate borrowing by 220% compared to two years ago.

There was “potential concern” over the estimated debt service ratio, which measures principal and interest payments relative to income.

In terms of the country’s future banking policies, economists expect China to keeping the fiscal tap flowing in the second half and through 2017, despite having front-loaded spending earlier this year.

As China switches over from monetary easing to expansionary fiscal policy in order to restore growth in the region, Bloomberg found most economists believe the central government’s fiscal deficit will surpass the target of 3% of gross domestic product (GDP) set for 2016.

According to Bloomberg calculations China has already spent 594bn yuan more than it gained in the first eight months of 2016.

Yet the official central budget is just the tip of the iceberg. The International Monetary Fund estimates China’s augmented fiscal deficit at 10.1% of GDP this year. Policy lenders have gathered at least 2trn yuan in new financing for lending this year.

UK banking - a lot to lose?

Banks in Britain, on the other hand, are the largest borrowers and lenders of euro outside the single currency area, according to BIS figures.

Britain’s vote to leave the EU in June focused attention to the role of London in the European and international banking system.

“The United Kingdom has a particularly important role as a redistribution hub for euro-denominated funds,” the BIS said.

Banks in the UK reported a total cross-border lending worth $4.5trn ahead of Japan and the US and is the second-biggest recipient of cross border bank credit at $3.8trn.

Banks in Britain accounted for 54% of all worldwide euro-denominated claims booked outside the euro area and 60% of all liabilities.

“Indeed, ever since the launch of the single currency, euro-denominated positions have been a major part of the cross-border portfolios of banks located in the United Kingdom,” the BIS said.

Banks from EU countries had claims worth $1.3trn on 56% of foreign claims on UK residents.