Regulations holding back financial sector’s progress

After the 2012 two sessions meeting in Beijing, local governments in Wenzhou, Tianjin, Shanghai and Chongqing began trotting out plans for financial reforms in their areas, a move which many took as a sign that the nation may soon be seeing a more developed financial market in the near future.

Unfortunately, I think China still has a long road ahead of it before its financial market reaches full maturity, as recent financial reform plans fail to address the issue of government intervention, which remains a major hurdle holding back the growth of the nation's nascent financial sector. Actually, I think a compelling case could be made that heavy-handed intervention from central planners has contributed to many of the problems currently plaguing China's financial market.

Take, for example, the rise of underground lending, which raided the official financial market and became a major headache for the government. This problem, one that many now associated with Wenzhou, arose when high government-intervened lending rates made banks reluctant to issue credit to small and medium-sized enterprises (SMEs), which stand a higher risk of defaulting on their loans than larger, State-backed firms. When central policies effectively closed the door on loans for many SMEs, the underground credit market naturally emerged to meet the financing demands of these companies.

Furthermore, with regulators continuing to largely back the credit in the financial market, local governments have shown little restraint in their use of financial tools as a means to achieve short-term economic growth and improve their political clout.

Even after more than two years of tightening monetary policy aimed at bringing down the consumer price index and deflating potential bubbles in speculative sectors, many local governments across the country still seem eager to expand their debt, knowing that the central government can be counted on to step in if a crisis emerges.

According to Pengyuan Credit Rating Co, local governments issued a total of 71 bonds in the first quarter of this year, which collected 84.5 billion yuan ($13.4 billion), up roughly 35 percent year-on-year both in terms of the number of bonds issued and the amount they raised.

In order to deal with these problems, I recommend the government gradually deregulate the financial sector to make way for market forces. Specifically, regulators should make it their goal to liberalize interest rates and lower the entry threshold for the banking industry to encourage greater competition in the financial market.