China's banks are now stable as 'shadow' banking looks less threatening, Moody's says

Key Points
  • Moody's raised its outlook on China's banking system to stable from negative
  • Moody's said government efforts to curb shadow banking were easing risks

Moody's Investors Service no longer takes a negative view on China's banking system, raising its outlook to stable on Thursday as concerns over so-called shadow banking eased.

"The government's adoption of more coordinated policy measures to curb shadow banking will help mitigate asset risks for banks, and address some key imbalances in the financial system," Yulia Wan, a Moody's banking analyst, said in a statement on Thursday.

Shadow banking is a broad category of banking-like services from non-traditional players; it can include loans from non-financial companies as well as investment products. It is outside the bounds of normal banking regulation, so it largely goes unregulated.

People use automated teller machines (ATMs) in Beijing, China, on Tuesday, Jan. 19, 2016.
Qilai Shen | Bloomberg | Getty Images

Earlier this month, Moody's had noted that actions on shadow-banking had included the central bank changing its monetary policy setting in the last quarter of 2016 to "moderate neutral" from "moderate," which raised market funding costs and refinancing risks for banks, reducing the return from supporting long-term investments with short-term market funds.

In March and April, the China Banking Regulatory Commission also requested banks test whether their interbank liabilities would exceed the regulatory ceiling at one-third of total liabilities.

Moodys' noted in the Thursday report that there were signs of declines in outstanding wealth management products issued by the mainland's banks and fewer investments in loans and receivables among the 26 listed banks.

But it added that profit growth would be limited by continued pressure on net interest margins and slower fee-income growth on higher funding costs and stricter shadow-banking regulations.

It also noted that banks relying on short-term market funds would face lower profits and were exposed to refinancing risks.

Moody's pointed to another risk that might emerge from the shadow banking crackdown: The potential for disputes among financial institutions over the responsibility of absorbing losses on bad investments.

Wan added that non-performing loan formation rates were also expected to stay stable at current levels.

"Overall delinquency rates will stabilize as corporate profit continues to recover, helped by stable and solid economic growth, steady commodity prices and a slower increase in corporate leverage," the Moody's statement said.

Moody's said that operating conditions were also stabilizing amid government efforts to support growth, including policies to encourage investment in sectors such as infrastructure and self-occupied residential property.

China's banking system has long spurred concerns about financial stability risks, particularly as the economy grows more indebted.

In particular, analysts have been concerned that official figures were understating the true level of non-performing loans.

But Moody's noted that the Chinese government was a key shareholder of the major banks on the mainland and would likely support them in "times of stress."

That support would likely cushion any potential crisis.

Separately Thursday, Moody's kept its outlook negative for banks in Hong Kong, citing "rising private sector indebtedness."

In May, Moody's downgraded China's credit rating to A1 from Aa3, changing its outlook to stable from negative, citing concerns that efforts to support growth will spur debt growth across the economy.

—CNBC's Huileng Tan contributed to this article.