By Wei Hongxu*
This year, the Chinese government work report proposed the establishment of a financial stability guarantee fund to safeguard against systemic risks. This nationwide measure has attracted attention from many parties. Some parties have different opinions on resolving the current financial risks concerning the default and local debts reduction of housing companies. On March 25, the State Council issued a government work report entitled “Implementing the Division of Labor in Key Work Departments”. The People’s Bank of China (PboC) is required to take the lead in this, while the National Development and Reform Commission (NDRC), the Ministry of Justice, the Ministry of Finance, the China Banking and Insurance Regulatory Commission (CBIRC), the China Securities Regulatory Commission (CSRC), and the State Administration of Foreign Exchange (SAFE) are among those responsible to support the government bodies. They shall complete the preparation work by the end of September while continuing to promote the initiative throughout the year.
A spokesperson for the CBIRC has recently stated that the next plan will be to study and improve relevant regulations and mechanisms for its swift establishment while accumulating backup funds for risk prevention. The spokesperson also mentioned that, in preliminary consideration, the purpose of the financial stability guarantee fund is to serve for risk prevention with systemic-hidden dangers. Along with the deposit insurance and industry guarantee funds for risk prevention, the financial stability guarantee fund is indispensable in protecting the financial safety net in China. The financial stability guarantee fund is to be differentiated across industries and entities with corresponding charges for balancing risks, benefits, and responsibilities and at the same time, preventing any possible losses to the government and taxpayers.
As of now, the financial stability guarantee fund’s objectives, reasoning, purposes, and principles, as well as a specific timeline, have been established. An overall plan for institutional settings, funding sources, and funding uses is yet available. Researchers from the ANBOUND view that despite the policy framework having been clarified, the financial stability guarantee fund is still not properly planned and arranged. The constant deliberation and changes could put the financial stability guarantee fund under uncertainty.
Firstly, it should be understood clearly the goals of the financial stability guarantee fund. From the perspective of institutional settings, there is the PBoC’s leadership with the participation of multiple bodies. It appears that the risk prevention objectives would be associated not only with the banking and insurance industries but also with non-bank financial institutions, such as trust companies, leasing entities, payment institutions, and capital markets institutions like fund management and securities companies. This is consistent with the financial stability guarantee fund’s goal of preventing risk in the financial system. At the moment, financial institutions such as banks, insurance companies, trust companies, and securities firms have acquired risk-mitigation mechanisms such as deposit insurance. Local credit risk funds have also been established by some local governments. The governing bodies may wonder if setting up the financial stability guarantee fund will conflict with the existing financial risk prevention mechanisms. Another issue for consideration is whether the financial stability guarantee fund should act as a last-resort risk shield or as a forerunner intervention for risk management. The positioning and responsibilities of various risk-prevention mechanisms also need to be clarified.
In terms of operation, some research institutions believe that the European Financial Stability Facility (EFSF) can be used as a model for a market-oriented risk prevention mechanism. Among the considerations for operating such funds are, first, appropriate market intervention during financial risks; second, preventive action plans; and third, funds provision for the recapitalization of financial institutions. Some of these responsibilities overlap with those currently held by the Chinese central bank. Once systemic risks have emerged and spread in the financial market, the central bank will always act as the “borrower of last resort”. As a result, more researchers should be conducted to determine the practicality of Europe’s financial stability policy model. Finally, the establishment of the financial stability guarantee fund primarily serves as an investor of capital reorganization in the post-event risk prevention stage, which is not entirely consistent with the market-oriented risk prevention principle. If the only goal is to raise funds to prevent systemic risks, which cannot be separated from the strong intervention of the financial supervision department, then the financial stability guarantee fund cannot fully reflect marketization.
The responsible bodies might also wonder about the funding source of the national risk protection fund and the means of its allocation. The current information show that it might be funded by market financial institutions in accordance with the deposit insurance fund model. The market is highly concerned about whether the financial stability guarantee fund will participate in it while wondering whether local finance would inject capital. Regarding the current market concerns about the real estate companies’ defaults and the resolution of local-implicit debts, the market has a high expectation of the financial stability guarantee fund. The market believes that the intervention of financial funds, especially with the intervention of local finance, could help eliminate these long-term risks.
For the researchers at ANBOUND, the financial stability guarantee fund is not comparable to a comprehensive market-oriented risk response institution. The financial stability guarantee fund has a policy role that government finance should serve as a high-probability choice to avert any embarrassing condition caused by the trust protection fund. However, there is still no conclusion on whether local financial institutions or governments shall make capital contributions. The decision to apply the funding for risk protection also remains vague. The concern would need to rationalize the fiscal system between the central and local governments to avoid more new local debts. Under the current risk prevention condition, local corporate defaults basically involve financial institutions and local governments. The financial stability guarantee fund is likely to present itself as a local and regional risk protection mechanism, which means the local and regional financial risks must be prevented rather indirectly. Local governments shall continue to deal with regional risks and territorial responsibilities.
The market is most concerned about the financial stability guarantee fund, specifically about the types of risks that could be considered systemic risks and the types of institutions that will be targeted by the fund. Another concern is whether it should be directly targeting national financial institutions to manage market entities, or conduct market interventions based on the scale of risk exposure. These issues remain to be clarified by financial regulators. Noteworthily, the creation of a financial stability guarantee fund cannot avoid the “too big to fail” interest drive of commercial-financial institutions. Bailouts, interventions, avoidance of risk contagion, and avoidance of moral hazard in financial institutions are among the challenges the financial stability guarantee fund might come across in the future. All these require the constant fine-tuning and adjustment of financial-regulatory policies.
*Wei Hongxu, A researcher at ANBOUND, graduated from the School of Mathematics at Peking University and has a PhD in economics from the University of Birmingham, UK