Andrew Sheng, chief advisor to the China Banking Regulatory Commission and a former Hong Kong regulator, explains the challenges facing China’s regulators as they struggle to tame volatile markets, keep tabs on fast-changing industries such as fintech and keep economnic growth in the world’s second-largest economy on track.
FinanceAsia What are the biggest developments under way in China’s capital markets?
Andrew Sheng Chinese capital markets are in a very exciting phase, having survived major stress-tests last year in the A-share market as well as volatility in the renminbi and commodity markets. It is not easy to read, but change is happening because the markets are responding to new technological, social, economic, financial and geo-political demands. Managing and regulating the second-largest economy in the world should not be under-estimated in terms of difficulty and yet not over-rated in terms of risks.
But China’s policy makers understand that given the scale and complexity of the economy, reforms need to be implemented in stages. The regulators are struggling with what they call “multi-level capital markets”, meaning that you cannot jump to the “university level” of New York or London overnight. You need to start with kindergarten (start-ups), primary school (over-the-counter equity and venture capital markets), and secondary level (tech markets brewing in Beijing, Shanghai, Hangzhou and Shenzhen). The Chinese call them Third and Fourth New Markets; they are experiments that fit the current stage of capital market development.
FA Would a financial super-regulator benefit China’s capital markets?
Sheng There is no one-size-fits-all model, as is clear when you see the diverse systems adopted in the West. Every country uses a model that aims to be functionally effective and that also suits its domestic political agenda. In China, there is already a financial system oversight council chaired by a vice premier. The central bank plays a pivotal role as the provider of banking liquidity and a deposit insurance scheme has already been approved.
In fact, the actual structure is not as important as the ability of market specialists in each field to share expertise and information.
FA How would you advise the Chinese regulators to deal with stock market volatility?
Sheng There is no fixed formula to deal with market jitters, because the turbulence comes from many different sources, some domestic, others external. One has to accept, as US economist Hyman Minsky pointed out, that stability creates its own instability, and that by allowing some small instability might prevent wilder fluctuations.
FA Has the Chinese government done enough to deepen capital markets?
Sheng You need to understand that the Chinese market is both mature and immature at the same time, with unsophisticated retail investors driving volume, interacting with pretty skilled fund managers who learned their skills abroad. On the other hand, China’s markets certainly need more participation from institutional fund managers from the insurance, pension and asset manager groups, who would be more value-driven than momentum-driven.
I believe that the time is now ripe to develop these types of institutional investor because of the need to provide more social security and pension benefits for the country’s aging population.
Household savings, if channelled to large pension and insurance funds, could be the market stabiliser that China needs.
FA How do you think regulators have performed during the recent market crises?
Sheng Regulators get a bum rap. If they avert a crisis, no one thanks them; if they fail to do so, they are blamed. How can a regulator deal with a crisis triggered by central banks that kept interest rates at zero percent for so long? Banker bashing is also unfair. The survivors of 2008 are being attacked, while those who caused or benefited from the crisis are enjoying their bonuses in better jobs with little regulation.
FA What are the main changes taking place in the wider economy?
Sheng Major structural reforms are happening on many fronts and progress has been remarkable. Maintaining 6% GDP growth in China when other leading economies are growing at only 0%-2% is no mean achievement.
In fact, the most exciting developments are taking place in fintech. In 2014, Chinese e-commerce already exceeded the US in transaction volume and size -- and it is still growing. Chinese internet platforms such as Baidu, Alibaba and Tencent are transforming the logistics, distribution, finance and the investment business models.
Basically, China is moving very rapidly into a 21st century knowledge-based service economy. Think about China as a dual economy -- one stuck in the old manufacturing supply chain model, and the other thriving in the high tech, services and domestic consumption model.
The key to reform is not just a supply side reallocation of investment, but to make sure that the income growth of the Chinese consumer is commensurate with this shift. It is no easy task, but in my view, it is already happening.
FA What are risks inherent in the fintech revolution in China?
Sheng The risks are well-known. They include reputational risk, credit risk, operational risks, cheating, market manipulation and phishing for privacy information, criminal funding and more. The fintech industry and its regulators will have to be vigilant to spot scams early and also minimize systemic failures through close supervision, especially of peer-to-peer lending platforms.
FA What are your “big picture” predictions?
Sheng The US dollar will retain its pre-eminent position for the next two to three decades. After all, it took 70 years for the dollar to supplant sterling. But three decades out, with the rise of China, India and Asean, it will be a more multi-polar financial world. Meanwhile, the adoption of fintech in these three economies will transform their productivity and income levels.
The greatest tail-risks for China are geo-politics and climate change. Even the escalation of tensions through misunderstandings could lead to an arms race. Meanwhile, economists (and the finance community) have only just begun to understand the impact of climate change.
If food security is disrupted by climate change and natural disasters, watch out for inflation erupting again, with all its social ramifications.
Why do you think people are hedging with gold these days?
Andrew Sheng is chief advisor to the CBRC and a distinguished fellow of the Fung Global Institute. The Malaysian-born trained accountant was formerly chairman of Hong Kong’s SFC and deputy CEO of the HKMA
