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Financial System

Financial System. Junhui Qian 2013 November. Content. Basics The Financial System Before T he Reform The Banking System Capital Markets Stock Markets Bond Markets Other Financing Future Financial Reform. What is financial system?.

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Financial System

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  1. Financial System Junhui Qian 2013 November

  2. Content • Basics • The Financial System Before The Reform • The Banking System • Capital Markets • Stock Markets • Bond Markets • Other Financing • Future Financial Reform

  3. What is financial system? • Financial system is the collection of rules and institutions that facilitate the transfer of financial resources between savers and borrowers. • Franklin Allen and Douglas Gale in Comparing Financial Systems: "Financial systems are crucial to the allocation of resources in a modern economy. They channel household savings to the corporate sector and allocate investment funds among firms; they allow intertemporal smoothing of consumption by households and expenditures by firms; and they enable households and firms to share risks. These functions are common to the financial systems of most developed economies. Yet the form of these financial systems varies widely."

  4. Dimensions of the Financial System • Financing • Provide financing to enterprises and financial products to savers (investors). • Information • Generate information on enterprises and investment projects so that risk can be priced and resources can be efficiently allocated. • Control • Impose discipline on managers of public companies

  5. The Financial System Before The Reform • Monobank: People’s Bank of China • It is both the central bank and the commercial bank. • The monobank system collects savings, channels funds to work units according to plans. No information is generated from the process. • The role of the monobank system is passive, accommodating the needs of the planner. The monobank system does not impose discipline on managers of the work units.

  6. Financial Deepening • As the transition from the planned economy to the market economy started, more financial wealth (relative to income) had been created and held as claims on banks and enterprises. This process is often called “financial deepening”. • The financial deepening may be measured by the ratio of financial assets to national income. More conveniently, it is often measured by M2/GDP.

  7. Financial Deepening

  8. Financial Broadening • Financial broadening refers to an increase in the variety of financial institutions and instruments. • Over the past three decades, China had transformed the monobank into a sophisticated banking system, had developed stock and bond markets, derivatives market, etc. • During the development, there appeared a wide variety of institutional investors (mutual funds, insurance companies, private equities, hedge funds, etc.) and financial products.

  9. The Transition Pains • “The reform without losers” was achieved by absorbing losses by the financial system, the banking system in particular. • “The reform with losers” inflicted further pains on the stock market, which became a financing source for SOE’s. • The reform of the financial system is still ongoing.

  10. The Banking System

  11. Bank’s Dominance in Total Financing

  12. Recent Decline of Banking

  13. Bank Capital to Asset Ratio (%)

  14. The Stock Market • The Shanghai Stock Exchange was opened in 1990 and is now the 7th largest stock market by market capitalization at 2.55 USD tn. • The Shenzhen Stock Exchange was opened in 1991 and is now the 16th largest stock market by market capitalization at 1.15 USD tn. • The Hong Kong Stock Exchange is the 6th largest stock market by market cap at 2.83 USD tn.

  15. International Comparison

  16. Characteristics of the stock markets • Segmented markets (A share, B share, H share) • Low contestability • Rationing of listing opportunity (high IPO price) • Weak regulation and law enforcement • Policy-driven market • Large turnover

  17. The Shanghai Composite Index

  18. The P/E of Shanghai Stock Exchange

  19. The P/E of Shenzhen Stock Exchange

  20. The Un-Marketable Share (Shanghai)

  21. The Bond Markets • There are basically three markets for trading bonds: inter-bank, security exchanges, and OTC. • The majority of the bond trading takes place in the inter-bank market. • In security exchanges, treasury bonds, corporate bonds, and convertible bonds can be traded, with relatively low liquidity. • Repo and reverse repo operations can be conducted on high-quality bonds.

  22. Market Capitalizations of Bonds Listed in Shenzhen Stock Exchange

  23. Other Financing • Entrusted loans • Trust loans • Undiscounted bankers‘ acceptances • Informal lending

  24. Future Reforms in the Financial System • Lower the entry barrier to and increase competition in the banking industry. • Reform IPO, and strengthen law enforcement in the stock market. • Deregulate bond market and encourage bond trading in the security market. • Allow bankruptcies of SOE’s and local government financing vehicles, so that the latter no longer enjoy the sovereign credit rating.

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