Question

Read the attached article. Do you feel one style of banking control is more stable than the other? Why? Does one banking method minimize market volatility and risk better or is it just packaged differently? Do you feel the US (Western) Banking system can better control the patterns of behavior going forward that have caused economic damage in the past? Should the Fed continue its stimulus policy, reduce it or abandon it entirely (Google some recent articles to research this)?  (Please write ciatation, give reference , with author name, year of article, and page number)
hinese Banking System at the Dawn of Crisis? An investigation of why there are real fears that China's banks may implode by Desislava Yunakova, Invezz Writer 09:13 BST, Aug 20 2013 Let's start by first looking at how banking works. Generally speaking, banks are huge private corporations with very little assets to hand. They are housed in enormous, beautiful buildings, pay huge salaries and bonuses, give out millions to businesses and ordinary households and can still continue operating. How is this possible? Actually very easy, because banks do not have to have almost any of the money they lend every day What is also disturbing is the fact that many of us, as households, look much the same. Many of us borrow and spend money that we have not earned and that some of us neverwl. As a popular movie about banks says "money is debt". Banks constantly add zeros to their clients' accounts, decreasing their reserve ratios to values we would rather not know. So much of the money in circulation nowadays is nothing more than a promise that this enormous debt will be repaid... someday The US economy is the best example of the sick banking system that has been ruling the worlod economy for decades. What happened there when things got out of control once again in 2008?- the global economic crisis. The volume of shadow banking taking place outside banks' balance sheets had a major role in the collapse of the world's largest economy. Investors suddenly decided they no longer trusted shadow banking, non-bank financial intermediaries providing financing, and many decided to withdraw their money at once. The result - years-long economic downturn The Chinese Way The Chinese banking system has been a rather odd one compared to the western model that we are used to. For decades the People's Bank of China (PBoC), China's central bank, has been controlling the interest rates of commercial banks. The deposit interest rate is still held belowa ceiling lower than the inflation rate, preventing banks from competing for depositors' funds

Answer 1

1. From the analysis of Chinese and US(Western) Banking system it is found that Chinese banking system is more stable than the US(Western) Banking system. Banks are corporate entities engaged in collecting capital from people and distributing majority of its capital resources back to public. The money offered by Banks are used in building new projects such as schools, offices, factories, infrastructure, health centers and also repayment of previous debts by individuals and companies. The biggest problem or failure of Banking system in the past has been loan default by borrowers. Many of mortgage loans offered by US banks were never returned back by the borrowers that resulted the biggest ever banking crisis in US economic history and global financial crisis of 2007-2008. The People's Bank of China (PBOC) adopted a cautious monetary policy that restricts the deposit rates of commercial banks in China below the existing inflation rate. The PBOC's monetary policy at the same time also controlled the lending rates at 6%. The central bank of China also regulates the purchasing of government bonds by commercial banks and allows banks to lend 75% of its cash reserves to people. Before 1980s, Chinese banking system were not controlled by the government and therefore, traditional in nature. But after 1980s, the government of China adopted controlled monetary policy of US and established 240 investment banks in the country that has been financing merchant and investment activities in the country since 1980. The big four commercial banks of China i.e., E&Y, KPMG, Deloitte and PWC controls over 80% of lending operations in China. The biggest problems that banking systems of world are currently facing are liquidity crisis and shadow banking. The PBOC's monetary policy has been successful in containing the budgetary deficits of the government and also liquidity crisis in Chinese economy. Small and medium enterprises (SME) contributes 60% of total output and provides 80% of total employment of Chinese economy but they are also denied loans by the commercial banks some times. The denial of finance by commercial banks to SME sector adversely affects the prospects of this sector. The commercial banks also regulates flow of liquidity to real estate developers, state government and home buyers.

2. The Chinese banking system like US (Western) banking system too is not free from the risks of loan defaults. The government of China does not allow a single household to own more than one apartment in a particular city. This is certainly going to hit the demands of housing apartments in China as many households has investment in 5 to 8 apartments in different cities of China. The amount of loans given to real estate sector by commercial banks of China is around $666 billion, that might be defaulted by real estate developers due to fall in the housing demand in near future.

Another big problem of Chinese banking system is outstanding debts of government. Most of the investment projects of local governments are being financed by banks with soft loans. But due to project delays and cost overruns, local governments are facing difficulty in completing the projects with sanctioned loan amounts. This also raises the debt burden of the government and delay in repayment of loans to banks.

Shadow banking is the main problem both Chinese and Western banking systems are facing. Shadow banking is the banking operations of non-banking financial institutions such as credit guarantee companies. The shadow banking is widely prevalent in US and European economies but after 2009, when government of China enacted strict lending rules for commercial banks, many banks secretly established investment trusts that offered higher deposit rate than the usual bank deposit rates. These non-banking trusts (NBC) also provided unsecured loans to people. According to a survey, most of the bad debts of banks in China, US and European countries are created by shadow banking. Therefore, it can be said that no banking system in the world is free from risks and the Chinese banking system also involves some risks and it is presented in a slightly modified way.

3) The 2008 global financial crisis that had shattered the entire banking system of US was caused due to collapse of housing sector. Banks in US provided large volume of unsecured mortgage loans to individuals and institutions with poor credit scores. As a result, most of the unsecured mortgage loans provided by banks did not returned to the banking system as borrowers did not returned the loans to banks. Post 2007-2008 financial crisis, Federal government of US enacted series of measures to regulate the mortgage market, intervention of Central bank in the US capital market, safeguard the interests of both depositors and lenders. Similar moves were initiated by governments of European nations and other nations. The government measures so far has been successful in controlling the big economic crisis like 2008 financial meltdown.

4. Federal Reserves recently announced that it is going to stop its stimulus policy under which it has purchased bonds from market to provide liquidity flow in the economy. With the growth in the employment rate and falling inflation rate, continuance of stimulus package is no longer needed as per Fed's report. But many investors have apprehension of fall of stock prices if Fed stops buybacks of government bonds and reverse its expansionary monetary policy. The fall in bond price was apparent in US stock markets immediately after the Fed's announcement of rollback of its stimulus policy. Therefore, the better way is that Fed should reduce its stimulus support program but it is not advisable to completely withdraw its stimulus program.

References:

1. How Government Failure Caused the Great Recession. Politics and Public Opinion, Public Economics. The American by Mark J. Perry, Robert Dell. www.aei.org/publication/how-government-failure-caused-the-great-recession/

2. Fed to Start Unwinding Its Stimulus Next Month. The New York Times. www.nytimes.com/2013/12/19/business/economy/fed-scales-back-stimulus-campaign.html