New Regulations on Asset Management, Shadow Banking and High-Quality Economic Development, a paper co-authored by our school’s Associate Professor Peng Yuchao and PhD student He Shan, was published in the 2020 1st Issue of Journal of World Economy.
Due to a lack of collateral and relatively high operational risks, SMEs and private enterprises are subject to more severe credit constraints, and find it very difficult to have their financing demand satisfied through regular financing channels. Some large non-financial enterprises transferred excessive loans obtained from banks to SMEs and private enterprises through shadow banking, in effect acting as credit intermediaries. Shadow banking provides an extra financing channel for enterprises. But if investors in such practice are overly reliant on this business, they will ignore their principal operations, resulting in the phenomenon of money flowing out of the real economy and into the virtual one. In order to stop this trend, the new regulations on asset management released in April 2018 set forth specific requirements for the definition of qualified investors, removal of rigid payments, elimination of funding pool operations, settlement of multi-layered repackaging of loans, and suppression of channeling, which raised the bar for participation in shadow banking, lowered the expected returns of bank assets, and curbed the capability and motivation of enterprises to participate in shadow banking. The new regulations restricted shadow banking activities and repressed the trend of money flowing out of the real economy and into the virtual one. However, after the release of the new regulations, China saw a speedier decline in fixed asset investment, and first rising and then falling output, with the effectiveness of monetary policy dropping. That is to say, although the new regulations on asset management succeeded in restricting shadow banking, the real economy deteriorated and the effectiveness of monetary policy also declined.
To explain this phenomenon, the paper makes an endogenous analysis of enterprises’ capital investment behaviors, and probes in detail into the effect of shadow banking activities on resource allocation efficiency and the effectiveness of monetary policy through steady-state analysis and transitional dynamics. It finds that curbing shadow banking reduced the marginal return on capital. This, on the one hand, suppressed total investment, lowered total output, and weakened the stimulating effect of loose monetary policy on investment; but on the other hand, it concentrated social capital on highly efficient manufacturers and enhanced resource allocation efficiency. It is found through dynamic analysis that after the release of the said new regulations, the restriction of shadow banking improved social resource allocation efficiency in the short term and pushed up output temporarily; but in the long term, it lowered the amount of capital held in society and suppressed economic growth. This was consistent with the phenomenon of falling investments, and first rising and then dropping output after the new regulations were issued.
This paper has made the following marginal contributions: First, it depicts in detail the behaviors of enterprises participating in shadow banking from the angle of enterprises based on a theoretical model, and finds that changing the marginal return on capital is the main channel through which shadow banking affects enterprises’ investment decision-making, enriching relevant studies on this subject. Second, it analyzes the impact of the new asset management regulations on the macro economy with a theoretical model, and effectively explains the economic phenomena after the release of the regulations, filling the gap in this research area. Third, it compares the different roles of monetary policy in economic systems with or without shadow banking, and reveals the key channels through which shadow banking affects monetary policy. Fourth, it looks into the effect of shadow banking on resource allocation efficiency, and how the new regulations on asset management has promoted high-quality economic development.
Although the new regulations have curbed shadow banking and boosted the quality of economic development, such a one-stop regulatory approach has also incurred certain economic costs. The main reason why shadow banking arises lies in banks’ differentiated credit policies, which is a spontaneous market behavior in an environment with financing constraints, and can broaden the financing channels for SMEs and private enterprises. Therefore, it comes up with the policy advice that vigorously developing a multi-tiered financial market, reducing differentiated credit policies of banks, and widening financing channels for SMEs and private enterprises are the real fundamental solution. Policymakers shall both remove obstacles and crack down on irregularities, straighten out the transmission mechanism of monetary policy to SMEs and private enterprises while curbing shadow banking, truly solve the financing difficulties of these enterprises, and enhance the effect of finance serving the real economy.
