“We think the chain reaction will probably start,” Cui wrote. “In the U.S., it took about a year to reach the Lehman stage when the market panicked … We assess that it may take less time in China.”
March 9th, 2014
Has China Reached its ‘Bear Stearns’ Moment?
The country’s first-ever bond default could potentially reshape the entire financial sector
In Shanghai on Friday, a solar energy equipment maker you’ve probably never heard of before, Chaori Solar Energy Science & Technology, couldn’t pay investors interest due on its bonds. In normal times, such an event might not get that much attention. But matters in China’s financial industry are far from normal these days. A dangerous build-up of debt and an explosion of risky and poorly regulated shadow banking have raised serious concerns about the health of China’s economy. That’s why the Chaori default — the first ever in China’s domestic corporate bond market — has sparked fears that the country could be headed for a full-blown economic crisis like the one that slammed Wall Street in 2008. “We believe that the market will have reached the Bear Stearns stage,” warned strategist David Cui and his team at Bank of America-Merrill Lynch in a report to investors.
The concern of Cui and others is that the Chaori default will be the tip-off point for an unravelling of China’s financial system. The default could wake investors and bankers to the realization that companies they thought were safe bets are potentially not, and they could begin to reassess other loans and investments to other corporations. In other words, they might start redefining what is and is not risky. That could then lead to a credit crunch, when nervous bankers become wary of lending money, or lending at affordable interest rates. More bankruptcies could result. That eventually causes the financial markets to lock up — and we end up transitioning from a Bear Stearns moment to a Lehman Brothers moment, when the financial sector melts down. “We think the chain reaction will probably start,” Cui wrote. “In the U.S., it took about a year to reach the Lehman stage when the market panicked … We assess that it may take less time in China.”
Such an outcome could be devastating to for China and ripple through the entire global economy. How likely is this scenario? Unfortunately, we can only tell what triggers a financial crisis after the trigger has been pulled. The general feeling among economists is that at least for now the default may not have a big impact. Chaori Solar, after all, is a much small firm than Bear Stearns was, and far less connected to other aspects of the economy.