The Evolution of Shadow Banking System in Emerging Economies: The Role of Entrusted Loans in China’s Capital Market

Abstract

In this paper, we analyze the Chinese economic growth model post-2008 and more notably the effect of 4 Trillion Yuan stimulus in the aftermath of the Global Financial Crisis. We look at the Chinese financial system and the credit creation mechanism in the economy. The data shows that post-2008 there has been a sudden increase in credit outside the formal banking system. We specifically focus on the o-balance sheet Entrusted Loans provided by non-bank entities via the shadow banking system. We explain the entrusted loan mechanism and the rapid increase in Non-bank credit. Our stress tests results for the 15 major banks in China indicate that the banks remain well capitalized in the case of an idiosyncratic shock, notably the SIFI’s but can experience contagion through the Interbank funding market via smaller banks.

Keywords: China, Shadow Banking, Banks, Stress Tests, Off-Balance Sheet Investment Vehicles

JEL Classification: G15, G23, G28, G38