Fitch Ratings today published a special report stating that credit growth in China has not slowed materially from the rapid pace in 2009, despite the fact that headline data point to a slowdown. The agency states that Chinese banks have been offloading CNY trillions in loans in 2010 by artificially reducing their holdings of discounted bills and by re-packaging the loans into investment products for sale to investors.

"Talk of a substantial slowdown in credit growth in China is premature, but understandable given the visible drop in official figures on net new loans," said Charlene Chu, head of financial institution ratings in China. "However, in reality lending has not moderated, it has been diverted into other channels."

The report examines discrepancies in Chinese banks' portfolios of discounted bills and acceptances in 2010, and provides an update on recent trends in informal securitisation, i.e. the re-packaging of loans into wealth management and trust products. According to the report, the balance of Chinese banks' discounted bills was understated by as much as CNY1.65 trillion (USD250bn) at end-Q310. Meanwhile, by end-November 2010, upwards of CNY2.5 trillion (USD 375bn) in credit was sitting off bank balance sheets in credit-related wealth management products.

"Adjusting for these factors, the amount of new credit extended through end-Q310 is on par with the CNY9.3trillion extended through end-Q309. Credit conditions remain extremely loose, which helps explain why inflation and property prices remain stubbornly high," said Chu.

The agency states that even if Chinese authorities set a conservative target of CNY6-7 trillion in new loans for 2011, credit conditions are likely to remain loose until the problem of leakage is effectively contained and/or the cost of capital rises significantly.

"An economy that will have received more than CNY11 trillion in new credit for two consecutive years cannot get by with trillions less overnight in this type of environment without seriously stunting growth. We expect that hidden channels will continue to fill this gap," said Chu.

According to the report, in recent years there has been a burgeoning of channels outside China's banking system through which credit is flowing and being hidden. Whereas in the past nearly all non-capital market funding was provided by banks, today scores of trust, finance, guarantee and leasing companies have joined the fray, in addition to 1,940 new micro lenders that have been established since late-2008.

The agency states that in this new environment even if regulators take a harsh stance against both activities in the coming months, new pathways and innovations are likely to take their place, leaving regulators and analysts chasing new channels of leakage.

"As long as Chinese policymakers continue to focus on managing credit supply, issues of credit leakage are likely to remain at least over the near term," Chu said. "However, the more serious inflation becomes, the less leeway there is to deal with large breaches in credit quotas."