Industry insiders have been predicting that the central bank would intervene in the auto finance market following its recent move to curb overheating in the real estate industry.

In recent years, auto loans have become part of the core business of the credit providers, coming second in importance only to real estate.

By the end of 2002, loans to individuals for auto purchase had reached 94.5 billion yuan (US$11.4 billion). In the first quarter of this year, auto loans amounted to 20 billion yuan (US$2.4 billion). This represented an increase of 11.3 billion yuan (US$1.36 billion) compared with the same period last year.

However, driven by competition in the market, the banks and auto dealers have been progressively lowering both down payments and interest rates. They have also relaxed credit checks and extended lending periods. These measures have significantly increased their exposure to the risk of bad debts.

Central Bank Investigation

"As early as last May, we had organized a special team to investigate the credit risks in Beijing's auto finance market. We also warned banks of the potential risks," said an official with the Beijing Operations Office of the central bank.

Meanwhile, the office has also been checking up on auto lending by the banks in Guangzhou and Zhengzhou.

Last May's investigation showed that the non-performing rate for auto loans had reached 15 percent. This was higher than for mortgage loans. What's more, insurance companies' loss ratios were much higher than the preceding year with some actually over 300 percent.

"Should non-performing rates exceed 20 percent, the banks will suffer dreadfully", the central bank official said.

"The potential risks of auto loans should not be underestimated, although their impact is far less than that of real estate loans", said Zhao, another official.

Previous central bank statistics released last year and reporting on the previous year, show a non-performing rate of only 1 percent. Experts attribute this result to the strict control being exercised at that time by both commercial banks and auto dealers.

However, banks started lowering their lending thresholds in late 2002. The down payments required were reduced or even cancelled. Loans were being arranged with repayment over 5-8 years rather than the 3 years that had previously been the norm. Interest rates dropped. Credit checks were less rigorous. Loan guarantees were no longer required. Loans became more and more accessible to a wider band of the population.

Impact on Auto Finance Market

The investigation by the central bank is widely expected to come as a wake-up call for the auto finance industry and to have a considerable impact on the market. It will inform the task of regulating consumption in the auto credit market and facilitate promulgation of the necessary legislation.

An official with the newly established China Banking Regulatory Commission gave an indication of what might be expected in the amended regulations. The investigation of personal credit worthiness could be placed in the hands of intermediaries like credit guarantee companies. The banks could be required to share information on individuals' credit ratings. The auto distributors, banks and insurance companies could all be involved in taking a share of the credit risk.

The central bank investigation will also facilitate the promulgation of measures for the regulation of the auto finance companies. Nowadays, auto loans are mainly provided by commercial banks, with auto finance companies yet to enter the market.

Zhao Xijun is vice director of the Finance and Securities Research Institute at Renmin University of China. He sees a number of problems currently affecting the auto market. There is a lack of regulation for checks carried out into personal credit worthiness. The current method of loan guarantee, mainly by the auto dealers and insurance companies, increases exposure to credit risk and raises the cost of borrowing. The banks are motivated by profit and fail to cooperate properly with the auto dealers. There is presently a lack of rigor in credit checks on borrowers.

"One third of private cars have been bought with the help of auto loans in recent years. The majority of buyers are young people. Thus, the establishment of a personal credit system is both necessary and urgent", said Zhao.

(China.org.cn by Tang Fuchun, July 7, 2003)