Dealing with Non-Performing Loans: Political Constraints and Financial Policies in China

Abstract

The stagnation in banking sector reform is puzzling given the Chinese leadership's seeming resolve to reform other sectors of the economy. This article develops a political explanation of why reform oriented central bureaucrats have centralized financial power without liberalizing the banking sector. The starting point of this explanation is that top bureaucrats value political survival as much as other members of the Politburo. Thus, they make policies based on both political and economic considerations. This framework is tested on three cases related to China's non-performing loan (NPL) problem: the politicization of the NPL problem, policies designed to slow the creation of NPLs and policies aimed at decreasing the pool of NPLs. The findings strongly suggest that political considerations play a large role in shaping financial policies in China.