Can The Chinese Bond Market Facilitate A Globalizing Renminbi?

Guonan Ma and Wang Yao

Iftekhar Hasan

• Goal: RMB is a Global Currency

• How? Consolidate Public Sector Liabilities

• Externality: Banks get a Lower Required Reserve Ratio

• Large Government Bond Market – Investor Base, Liquidity, Global Pareticipation.

• Assumptions and End Results are very Optimistic

• Authors are Experts in this field:

• Ma (2007), Ma and McCauley (2014), Ma and McCauley (2013), Ma and McCauley (2008) – Openness and Capital control

• Ma, Yan and Liu (2013) – RR Practices• Ma, Remolona and Jianxiong (2006) Corporate

Bond Markets• McCauley and Ma (2015)- Consolidating

Public Sector Debts in China.• [McCauley (2003), McCauley and Remolona

(2000) – Unifying Bond Markets; Size and Liquidity of Government Bond Markets]

The Importance of Bond Market

Why develop bond market?

1. It finances fiscal deficits (Government Bond Markets).

2. It finances large investment projects (scope for risk-sharing; bond contracts are tradable).

3. It makes financial markets more complete by generating market interest rates that reflect the opportunity cost of funds at each maturity.

The Importance of Bond Market

4. Vibrant bond markets create alternative financing channels and reduce firms’ reliance on global equity investment inflows and banks.

5. It helps risk management (mis-match asset and liability, foreign exchange risk).

6. It puts providers and users of capital together and makes the credit evaluation process more transparent.

7. This is true for both fiscal deficit and fiscal surplus countries.

Sample Description

Our estimations are all based on the following groups:

Groups in MarketNo. of Countries in the

Group

Group1: Only Stock Market 68Group2: Both Bond and Stock Market 49Group2A: Strong Stock Market with Weak Bond Market 17Group2B: Strong Stock Market with Strong Bond Market 17Group2C: Weak Stock Market with Weak Bond Market 8Group2D: Weak Stock Market with Strong Bond Market 7

*All Markets have Banks.*Strong market means developed market; Weak market means less developed market.

Part 1: The absence of bond markets: Implication on Stock

Market 1. Stock Liquidity 2. Information Content of Stocks

Bond Market and Stock Market Liquidity

GroupOverall Stock Market

Liquidity Group1: Only Stock Market 0.242Group2: Both Bond and Stock Market 0.435Group2-Group1 0.193***

Group2A: Strong Stock Market with Weak Bond Market 0.721

Group2B: Strong Stock Market with Strong Bond Market 0.761Group2B-Group2A 0.04

Group2C: Weak Stock Market with Weak Bond Market 0.394

Group2D: Weak Stock Market with Strong Bond Market 0.526Group2D-Group2C 0.131***

We use turnover to measure stock liquidity. Stock turnover: The number of shares traded divided by the

number of outstanding shares.

Stock Return Synchronicity: a case of WACHOVIA

Stock Return Synchronicity: a case of BANK OF CHINA

Target Stock Exchange

Information Content Change of Acquiring

Stock Exchange

Idiosyncratic Risk Change of Acquiring

Stock Exchange

Equity Volatility Change of Acquiring

Stock Exchange

Group1: Only Stock Market

0.232** -0.014* -0.089**

Group2: Both Bond and Stock Market

0.402*** -0.027* -0.109**

Group2-Group1 0.17** -0.013* -0.02

Bond Market and Stock Exchange Consolidation

---Information Content

Bond Market and the Cost of Corporate Borrowing

Groups Loan Spread (basis points)

Loan Size ($ mil)

Loan Maturity (month) Collateral

Group1: Only Stock Market 187 152 56 0.21Group2: Both Bond and Stock Market 160 221 65 0.17Group2-Group1 -27*** 69*** 9** -0.1***

Group2A: Strong Stock Market with Weak Bond Market 146 179 63 0.19

Group2B: Strong Stock Market with Strong Bond Market 157 287 64 0.17

Group2B-Group2A 11 108*** 1 -0.02

Group2C: Weak Stock Market with Weak Bond Market 195 176 61 0.16

Group2D: Weak Stock Market with Strong Bond Market 164 212 73 0.12

Group2D-Group2C -31** 36** 12* -0.05**

Cost of Corporate Borrowing---Before and After the Establishment of Bond Market

 Loan Spread (basis points)

Loan Size ($ mil)

Loan Maturity (month) Collateral

One year before bond market established 243 158 70 0.23

One year after bond market established 214 226 80 0.17

After-Before -29** 68*** 10** -0.06

GroupForeign Lenders' Portfolio Share

in the Country Group (%)

Group1: Only Stock Market 11.1

Group2: Both Bond and Stock Market 23.4

Group2-Group1 12.3***

Group2A: Strong Stock Market with Weak Bond Market 24.3

Group2B: Strong Stock Market with Strong Bond Market 28.9

Group2B-Group2A 4.6**

Group2C: Weak Stock Market with Weak Bond Market 14.7

Group2D: Weak Stock Market with Strong Bond Market 19.2

Group2D-Group2C 4.5**

Finding: Foreign lenders allocate lower fraction of their lending portfolio in the countries with no or weak bond market.

Bond Market and Attraction to Foreign Lending

Foreign Lenders' Portfolio Share in the Country Group (%)

One year before bond market established 15.8One year after bond market established 26.2After-Before 10.4***

Finding: Foreign lenders allocate significantly higher fraction of their lending portfolio in the country after the bond market is established.

Attraction to Foreign Lending---Before and After the Establishment of Bond Market

Group One Year after Subpreme CrisisChange in Lenders' Portfolio Share in the

Country Group (%)Group1: Only Stock Market -3.6**Group2: Both Bond and Stock Market -2.4**Group2-Group1 1.2**Group2A: Strong Stock Market with Weak Bond Market -0.9Group2B: Strong Stock Market with Strong Bond Market -0.7Group2B-Group2A 0.2Group2C: Weak Stock Market with Weak Bond Market -2.83***Group2D: Weak Stock Market with Strong Bond Market -2.16***Group2D-Group2C 0.67*

Bond Market and Lenders’ Response to Financial Crisis

Bond Market and Cost of Going Public

Group #IPOsUnderpricing

(%)

Money left on the

table($mil)Group1: Only Stock Market 69 34.57 47.08Group2: Both Bond and Stock Market 90 16.79 10.44Group2-Group1 21** -17.78*** -36.64***

Group2A: Strong Stock Market with Weak Bond Market 52 8.14 30.71Group2B: Strong Stock Market with Strong Bond Market

94 2.21 10.84

Group2B-Group2A 42*** -5.93** -19.87**

Group2C: Weak Stock Market with Weak Bond Market 2 54.99 70.49

Group2D: Weak Stock Market with Strong Bond Market 25 18.07 25.80Group2D-Group2C 23** -36.92*** -44.69***

First-day return: percentage change from the offer price to the closing price.

Money left on the table: (Closing pricing on the first day of trading-offer price)* # of shares.

Any Other Perspectives?

What is the Gain and Loss with a Faster or Normal Speed of RMB as a Global Currency? Any Time Frame with the Current Course? Real Effects Alternatives?

The paper used at least 10 times about relative ranking, why and how it is important in the economic outcome?

Is the Liability Swap and the Associated mechanism Risk Free? What are the Risks? RRR 18-9? While Sovereign Back up the Development Bank Bonds!

Any Other Perspectives ?

Comparisons with Other Asian or Even Developed Countries may not be effective way to argue all the times if that means to be Critical with giving Credits.

Is the Liability Swap and the Associated mechanism Risk Free? What are the Risks? RRR 18-9? While Sovereign Back up the Development Bank Bonds!

Conclusions

I still give authors BIG CREDIT for being passionate about ways to propose efficient to resolve regulatory fragmentation, i.e., create a larger Government Bond Market (transforming the non-tradable captive Central bank Liability), creating larger investor base, especially foreign investors, boosting liquidity, facilitating a Global RMB.

A Balanced Evaluation would further strengthen the claims.