Research / White PaperApr 18, 2022

China’s Financial System and Economy: A Review

China’s financial system is an integral part of its spectacular economic growth over the past 40 years. We review the recent literature on China’s financial system and its connections to the Chinese economy based on the categories of aggregate financing to the real economy (AFRE), a broad measure of the nation’s yearly flow of liquidity that takes into consideration the unique features of the China’s financial system. While early work on Chinese stock market and its bank sector emphasizes the state-owned enterprise (SOE) reform, the recent literature explores other more market-based financing channels—including shadow banking sectors—that have experienced rapid growth after 2010 and have become an important component of AFRE. We highlight that these new financing channels are not only intertwined with each other, but more importantly are often ultimately tied back to the dominant banking sector in China. Understanding the mechanisms behind these financial channels and their intrinsic connections is crucial to alleviate the distortion in capital allocation and to mitigate potential systemic financial risk in China.

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