Bad debts in the Chinese banking system are ten times higher than officially admitted, and rescue costs could reach a third of GDP within two years if the authorities let the crisis fester, Fitch Ratings has warned.

The agency said the rate of non-performing loans (NPLs) has reached between 15pc and 21pc and is rising fast as the country delays serious reform, relying instead on a fresh burst of credit to put off the day of reckoning.

It would cost up to $2.1 trillion to clean up this toxic legacy even if the state acted today, and much of this would inevitably land in the lap of the government.

“There are already signs of stress that point to NPLs being much higher than official estimates (1.8pc), most obviously the increased frequency with which the banks are writing off or offloading loans,” it said.

The banks have been shuffling losses off their balance sheets through wealth management vehicles or by classifying them as interbank credit, seemingly with the collusion of the regulators. Loans are past 90 days overdue are not always deemed bad debts.

“The longer debt grows, the greater the risk of asset quality and liquidity shocks to the banking system,” said Fitch. Capital shortfalls are currently 11pc to 20pc of GDP, but this threatens to hit 33pc in a worst case scenario by the end of 2018.

David Fuller's view

I think it is well worth reading the rest of this article, posted in the Subscriber’s Area, and if you are able access The Telegraph’s website, or just use the headline to pick the article up on the www, as is sometimes possible, you would be able to see the informative graphs which I am unable to reproduce.

I personally would certainly not ignore the sobering assessment from Fitch or the additional comments from AEP.  To briefly summarise, the probability is that China’s economy will not receive much of a lift from the recent reflationary efforts.  Instead, it may actually slow somewhat further and underperform in real terms for several more years.  This would be a headwind for China’s stock market which has underperformed since its spike peak in mid-2015. 

Additionally, if the Fitch assessment is correct, a further controlled devaluation of the Renminbi is highly likely.  This chart of CNY per 1 USD shows the Dollar appreciating against the Chinese currency.  However, we know from the ranging Dollar Index that China is weakening its currency, as we can see from the previous chart.  I would not be surprised to see a further upward break by CNY per 1 USD before yearend.  If so, this will be a headwind for other East Asian economies as China tries to improve its competitiveness.

Here is a PDF of AEP''s article.