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Will China bring its 'shadow banks' out of the shadows?

Investors watch the electronic board at a stock exchange hall in Shanghai, China.

Chinese markets have been on quite a roller coaster ride, ever since the government stepped in last week and froze lending between banks. The move took aim at "shadow banking," lending that takes place outside the control of state banks. China's markets seem to have recovered, but where does the world's second biggest economy go from here?

China’s central bank reassured investors it would ease up on the credit squeeze that sent markets into panic earlier this week. But it has left a lot of economists like Will Hess, head of research at PRC Macro Advisors, wondering what’s next.

“I think what they’re preparing for is trying to clean up the financial sector so that it’s better prepared to support what I think will be a pretty large internal liberalization agenda coming up later this year," says Hess.

China’s new leadership came into power promising liberal economic reforms. Hess says this could be an early move in that direction. Instead of punishing China’s $3 trillion shadow banking sector, Hess thinks part of China’s reform will be to bring this industry out of the shadows.

Doing so would hurt China’s big state banks, but it would offer more lending options for Chinese companies that don’t belong to the government.

About the author

Rob Schmitz is Marketplace’s China correspondent in Shanghai.
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