EF3461EF3461The Economies of Mainland The Economies of Mainland

China and Hong KongChina and Hong Kong

Tutorial 9Tutorial 9China’s Banking China’s Banking

and Financial Sectorand Financial Sector

City University of Hong KongCity University of Hong KongDr. Isabel YanDr. Isabel Yan

China’s Banking and Financial SectorChina’s Banking and Financial Sector

References:References: East Asia Analytical Unit (EAAU) (1999), “Asia’s Financial East Asia Analytical Unit (EAAU) (1999), “Asia’s Financial

Markets: Capitalizing on Reform”Markets: Capitalizing on Reform” Li, Kui Wai (2000), “The Changing Economic Environment Li, Kui Wai (2000), “The Changing Economic Environment

in the People’s Republic of China”in the People’s Republic of China” Li, Kui Wai and Ma, Jun (2001), “China’s WTO Accession Li, Kui Wai and Ma, Jun (2001), “China’s WTO Accession

and Policy Options for Banking Reform”and Policy Options for Banking Reform”

Financial Structure in China (1998)Financial Structure in China (1998)

Banking

Three Policy Banks: restricted

from commercial bank businesses

State Development Bank

China Import and Export Bank

Agricultural Development Bank

Other Commercial Banks

Five National Banks e.g. China Communication Bank

Regional Banks e.g. Shenzhen Development Bank

City Banks

Foreign Banks Joint Venture Branches of Foreign Banks

The People’s Bank of ChinaCentral Bank:

heads the regulatory framework

Big four State-owned Commercial Banks

(provides >80% of finance to enterprises)

Bank of China

Industrial and Commercial Bank of China

Construction Bank of China

Agricultural Bank of China

Non-bank Financial

Institutions

Credit Cooperatives:

Offer depository, lending

and advisory services

Urban Credit Cooperatives

Rural Credit Cooperatives

Domestic Insurers

(e.g. China Pacific Insurance) Insurance Companies

Foreign Insurers

(Branches or Joint Venture)

Securities Companies

Finance Companies

Trust and Investment Companies

China International Trust and Investment Corporation (CITIC):

Merchant banking, raising overseas capital, export financing and offering investment and

trust services.

Other International Trust and Investment Com.: Deal in trust funds & property businesses

High level of bank non-performing loan (NPLs)High level of bank non-performing loan (NPLs) In 1999, PBOC estimated about 25% of outstanding loans In 1999, PBOC estimated about 25% of outstanding loans

were overdue, doubtful and bad loans. This is because banks were overdue, doubtful and bad loans. This is because banks cannot choose their loan portfolio. For political reason, they cannot choose their loan portfolio. For political reason, they have to financially bail out the financially weak state-owned have to financially bail out the financially weak state-owned enterprises.enterprises.

In 1997-1998, the closure of a number of banks and Trust In 1997-1998, the closure of a number of banks and Trust and Investment Companies (TIC), such as Guangdong and Investment Companies (TIC), such as Guangdong International Trust and Investment Company (GITIC), has International Trust and Investment Company (GITIC), has brought the debt level to a new height.brought the debt level to a new height.

Major Weaknesses of China’s Financial SystemMajor Weaknesses of China’s Financial System

Low capital adequacy ratio (CAR)Low capital adequacy ratio (CAR) The capital adequacy ratio = .The capital adequacy ratio = . The capital inadequacy of Chinese banks can be seen from The capital inadequacy of Chinese banks can be seen from

the comparison of the key financial ratios of Chinese banks the comparison of the key financial ratios of Chinese banks

with foreign banks.with foreign banks.

assetstotal

equity

Note: The virtue bank is constructed by taking the weighted sum of eight Chinese banks, using the proportion of total asset of each bank as weight.

Banks in China are not cost-efficientBanks in China are not cost-efficient.. The cost/income ratio is about 50% higher than the average The cost/income ratio is about 50% higher than the average

of major foreign banks listed in Table 8.of major foreign banks listed in Table 8.

Banks in China have low profitabilityBanks in China have low profitability.. The return on assets (ROA) and return on equity (ROE) are The return on assets (ROA) and return on equity (ROE) are

only 10 to 30 percent of the foreign banks’ average.only 10 to 30 percent of the foreign banks’ average.

Lack of accurate financial statistics and the accounting Lack of accurate financial statistics and the accounting

standard is incomparable with international standardstandard is incomparable with international standard

Banking Law passed in March 1995Banking Law passed in March 1995It restructured the banking sector by formally declaring the It restructured the banking sector by formally declaring the responsibility of various banks:responsibility of various banks: The law specifically forbids the PBOC from lending to the The law specifically forbids the PBOC from lending to the

Government. PBOC concentrates on the central bank Government. PBOC concentrates on the central bank functions which are:functions which are:

Carry out monetary policyCarry out monetary policy Issue currencyIssue currency Manage and supervise the country’s foreign exchange reservesManage and supervise the country’s foreign exchange reserves Formulate financial lawsFormulate financial laws Approving, closing and merging financial institutionsApproving, closing and merging financial institutions Acting as an agent for the TreasuryActing as an agent for the Treasury Supervise the securities marketSupervise the securities market Representing the country in international financial forum.Representing the country in international financial forum.

There are three policy banks established to carry out policy There are three policy banks established to carry out policy lending – lending that are based on the government policies lending – lending that are based on the government policies rather than as a result of commercial bank decision making.rather than as a result of commercial bank decision making.

Banking ReformBanking Reform

Establishment of the Asset Management Companies Establishment of the Asset Management Companies (1998)(1998) In an attempt to reduce the high level of non-performing In an attempt to reduce the high level of non-performing

loans (NPLs), each of the “big-four” state-owned loans (NPLs), each of the “big-four” state-owned commercial banks has established their Asset Management commercial banks has established their Asset Management Companies (AMCs) to buy up a total close to RMB 1.4 Companies (AMCs) to buy up a total close to RMB 1.4 trillion of their NPLs by the end of 2000 in order to transfer trillion of their NPLs by the end of 2000 in order to transfer these non-performing assets to local and foreign investors.these non-performing assets to local and foreign investors.

The Bank of International Settlement (BIS) Accord The Bank of International Settlement (BIS) Accord (2004)(2004)

To rectify the problem of inaccurate financial statistics To rectify the problem of inaccurate financial statistics reported by the Chinese banks, the new Bank of International reported by the Chinese banks, the new Bank of International Settlement (BIS) accord will come into force in 2004. Under Settlement (BIS) accord will come into force in 2004. Under this accord, the PBOC will introduce effective prudential this accord, the PBOC will introduce effective prudential controls to ensure the accounting standards of Chinese Banks controls to ensure the accounting standards of Chinese Banks match the 25 core principles of BIS. This can help the match the 25 core principles of BIS. This can help the authority of China to work out the true accounting picture of authority of China to work out the true accounting picture of the Chinese banks.the Chinese banks.