Snapshot of Chinese Banking Sector SUN Tao The People’s Bank of China May 24,2005

Contents China’s financial structure Features of China’s financial system Financial reform since 1990s Recent reform and development Keys for the success of reform

I.China’s financial structure Bank assets constitute the main part of financial assets. Financial assets mainly include currency in circulation, bank assets, shares and bonds. In China, bank assets make up a majority share. As of the end of 2004, currency in circulation, deposits and loans of the financial institutions, shares and bonds accounted for 3.9 percent, 79.7 percent, 6.7 percent and 9.3 percent respectively of the total outstanding financial assets .

Bank loan is the main channel of financing. In 2004, the fund raised by the non-financial sector (enterprises and government) through bank loans accounted for 82.9 percent. Of the total funds raised by the enterprises, bank loans accounted for 92 percent.

Broad money (M2) as a percentage of Gross Domestic Product (GDP) is high. The ratio of M2 to GDP is an indicator of the extent of a country’s financial deepening. Generally speaking, the larger this ratio, the higher the extent of monetization of the economy.

Saving rate is high and has been rising constantly Saving rate is high and has been rising constantly. China has the highest saving rate in the world. The rate was 34.3 percent in 1985, 38 percent in 1990, 40.2 percent in 2001 and 44.6 percent in 2003. High saving rate is not a bad thing by itself, but if it keeps rising, economic growth may become too much dependant on investment.

II.Features of China’s financial system Banks not only play a predominant role in the financial system but also accumulate substantial risks. The financial markets are under-developed. Much remains to be done to make the markets deeper and broader.

two major tasks remaining of the Chinese financial authorities. First, to accelerate banking reform to further strengthen the self-development capability and risk control mechanisms of the banks. Second, to advance construction of the financial market to further increase the proportion of direct financing in the economy to promote effective resource allocation and mitigate financial risks.

III.Financial system reform since 1990s First,the functions of the central bank were transformed. In late 1990’s, China Securities Regulatory Commission and China Insurance Regulatory Commission were created to take over securities and insurance market regulatory function from the PBC. In 1998, the PBC restructured its institutional set-up by replacing provincial branches with 9 inter-provincial regional branches.

Second, three policy banks, i. e Second, three policy banks, i.e. State Development Bank, China Import and Export Bank and Agricultural Development Bank of China, were set up to separate policy financing from the four state-owned commercial banks, marking the first step in the reform of state-owned commercial banks.

Third, financial regulation was reformed to help commercial banks transform their operational mechanism with a view to turn them into internationally competitive banks operating on a truly commercial basis. Measures taken in recently years include the following:

Fourth, four AMCs, namely, Xinda, China Orient, Greatwall, and Huarong, were created to take over and dispose of NPLs from the four big banks. In the past four years, a total of RMB1.4 trillion yuan was transferred to the AMCs. At end of 2004, through open tender auction, joint equity and business restructuring, registering a cash recovery rate of around 20%.

IV.Recent Reform and development Initial success was made in the pilot joint-stock reform of the state-owned commercial banks.

On December 30, 2003, the Chinese government recapitalized the Bank of China and the China Construction Bank with US$45 billion through a company called the Central Huijin Investment Co. Ltd., marking the official start of the joint-stock reform of the state-owned commercial banks.

Breakthroughs were also made in the joint-stock reform of the Bank of Communications.

On June 30, 2004, the Bank of Communications completed financial restructuring, and on August 18 further successfully concluded a deal with HSBC to secure its strategic investment in the bank, leading to an increase of capital adequacy ratio, strengthening of financial viability and profitability, and an improvement of corporate governance arrangement.

Recently, the State Council has granted approval for the share-holding reform scheme of the Industrial and Commercial Bank of China (ICBC) and the next-stage working plan for the share-holding reform of BOC and CCB. Subsequently, the focus of the share-holding reform in China’s banking industry will be shifted towards improvement of corporate governance.

the Agricultural Bank of China has also targeted joint-stock reform, with various measures taken to strengthen internal control and risk management, improve business efficiency and asset quality, so as to get itself prepared for the more profound reform.

Other banks’ reform Policy Banks RCC City commercial banks

Policy Banks Direction: -- Developing rather than policy dependency; --market oriented;

RCC Pilot program of recapitalization in eight provinces, by PBC’s issuing of special bonds,exchanging NPLs; Program enlarged to cover 21 provinces;

City commercial banks Capitalization; Strategic investors;

V. Keys for the success of reform Corporate governance; Financial ecology; Financial safety net

Corporate governance Incentive structure Hard budget constraint competition

Financial ecology Favorable legal environment is fundamental infrastructure for the enterprises to establish scientific internal control system, and represents the basic safeguards for market participants to be responsible for their own management decisions, their own profits and losses in the real sense.

beefing up efforts to promoting relevant financial legislation; Accounting and transparency; Payment system; Credit; Investor protection.

Financial safety net Prudential financial supervision LOLR Investors protection scheme

Prudential financial supervision Supervision Objectives; Supervision system; Supervision Forebearance; Supervision coordination.

LOLR Systemic financial crisis prevention; Dealing with MH.

Investors protection scheme Deposit insurance system; Security investors’ compensation scheme; Life insurance investor protection program.

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