EF3461 The Economies of Mainland China and Hong Kong Tutorial 9 China’s Banking and Financial Sector City University of Hong Kong Dr. Isabel Yan

China’s Banking and Financial Sector References:  East Asia Analytical Unit (EAAU) (1999), “Asia’s Financial Markets: Capitalizing on Reform”  Li, Kui Wai (2000), “The Changing Economic Environment in the People’s Republic of China”  Li, Kui Wai and Ma, Jun (2001), “China’s WTO Accession and Policy Options for Banking Reform”

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 VentureBranches of Foreign Banks The People’s Bank of China Central 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)  In 1999, PBOC estimated about 25% of outstanding loans were overdue, doubtful and bad loans. This is because banks cannot choose their loan portfolio. For political reason, they have to financially bail out the financially weak state-owned enterprises.  In , the closure of a number of banks and Trust and Investment Companies (TIC), such as Guangdong International Trust and Investment Company (GITIC), has brought the debt level to a new height. Major Weaknesses of China’s Financial System

 Low capital adequacy ratio (CAR)  The capital adequacy ratio =.  The capital inadequacy of Chinese banks can be seen from the comparison of the key financial ratios of Chinese banks with foreign banks. 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-efficient.  The cost/income ratio is about 50% higher than the average of major foreign banks listed in Table 8.  Banks in China have low profitability.  The return on assets (ROA) and return on equity (ROE) are only 10 to 30 percent of the foreign banks’ average.  Lack of accurate financial statistics and the accounting standard is incomparable with international standard

 Banking Law passed in March 1995 It restructured the banking sector by formally declaring the responsibility of various banks:  The law specifically forbids the PBOC from lending to the Government. PBOC concentrates on the central bank functions which are:  Carry out monetary policy  Issue currency  Manage and supervise the country’s foreign exchange reserves  Formulate financial laws  Approving, closing and merging financial institutions  Acting as an agent for the Treasury  Supervise the securities market  Representing the country in international financial forum.  There are three policy banks established to carry out policy lending – lending that are based on the government policies rather than as a result of commercial bank decision making. Banking Reform

 Establishment of the Asset Management Companies (1998)  In an attempt to reduce the high level of non-performing loans (NPLs), each of the “big-four” state-owned commercial banks has established their Asset Management 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 these non-performing assets to local and foreign investors.

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