1. 1 Chinese Banks: The Path to Reform Dan Fineman International Supervision and Analysis Federal Reserve Bank of San Francisco March 2007

2. 2 China entered the 21st century with one of Asia’s largest but least-advanced banking sectors Important reforms have been implemented that have enhanced financial sector stability But even more difficult reforms are needed to help banks catch up with the rest of the region in terms of efficiency, profitability, corporate governance and credit administration Bank reform is important for China’s long-term growth and economic health Overview

3. 3 Bank Loans vs. Corporate Bonds Outstanding Source: Bank for International Settlements, IMF Why Banks Matter RMB tr Bank loans Corporate bonds

4. 4 Reforms Implemented So Far

5. 5 Only four banks, all 100% state-owned Policy lending prevailed Little lending to consumers or private sector High non-performing loans Poor risk management The Pre-Reform System

6. 6 Big 4 Banks Market Share Source: People's Bank of China, China Bank. Reg. Commission Big 4 Monopoly Broken %

7. 7 State Recapitalizes Banks Source: Centre D'Etude Prospectives et D'Informations Internationales 1998 1999 2003 2004 2005 2007

8. 8 Major Bank Non-Performing Loans Source: China Banking Regulatory Commission Balance Sheets Cleansed

9. 9 Source: News reports, FRBSF Foreigners Rush to Buy Stakes

10. 10 Source: News reports, FRBSF calculations Most Big Banks Now Listed

11. 11 Financial Inst. Consumer Loans as Percent of Bank Loans Source: CEIC, FRBSF calculations Banks Shifting to Consumer Lending %

12. 12 Foreign banks allowed to conduct local- currency business as of this year Global banks giving China a high priority Although rapid market share gains unlikely, market liberalization is increasing pressures on local banks to reform WTO Commitments

13. 13 New regulator – China Banking Regulatory Commission Improved Supervision Tighter accounting standards Crackdown on fraud and poor banking practices

14. 14 Remaining Problems

15. 15 Bank loan growth Source: CEIC, FRBSF calculations Rapid Loan Growth Raises Concerns %

16. 16 State Ownership of Top Five Chinese Banks Source: Bank financial statements, Bloomberg Big Banks Remain in State Hands %

17. 17 Government Links to Top Five Banks of Selected Countries Source: Fitch, FRBSF Biggest State Role in Asia #

18. 18 Policy lending continues Decentralized approval process Undeveloped credit culture Inadequate credit data Problems with Credit Administration

19. 19 Interest rates not responsive to market needs Thin derivatives and capital markets Insufficient attention to profitability Market Mechanisms Weak

20. 20 More stable economic environment A more vibrant private sector Stronger consumer sector What Bank Reform Means for Business

21. 21 The pace of bank reform has accelerated the past three years The authorities are committed to further reform But serious obstacles to continued reform lie ahead. These obstacles are internal to the banks and inherent in the political and economic system Conclusion