Progress in Chinas Banking Sector Reform: Has Bank Behavior Changed

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Progress in Chinas Banking Sector ReformHas
Bank Behavior Changed?

• By
• Wing Yin Wong

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Content

• Why Banking Sector Reform is important
• Background information of the 4 SCBs BOC, CCB,
  ICBC, and ABC
• The reform timetable
• The overall performance of the Big 4 SCBs
• Conclusion

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Why Banking sector reform is important

• 1). -Underdevelopment in other financial
  institution.
• - Inefficient and political oriented lending
  practice.
• 2). - Bias to SOEs NPLs Twin Crisis.
• 3). - Discriminate lending decision toward hybrid
  sector slower growth of the economy.

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Background information of the 4 SCBs BOC, CCB,
ICBC, and ABC

• Everything began with the Peoples Bank of China
  (PBOC) in 1950. The pre-reform function of the
  banking sector was to finance the physical
  production plans through cash plan and credit
  plan.
• The first structural change began in 1978 and
  ended in 1984, when PBOC departed from the
  ministry and became the central bank.
• The delegation of its functions are as following
• The Bank of China (BOC) Foreign trade and
  investment.
• The Peoples Construction Bank of China (CCB)
  formed in 1954 Fixed investment
  (manufacturing).
• The Agriculture Bank of China (ABC) formed in
  1979 Banking business in rural areas.
• Industrial and Commercial Bank of China (ICBC)
  formed in 1984 All remain commercial
  transactions of PBOC.

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The Reform Time Table

• Recent reform was triggered by the Asian
  Financial Crisis in 1997. It alarmed the
  authorities the potential crisis raised by the
  mass NPLs build up in the banking sector,
  especially for the 4 SCBs. The total NPLs
  amounted to USD 105.1 billion in 1999, which was
  equivalent to 9.7 of GDP in the same year.
• 1999 RMB 1.4 trillion NPLs, equivalent to 14
  of the total loans of the state-owned banks and
  17 of 1999 GDP, was transferred to 4 new formed
  state-owned asset management companies (AMCs).
• 2003 An injection of USD 45 billion of foreign
  exchange reserve to two pilot banks, BOC and CCB.
• 2005 ICBC began its reform.
• 2005 (early) over USD 80 billion, equivalent of
  4.3 of GDP, was injected to ICBC.
• 2005 (June) RMB 805 billion of NPLs was
  transferred to the AMCs.

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Other reform measure

• Overall operation restructure
• Shifting loans weight from commercial loans in
  total assets toward residential mortgages and
  consumer loans.
• Downsizing ICBC has laid off more than 200,000
  employees by 2004.
• Corporate governance and ownership restructuring
  Introduced strategic investors with a minority
  ownership share.
• CCB In a deal with Bank of America Corporation
  and Temasek (2005 June)
• BOC In a deal with RBS, Merrill Lynch, and Li
  Ka Shing (2005 Sept)
• ICBC In a deal with Goldman Sachs, Allianz, and
  American Express (2006 January)

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Pricing of Credit Risk

• Among many of the reforms, authorities also had
  deregulated the lending and deposit interest
  rates, providing the banks with room to improved
  credit risk pricing. See Table 1.
• Nevertheless, most new loans were still
  contracted at or below the PBOCs benchmark rate
  in the 4th quarter of 2005.
• Furthermore, the interest rates distribution of
  the 4 SCBs remained uniform. Meaning that the
  lending decisions of these SCBs were not
  commercially oriented. See Table 2.
• The lack of a substantial increase in lending
  interest rate and variation of interest rate
  distribution may be caused by several factors
• Slow implementation of changes in sizable SCB
  operation.
• Abundant liquidity for SCB
• Constraint of changing higher interest rate to
  vulnerable client.

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Regulation of Interest Rates for Commercial Banks
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Distribution of Interest Rates Charged by SCBs
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The overall performance of the Big 4 SCBs(in
percent unless indicated otherwise)
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The overall performance of the Big 4 SCBs(in
percent unless indicated otherwise)
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The overall performance of the Big 4 SCBs(in
percent unless indicated otherwise)
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The overall performance of the Big 4 SCBs(in
percent unless indicated otherwise)
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Bank Lending and Enterprise Performance

• A fixed effect regression model is developed to
  analyze the lending behavior of the SCBs.
• growth rate of loansi,t ai ß1 ? GDPi, t-1
  ß2 growth rate of saving depositsi,t ß3
  (operating surplus/GDP)i,t ß4 (SOEs industrial
  output/industrial output)i,t ß5 growth rate of
  loansi,t-1 ß6 trendt ei,t (1)
• for panel data i 1, ... , 31 provinces and
  municipalities and t 1, ... , 8 years
  (19972004).
• Our main concern is whether banks take into
  account the performance of enterprises, measured
  by operating surplus to GDP in each province.

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Result of the regression model 1

• 1). Availability of funding (growth rate of
  saving deposit)
• -Significant and positive relationship to the
  lending growth rate for the SCBs.
• -Insignificant for the BOC and other financial
  institutions.
• 2). Enterprise performance
• -Insignificant for other financial institutions
• -significant and negative relationship to the
  lending growth rate for the SCBs, especially for
  the ICBC.
• 3). Share of SOE in output
• -Insignificant for both SCBs and other financial
  institutions. This may implies that the SCBs
  have reduced their lending to SOEs.
• 4). The lending growth rate (-1)
• -The lending growth rate of other financial
  institutions exhibit the martingale growth
  pattern, meaning the current period of lending
  growth rate is depending on the growth rate of
  last period result.

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Result of the regression model 2

• 1). Change in saving deposit market share
• -It had significantly positive correlationship
  with the market share of the 4 SCBs
• 2). Operating Surplus/GDP
• -It had significantly negative correlationship.
• -This means SCBs were losing their market share
  in those provinces which have more better
  performance enterprises. Such as Beijing,
  Fujian, Hebei and Shanghai.
• 3). Change in lending market share(-1)
• -It had significantly negative correlationship.
• -This means if the SCBs had an increase in their
  market shares in last period will probably had a
  reduction in their current period market shares.

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Conclusion

• Regarding to the NPLs issue, I think all of the
  SCBs are in the right direction. Together with
  the help of the central government, they have
  reduced their NPLs burden significantly. The
  risk of insolvency is very low, however, the
  recent increase in NPLs for ICBC and CCB should
  not be neglect.
• As to the question whether the SCBs have becoming
  more commercialized in their lending decision,
  the regression result shows that the SCBs
  lending decision have become less favor to the
  SOEs. However, there are still large room for
  improvement for the SCBs, as the second
  regression model suggests that the SCBs are still
  losing their market share on those profitable
  provinces.