Chinas Economic Growth and Financial Reform

1
Chinas Economic Growth and Financial Reform

• Prof. Zhao Xijun
• School of Finance Renmin University of China
• Beijing The 9th September 2008

2
Overview of Recent Growth

• GDP 10.7 trillion Yuan RMB in the first half of
  2007, A growth of 11.5 and 0.5 faster than 2006
• CPI 3.2, 1.9 higher than 2006
• Foreign trade balance 112.5 billion US, 51.1 bn
  US more than 2006
• Regular government revenue 2.6 trillion Yuan
  RMB, A growth of 30.6 and 8.6 faster than
  previous year government expense 1.8 trillion
  Yuan RMB, a growth of 22.7 and 5.2 higher than
  2006 result 819.8 bn Yuan RMB budget surplus
  and 279.3 Yuan RMB more than the previous year

3
Some Details of Growth

• Residents available revenue 7052 yuan RMB in the
  first half of 2007 for city, a 14.2 growth and
  4 higher than 2006 2111 yuan RMB for rural, a
  13.3 growth and 1.4 higher than 2006
• Employer salary was 10990 yuan RMB, a growth rate
  of 18.5 compared to previous year
• Total social consumption was 4.2 trillion yuan
  RMB, a growth of 15.4 and 2.1 higher than 2006,
  hit a historical higher since 1997

4
Some Details of Growth

• Capital investment 5.4 trillion Yuan RMB in
  first half of 2007, a growth of 25.9 and 3.9
  lower than previous year but 2.2 higher than
  first quarter
• Foreign trade volume 980.9 billion US in the
  first half, a growth of 23.3 export grow
  27.6, 2.4 higher than 2006, import grow 18.2,
  3.1 lower than 2006 a trade balance of 112.5
  billion US, 83.1 higher than 2006 and grow
  27.9 faster

5
Some Details of Growth

• The use of FDI was 31.9 billion US in the first
  half, a growth of 12.2
• By the end of 2006, the foreign financial asset
  owned by Chinese government and private sector
  was 1626.6 billion US, a growth of 33 than
  2005 the foreign financial liability was 964.5
  billion US, a growth of 21 which made 662.1 of
  net foreign financial position, a growth of 57,
  25 of chinas GDP
• By the end of June 2007, china maintain 1332.6
  billion US as FX reserve, a growth of 41.6,
  266.3 bn US more than year end of 2006 and 144
  billion higher than the previous year

6
Economic Growth
China
World average
7
Economic Growth in China and US
8
Economy Size of Some Countries as of China
9
Added-value Breakdown
10
Growth of GDP Decomposition
11
Import, Export and GDP
12
Price Change
13
Price Change
14
Economic Growth and Price Change
15
Price change and Interest Rate
16
Money Supply
17
Driven Factors of Chinas Economic Growth

• Rich labor supply
• High national savings rate
• Labor productivity increase
• Financial reform

18
Labor
19
Labor quality and Cost

• Benefited from increase both in population and
  investment in high education, China got more high
  quality but cheap labor
• The new enrolments of university student was 5.30
  billion in 2006, 14 times than in 1978
• But the real salary grow only 5 times than 1978

20
High Education and Population
21
Growth of Salary
22
Capital formation
23
National Savings
24
Use of Foreign Capital
25
Growth of Export, Investment and Consumption
26
Deposit Savings and Stock Market
27
Growth of Stock Index
28
Growth of Stock market Value
29
Growth of Investors
30
Productivity
31
Investment in R and D
32
Growth of Private Enterprise
33
Private Enterprise and Economic Growth
34
Growth of Industrial Profit
35
Financial Reform Overview
36
China

• The reform and opening policy in financial sector
  started from the end of 1978
• From 1978 to 1984, to set up a two tier banking
  system
• In 1978, PBOC was separated from MOF and become
  the central bank
• From 1978 to 1984, four state owned banks (with
  their own business field) were established by the
  government
• In 1979, the first Trust and Investment company
  was set up and banks began to develop trust and
  investment business
• In 1980, urban and rural credit union were
  introduced
• In 1983, the first insurance company was
  separated from PBOC

37
China (cont)

• From 1985 to 1988, competition was introduced
  into financial sector
• In 1985, business barriers between four big banks
  were broken
• From 1986, new banks with investment other than
  the government were set up
• In 1986, an interbank borrowing and lending
  market was introduced, also from that year, some
  big cities started to setup trade centers for the
  trade of treasury bills and other securities
• In 1986, the duel FX rate system was abolished, a
  new FX retention system was introduced, a FX swap
  center was setup
• From 1988 to 1991, development of the stock
  market
• In December 1990, the first nation wide stock
  exchange was setup in Shanghai
• In January 1991, Shenzhen setup the second stock
  exchange

38
China (cont)

• From 1992 to present, the rapid development in
  financial sector
• From 1992, more and more new banks were setup and
  foreign banks began to enter into Chinese market,
  different types of non bank financial
  institutions were introduced into market also in
  that year
• In 1992, CSRC was separated from PBOC
• In 1994, three policy banks were established, the
  FX control system and the FX rate system was
  reformed also in that year
• In 1995, both central bank law and commercial
  bank law were promulgated by government
• In 1998, CIRC was setup
• In 1999, Completion of WTO accession negotiation,
  gradually opening of financial service industry
• In 2003, CBRC was setup
• From 2004, the four state owned banks started
  their restructuring
• From 2006, the financial service industry full
  open to foreign investors

39
System Achievements

• After 28 years reform and opening, Chinas
  financial sector has achieved 4 systematic
  improvements
• InstitutionFormed a diversified system including
  banking and non-banking, domestic and foreign
  financial institutions
• MarketFX/Money/Capital market
• Law and RegulationPBOC/CBRS/CSRC/CIRC/SAFE
• PolicyMore and more Market Oriented (interest
  rate, FX rate, open market operation, reserve
  rate, etc.)

40
Financial Institutions (as of 2005)

• Non-banking
• 4 AMCs
• 59 trust companies
• 74 finance companies
• 12 leasing companies
• 3 auto finance companies
• 131 securities companies
• 43 fund management companies
• 69 insurance companies

• Banking
• 4 SOBs
• 3 policy banks
• 12 shareholding banks
• 112 city CBs
• 8 rural cooperative banks
• 7 rural CBs
• 681 urban credit unions
• 32854 rural CUs
• 211 foreign banks
• 220 RP offices of foreign banks

41
Market Oriented Policy

• From 1998, banks credit plan was abolished and
  more market oriented policy instruments (such as
  interest rate and open market operation) was
  introduced
• Liberalization of interest rate
• Inter-bank bid/offer rate/Repo rate/Discount rate
• Interest rate on foreign currency
• More flexibilities for loans to agriculture,
  small/medium sized firms and home mortgage loan
• Shanghai Inter-bank Offered Rate (SHIBOR) was set
  up, including 8 market rates overnight/one
  week/2 weeks/one month/3 months/6 months/9
  months/one year

42
Reform of Exchange Rate of RMB
43
Period 1981.1.1 1984.12.31

• RMB exchange rate was used as an instrument in
  stimulating export and has no more relations with
  price
• RMB exchange rate was quoted publicly from the
  January 1st 1981 and was used in the settlement
  of no trade transactions
• Another internal RMB exchange rate was used in
  the settlement of trade transactions

44
Period 1985.1.1 1993.12.31

• RMB internal settlement price and public
  quotation was converged
• RMB exchange rate was adjusted gradually from
  US1 RMB?2.80, 3.20, 3.70, 4.72, 5.22, 5.80
• FX swap centers ware set up for foreign funded
  companies
• An official setting quotation existed for
  domestic companies
• Another market setting price existed in swap
  centers

45
Period 1994.1.1 2005.7.21

• Official setting price and market setting price
  ware converged
• An inter-bank FX market was set up
• The managed floating FX rate system was
  introduced
• FX retention and purchasing system was introduced
• RMB was convertible under current account
• The exchange rate between RMB and US was set as
  the base rate, and the new exchange rate was set
  as US1 RMB?8.70
• PBC was responsible in setting the daily base
  rates for financial institutions
• Financial institutions ware delegated to set up
  its own rates for transactions of its client
  based on the official settling rate and within
  some margins, say 0.25
• The maximum bid-offer differential was set to 0.5

46
Period 2005.7.21

• 2005/07/21, PBOC launched a new reform in RMB
  exchange rate system
• To abolish the hard peg to US
• To adopt a new mechanism of market based, with
  reference to a basket of currencies
• Maximum daily change for US previous days
  closing rate 0.3
• From 7pm 2005/07/21, the exchange rate of RMB
  moved from 8.27RMB/ 1US to 8.11 RMB/1US, i.e.
  an appreciation of 2
• 2007/09/12, the exchange rate was 7.55RMB/1US

47
Mechanism

• Market based based on market supply and demand
  of FX
• With reference to a basket of currencies
• Managed floating or dirty floating
• Maximum daily change for US previous days
  closing rate 0.3
• Basket currencies and their weight undeclared

48
RMB Exchange Rate
49
Reform of Banking Sector
50
Two Major Problems

• No Enough Capital
• Huge Non Performing Loan (NPL)

51
Inadequate Capital (1)

• Even according measures of old Basel Accord, the
  average weighted capital adequate ratio for major
  Chinese banks was only about 5.75 by year end of
  2003, less than 8 required by minimum regulatory
  capital adequate ratio of old Basel Accord
• The capital adequate ratio for 3 policy banks, 4
  sate-controlled banks and 11 shareholding banks
  were respectively 6.0, 5.3 and 7.4
• Much less than 12 requirement for
  internationally active banks and much much less
  than 20 requirement for top banks

52
Inadequate Capital (2)

• In 1998, 270 billion yuan RMB special bonds were
  issued by MOF and the proceeds of money were
  injected into 4 big banks as their capital, make
  their capital adequate ratio of 4.6, but by year
  2003, the ratio was again decreased to 4.28
• If we use prudent measures of the new Basel
  Accord, the capital adequate ratio for 4 big
  banks was only -2.29 after deducting all loan
  loss

53
Inadequate Capital (3)

• According to measures of old Basel Accord, there
  is a 340 billion yuan RMB gap to the 8 of
  minimum adequate ratio and a 630 billion yuan
  RMB gap to the 10 of prudent adequate ratio
• If we use measures of new Basel Accord, there is
  a 2.4 trillion yuan RMB gap to the 8 of minimum
  adequate ratio and a2.7 trillion yuan RMB gap to
  the 10 of prudent adequate ratio

54
Non Performing Loan

• In 1999, 4 state AMCs were setup, a total number
  of 1394 billion yuan RMB NPL were written down by
  4 big banks and were transferred to AMCs account,
  making their NPL ratio fall 9.2 percentage points
  by year 2000
• But the number of NPL of 4 big banks still remain
  as high as 2 trillion yuan RMB by year end of
  2003, their average NPL ratio was high as 20
• After one year financial restructuring, 2 big
  banks, BOC and CCB made some improvement, their
  NPL ratio fall to 5.12 and 3.70 respectively,
  their capital adequate ratio were increased to
  8.62 and 9.39respectively

55
Capital Adequate Ratio NPL(2004)
56
NPL in Different Economies(2004)
57
Reform of Banks
58
Bank Reform Overview (1)

• By the year end of 2003, the government decided
  to start the bank reform. 2 big banks, CCB and
  BOC started the process of restructuring and each
  got 22.5 billion US capital injection
• By middle of year 2005, ICBC, the largest
  commercial bank in china, was approved to
  restructure. ICBC got 30 billion US capital
  injection 15 bn from FX reserve and 15 bn from
  MOF (128 bn yuan RMB retained earnings were
  transferred into banks capital)

59
Bank Reform Overview (2)

• In June 2005, Bank of Communications launched its
  IPO and was listed in Hongkong Stock Exchange
• On 27th October 2005, CCB completed its IPO and
  was listed in Hongkong
• In 2006, BOC completed its international and
  domestic IPO on the 1st of June and the 5th of
  July, raised 86.7bn HK and 20bn Yuan RMB
  respectively, and listed dually in Hongkong and
  Shanghai
• On 27th October 2006, ICBC completed its AH
  syncro-IPO and dual listing, the amount proceeds
  from IPO was 19.1bn US (124.9bn HK 46.4bn
  Yuan RMB), making the largest IPO in the world
  this year

60
Bank Reform Overview (3)

• Other banks planned to IPO
• China Merchants Bank (to be listed in Hongkong)
• China Minsheng Bank (to be listed in Shanghai)
• China CITIC Bank (to be listed in Shanghai)
• China Industrial Bank (to be listed in Shanghai)
• Nanjing Commercial Bank (to be listed in
  Shanghai)
• China banking sector reform initiatives timeline
  from 1995 through

61
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62
Reform of CCB

• End of 2003, got 22.5 bn US as capital injection
• Jan. 2004, signed cooperative agreement with
  CitiGroup, CitiGroup agreed to become strategic
  investor
• June 2004, completion of financial restructuring
• September 2004, CCB shareholding company was
  setup
• 16th Mar. 2005, scandal of banks former
  president Zhang and CitiGroup withdraw from the
  cooperation
• 17th Mar. 2005, Mr. Guo was appointed as banks
  new president, make contact with Bank of
  American
• Jun 2005, BOA agreed to become CCBs strategic
  and promise to purchase 3bn US shares from CCB
  at a price of 1.15 HK per share
• 5th October 2005, start road show, IPO price from
  1.8 HK--2.15HK per share
• 10th October, IPO price increased to
  1.9HK--2.4HK per share
• 19th October, final IPO price 2.35 HK per share,
  IPO proceeds 62.2bn HK
• 27th October, listing in Hongkong Stock Exchange,
  closing price 2.35 HK/share

63
Reform of ICBC (1)

• 1998, started the process of commercialization
  write off NPL, improvement of internal control,
  introducing new IT technology, etc.
• By middle of year 2005, ICBC was approved to
  restructure, got 30 billion US capital injection
  and started restructuring
• 200000 people leaved ICBC, the number of employee
  decreased from 560000 to 360000
• The number of branch decreased from 37000 to
  18000

64
Reform of ICBC (2)

• Jan. 2006, signed agreement with Goldman Sachs,
  Alliance and American Express, the three
  companies promised to become ICBCs strategic
  investor and purchase 3.78 bn US shares from
  ICBC
• July 2006, ICBC launched its IPO in Hongkong, but
  late on, the plan was modified. The old IPO plan
  was replaced by a new AH IPO plan.
• October 2006, ICBC started its road show
• 27th October, ICBC completed its AH IPO and
  dual listing both in Shanghai and Hongkong,
  closing at 3.52 HK/share in Hongkong and
  3.28Yuan RMB/share in Shanghai

65
Remained Work

• Improvement in corporate governance, internal
  control, full-range risk management and business
  competitiveness
• Further reform in internal organizational
  structure and business processing order to
  enhance the banks management efficiency
• Full execution of cooperative agreement with
  strategic investor, especially in product
  innovation and risk management
• More progress in increasing capital ratio, asset
  quality, profitability, and the banks financial
  position
• The restructuring of the 4th state owned bank
  china agriculture bank

66
Thank you