China’s banking system has historically been dominated by large government-owned banks. However, several recent trends are challenging that status quo. For the first time, regulators have permitted non-financial companies to establish de novo private banks. Additionally, private investors have grown their stakes in small and medium-sized Chinese banks. As a result, private and privatized banks are beginning to play an important role in the financial system with the potential to improve financial inclusion and efficiency while raising new regulatory questions.
In 2014, the China Banking Regulatory Commission (CBRC) approved five new private banks.1 Two of China’s internet titans, Alibaba and Tencent, were among the companies who established banks in this first round of approvals. These five private banks now have around 115 billion renminbi ($17 billion) in assets, including 50 billion renminbi in loans. While the loans made by private banks are relatively new, their credit quality so far has been impressive. Private banks reported an average non-performing loan ratio of 0.34 percent compared to 1.75 percent for all banks in the second quarter of 2016.
Given the enormous size of China’s banking system, loans from these private banks represent less than one percent of the total universe of loans. Additionally, private banks face restrictions on growth into other business areas and geographical locations. Nonetheless, the number of private banks seems poised to grow rapidly. According to the CBRC, fourteen additional applications for private banks have been submitted, three of which have already been approved. Potential investors remain enthusiastic even though the CBRC reportedly raised entry requirements for these banks.
These banks may never grow to the size of China’s large state-owned banks, but they can have a significant impact on the banking system. Financial inclusion is one possible benefit. New private banks are targeting areas that are under-served by traditional banks, such as lending to small and medium-sized enterprises and consumers. For example, MyBank, launched by Alibaba-affiliate Ant Financial, utilizes information from Alipay to make consumer and merchant loans. Bypassing the lack of a developed credit score system in China, MyBank looks at a user’s online payments to assess their credit worthiness. As a result, the bank is able to quickly make loan determinations and give credit to those that would be typically denied a loan by larger banks. This rapidly growing new business area is quickly becoming an important market for private banks.
Establishing new banks is not the only way that private capital can enter the banking industry. Over the years, China’s city commercial banks and rural banking institutions have become increasingly privatized, although the pace is gradual. According to the CBRC, by 2015 there were more than 100 small banks where the proportion of private capital was greater than 50 percent. As shown in Table 1, more than 50 percent of city commercial banks, 70 percent of rural commercial banks, and 90 percent of rural cooperatives shares were held by private shareholders as of 2015. The growing private investment at these smaller banks has reportedly boosted capital levels and improved financial performance. However, it has also brought about new concerns for regulators to address, such as related party lending and inadequate internal controls.
Table 1 – Majority Private Capital Financial Institutions
|Type of Institution||Privately Held Shares||2015 Assets (RMB BN)||2010-15 Total Asset Growth|
|City Commercial Banks||53%||22,680||189%|
|Rural Commercial Banks||72%||15,234||551%|
There are even more regulatory issues related to the new private banks. CBRC regulators recently highlighted several risk areas at these banks, including rapid growth of off-balance sheet business and interbank exposures, and cybersecurity risks. Without an implicit government guarantee, the viability and success of private banks depends on whether they can develop robust risk management capacity commensurate with their strategy. The CBRC has reportedly required each of the private banks to draft a living will. However, the mechanisms for managing bank failure in China are new and untested.
It is still too early to judge the ultimate impact of newly established private banks and privatized financial institutions. Regulators have encouraged the flow of private capital into the banking system as a way to promote liberalization, increase efficiency, and create a more inclusive financial system. The ability of private banks and privatized financial institutions to harness technology and adopt new business models may come to have a transformative effect on the Chinese financial system. Alibaba and Tencent have already shown how they can utilize technology to revolutionize an area of finance. These two firms have come to dominate online and mobile payments in China through their apps, and now rank among the largest payment companies in the world. The disruption of the banking system is a more difficult task, but one that may ultimately have a far greater impact on the Chinese economy.
1. The five banks are KinCheng Bank of Tianjin, Shanghai HuaRui Bank, Zhejiang MYbank, Wenzhou Minshang Bank, and Qianhai WeBank in Shenzhen.