China’s Financial Development,  Reforms and Challenges Chun Chang Professor of Finance China Europe International Business...
<ul><li>China’s Latest Financial Reforms and Development </li></ul>
Source: CICC Research Financial Regulatory Structure China’s Financial System The State Council CBRC CSRC Commercial Banks...
Heavy Reliance on Bank Financing (2006) Source: CEIC; CICC Research China’s Financial System
<ul><li>Japan-Germany-like Financial Structure </li></ul><ul><ul><li>Financial assets concentrated in the banking system <...
The State’s Dominance of the Banking Industry (Assets, 2006) Source: The Statistics Quarterly PBOC China’s Financial System
Banks in China  <ul><li>State-owned banks: ICBC, CCB, BOC, CAB </li></ul><ul><li>Joint stock banks: Bank of Communication,...
<ul><li>Progress in Banking Reform </li></ul><ul><ul><li>Recapitalization of state banks </li></ul></ul><ul><ul><ul><li>4 ...
<ul><li>Progress in Banking Reform (2) </li></ul><ul><ul><li>Brought in foreign strategic investors before IPO </li></ul><...
China’s Financial System Comparison of Chinese and Foreign Banks 2002 Source: Banks’ Annual Reports, CICC Research
China’s Financial System Comparison of Chinese and Foreign Banks 2005 Source: Banks’ Annual Reports, CICC Research
ROA & ROE of Listed Chinese Banks 2006, 2007   ROA ROE   Year 2006 First half year of 2007 Year 2006 First half year of 20...
Nonperforming Loans of Chinese Banks
<ul><li>Chinese Capital Markets </li></ul><ul><ul><li>1540 publicly listed companies on domestic exchanges,  143 on overse...
Progress of Chinese Stock Market Reform <ul><li>Before 2005, state-owned and legal person-owned shares could not be traded...
Financial Reforms
<ul><li>Great Leap Forward in Equity Market </li></ul><ul><ul><li>An average of US$9 billion raised per year from 1991 to ...
Over-Valuation? (P/E) Source: CEIC China’s Financial System
<ul><li>QFII and QDII </li></ul><ul><li>Raised QFII quota to US$ 30 billion at the end of 2007 </li></ul><ul><li>QDII laun...
<ul><li>Private Equity </li></ul><ul><ul><li>Size estimated around 620 billion RMB in 2007, much of it comes from abroad. ...
<ul><li>Financial Regulations </li></ul><ul><ul><li>Entry regulation </li></ul></ul><ul><ul><ul><li>Geographic and busines...
<ul><li>Financial Regulations (2) </li></ul><ul><ul><li>Interest rate regulation </li></ul></ul><ul><ul><ul><li>Both lendi...
<ul><li>Financial Regulations (3) </li></ul><ul><ul><li>Regulation of international accounts </li></ul></ul><ul><ul><ul><l...
Strong RMB Backed by Foreign Reserves Source: CEIC China’s Financial System
<ul><li>The Value of RMB </li></ul><ul><ul><li>The upward pressure on RMB is driven by the twin surplus (current account a...
<ul><ul><li>Factors Against Appreciation: </li></ul></ul><ul><ul><ul><li>Worries about adverse effect on exports and emplo...
Challenges Ahead
Exchange Rate Issues <ul><li>How much and how fast should RMB rise? </li></ul><ul><li>Free floating, Pegging and pegging t...
Banking Issues <ul><li>How and when to eliminate interest rate regulation and introduce real competition? </li></ul><ul><l...
Capital Market Issues <ul><li>Need to develop a more mature market and less government intervention </li></ul><ul><li>Inst...
Other More Important Issues <ul><li>The following issues will have a bearing on how fast China’s financial reforms will be...
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"China's latest corporate and financial market reforms and ...

  1. 1. China’s Financial Development, Reforms and Challenges Chun Chang Professor of Finance China Europe International Business School
  2. 2. <ul><li>China’s Latest Financial Reforms and Development </li></ul>
  3. 3. Source: CICC Research Financial Regulatory Structure China’s Financial System The State Council CBRC CSRC Commercial Banks Credit Cooperatives CIRC Trust & Investment Securities Firms Exchanges Fund Management Insurance Companies
  4. 4. Heavy Reliance on Bank Financing (2006) Source: CEIC; CICC Research China’s Financial System
  5. 5. <ul><li>Japan-Germany-like Financial Structure </li></ul><ul><ul><li>Financial assets concentrated in the banking system </li></ul></ul><ul><ul><li>No stock markets before 1991 </li></ul></ul><ul><ul><li>In 2006, more than 80% of financing is still through banks </li></ul></ul><ul><ul><li>insurance industry is growing fast but still underdeveloped </li></ul></ul><ul><ul><li>legal framework for private equity financing is just starting </li></ul></ul>China’s Financial System
  6. 6. The State’s Dominance of the Banking Industry (Assets, 2006) Source: The Statistics Quarterly PBOC China’s Financial System
  7. 7. Banks in China <ul><li>State-owned banks: ICBC, CCB, BOC, CAB </li></ul><ul><li>Joint stock banks: Bank of Communication, China Merchants Bank, Guangdong Development Bank, Minsheng Bank </li></ul><ul><li>City banks and credit unions: Bank of Shanghai, Bank of Nanjing, Ningbo Commercial Bank </li></ul><ul><li>Foreign banks: HSBC, Citibank, Standard Chartered, </li></ul>
  8. 8. <ul><li>Progress in Banking Reform </li></ul><ul><ul><li>Recapitalization of state banks </li></ul></ul><ul><ul><ul><li>4 asset management companies set up in year 2000 to take over US$1,600 billion of non-performing loans </li></ul></ul></ul><ul><ul><ul><li>US$1108 billion NPLs disposed up to March 2006, </li></ul></ul></ul><ul><ul><ul><li>cash recovery rate 20.8% </li></ul></ul></ul><ul><ul><ul><li>US$45 billion capital injection in 2004 for BOC and CCB </li></ul></ul></ul><ul><ul><ul><li>US$15 billion capital injection in 2005 for ICBC </li></ul></ul></ul><ul><ul><li>CCB listed in Hong Kong in 2005, BOC and ICBC in 2006 </li></ul></ul><ul><ul><li>Reorganization and recapitalization of China Agricultural Bank and Postal Savings Bank for listing </li></ul></ul>China’s Financial System
  9. 9. <ul><li>Progress in Banking Reform (2) </li></ul><ul><ul><li>Brought in foreign strategic investors before IPO </li></ul></ul><ul><ul><li>Foreign strategic investors introduced </li></ul></ul><ul><ul><ul><li>CCB: Bank of America, Asian Financial Holdings (AFH), holding 14.4% </li></ul></ul></ul><ul><ul><ul><li>BOC: Royal Bank of Scotland, AFH, UBS, Asian Development Bank, holding 16% </li></ul></ul></ul><ul><ul><ul><li>ICBC: Goldman Sachs, Allianz et. al. 17% </li></ul></ul></ul><ul><ul><li>Foreign investment in banks raised to 25% </li></ul></ul><ul><ul><li>Invited private entrepreneurs to take minority stake </li></ul></ul>China’s Financial System
  10. 10. China’s Financial System Comparison of Chinese and Foreign Banks 2002 Source: Banks’ Annual Reports, CICC Research
  11. 11. China’s Financial System Comparison of Chinese and Foreign Banks 2005 Source: Banks’ Annual Reports, CICC Research
  12. 12. ROA & ROE of Listed Chinese Banks 2006, 2007   ROA ROE   Year 2006 First half year of 2007 Year 2006 First half year of 2007 China Merchants Bank 0.81% 1.20% 16.70% 21.40% Bank of China 0.85% 1.06% 12.81% 14.09% ICBC 0.71% 1.05% 13.60% 19.90% Industrial Bank 0.70% 1.02% 26.20% 29.90% Bank of Communications 0.78% 0.93% 14.10% 17.47% China CITIC Bank 0.60% 0.82% 14.10% 11.70% Shenzhen Development Bank 0.54% 0.78% 22.40% 31.50% China MinSheng Bank 0.61% 0.73% 22.10% 19.00% Shanghai Pudong Development Bank 0.53% 0.70% 16.50% 23.70% HuaXia Bank 0.36% 0.44% 13.10% 17.80%
  13. 13. Nonperforming Loans of Chinese Banks
  14. 14. <ul><li>Chinese Capital Markets </li></ul><ul><ul><li>1540 publicly listed companies on domestic exchanges, 143 on overseas (Feb 2007) </li></ul></ul><ul><ul><li>Equity market capitalization of around US$3 trillion (2007) </li></ul></ul><ul><ul><ul><li>State Shares 33.1%, (non-tradable until 2005) </li></ul></ul></ul><ul><ul><ul><li>Legal person shares 16.7% (non-tradable until 2005) </li></ul></ul></ul><ul><ul><ul><li>Tradable individual shares 50.2% </li></ul></ul></ul><ul><ul><li>Government bond market cap US$ 364 billion </li></ul></ul><ul><ul><li>Corporate bond market cap US$35 billion </li></ul></ul>China’s Financial System
  15. 15. Progress of Chinese Stock Market Reform <ul><li>Before 2005, state-owned and legal person-owned shares could not be traded on stock exchanges. Large shareholders paid little attention to the prices of tradable shares held by the public. </li></ul><ul><li>In 2005, the government initiated reforms that made non-tradable shares tradable. </li></ul><ul><li>This aligned the interests of large shareholders with that of outside shareholders </li></ul>
  16. 16. Financial Reforms
  17. 17. <ul><li>Great Leap Forward in Equity Market </li></ul><ul><ul><li>An average of US$9 billion raised per year from 1991 to 2006 </li></ul></ul><ul><ul><li>In 2007, $50 billion new A-shares were issued, taking the first place in the world (the second place US equity markets raised less than $40 billion in 2007) </li></ul></ul><ul><ul><li>Shanghai Stock index increased by almost 100% in 2007 </li></ul></ul>China’s Financial System
  18. 18. Over-Valuation? (P/E) Source: CEIC China’s Financial System
  19. 19. <ul><li>QFII and QDII </li></ul><ul><li>Raised QFII quota to US$ 30 billion at the end of 2007 </li></ul><ul><li>QDII launched in July 2006 </li></ul><ul><ul><li>5 domestic banks: BOC, CCIB, CCB, BOCOM, CMB; 3 foreign banks (Bank of east Asia, HSBC, Citibank); & Huaan Fund Management chosen for experiment </li></ul></ul><ul><ul><li>19 institutions approved, US$14.5 billion investment quota granted </li></ul></ul><ul><li>QDII quota reached US$42.17 billion by the end of the third quarter in 2007 </li></ul><ul><li>Local markets (Shanghai & Shenzhen) have 120 million investor accounts in Sept. 2007. </li></ul>China’s Financial System
  20. 20. <ul><li>Private Equity </li></ul><ul><ul><li>Size estimated around 620 billion RMB in 2007, much of it comes from abroad. </li></ul></ul><ul><ul><li>Limited Partnership were authorized in Chinese law in June of 2007 </li></ul></ul><ul><li>Enormous Potential </li></ul><ul><ul><li>Great demand in a vibrant economy for private equity </li></ul></ul><ul><ul><li>High risk and cost due to poor legal and financial infrastructure </li></ul></ul>China’s Financial System
  21. 21. <ul><li>Financial Regulations </li></ul><ul><ul><li>Entry regulation </li></ul></ul><ul><ul><ul><li>Geographic and business restrictions for foreign banks and insurance companies </li></ul></ul></ul><ul><ul><ul><li>Foreign stake in commercial banks capped at 25% </li></ul></ul></ul><ul><ul><ul><li>Foreign partners can take up to 33% in JV brokerage firms and fund management companies </li></ul></ul></ul><ul><ul><ul><li>Approval required for branches & offices </li></ul></ul></ul><ul><ul><ul><li>License required for domestic institutions </li></ul></ul></ul><ul><ul><ul><li>Private individuals can only have a minority position </li></ul></ul></ul>China’s Financial System
  22. 22. <ul><li>Financial Regulations (2) </li></ul><ul><ul><li>Interest rate regulation </li></ul></ul><ul><ul><ul><li>Both lending and deposit benchmark rates are set by the central bank (one year lending rate is now 7.47% and deposit rate is 4.14%) </li></ul></ul></ul><ul><ul><ul><li>Lending rate has no upper limit and the lower bound is 90% of the benchmark rate. the rates for mortgage loan can be 85%. </li></ul></ul></ul><ul><ul><ul><li>Deposit rate has the benchmark rate as the upper limit and is allowed to float downward. </li></ul></ul></ul><ul><ul><ul><li>Interbank rate SHIBOR was introduced on Dec. 1, 2006 and determined by market forces </li></ul></ul></ul>China’s Financial System
  23. 23. <ul><li>Financial Regulations (3) </li></ul><ul><ul><li>Regulation of international accounts </li></ul></ul><ul><ul><ul><li>Current account deregulated </li></ul></ul></ul><ul><ul><ul><li>Closed Capital/Financial account with a few exceptions </li></ul></ul></ul><ul><ul><li>Managed floating exchange rate regime </li></ul></ul><ul><ul><ul><li>The RMB pegged to USD at RMB 8.27/USD from mid-1990s to 2005 </li></ul></ul></ul><ul><ul><ul><li>It is supposed to be pegged to a basket of currencies since July 21, 2005 </li></ul></ul></ul><ul><ul><ul><li>The RMB/US$ exchange rate allowed to float no more than 0.5% of the previous day’s closing, 1.5% against other currencies </li></ul></ul></ul><ul><ul><ul><li>No timetable for full convertibility </li></ul></ul></ul>China’s Financial System
  24. 24. Strong RMB Backed by Foreign Reserves Source: CEIC China’s Financial System
  25. 25. <ul><li>The Value of RMB </li></ul><ul><ul><li>The upward pressure on RMB is driven by the twin surplus (current account and financial account) and is balanced by holding surplus foreign currencies as reserves </li></ul></ul><ul><ul><li>To balance the twin surplus and reduce foreign currency reserves, RMB needs to be revalued </li></ul></ul><ul><ul><li>The speculation that RMB will be revalued eventually has caused hot money flowing into China and excess liquidity and asset inflation </li></ul></ul>China’s Financial System
  26. 26. <ul><ul><li>Factors Against Appreciation: </li></ul></ul><ul><ul><ul><li>Worries about adverse effect on exports and employment </li></ul></ul></ul><ul><ul><ul><li>Unwillingness to be seen as yielding to foreign pressure </li></ul></ul></ul><ul><li>Factors in Favor of Appreciation: </li></ul><ul><ul><ul><li>Domestic inflationary pressure and asset bubbles </li></ul></ul></ul><ul><ul><ul><li>Interest rate differentials and inflow of hot money </li></ul></ul></ul><ul><ul><ul><li>Ability to raise interest rate in order to cool down economy </li></ul></ul></ul><ul><ul><ul><li>Responsibility for the loss of value of foreign currency reserves </li></ul></ul></ul>
  27. 27. Challenges Ahead
  28. 28. Exchange Rate Issues <ul><li>How much and how fast should RMB rise? </li></ul><ul><li>Free floating, Pegging and pegging to what? </li></ul><ul><li>When and how to make RMB fully convertible? </li></ul>
  29. 29. Banking Issues <ul><li>How and when to eliminate interest rate regulation and introduce real competition? </li></ul><ul><li>How to compensate party-appointed bank officials? </li></ul><ul><li>How to introduce universal banking? </li></ul><ul><li>How to establish government deposit insurance? </li></ul>
  30. 30. Capital Market Issues <ul><li>Need to develop a more mature market and less government intervention </li></ul><ul><li>Institutional investors need to play a more important role </li></ul><ul><li>Need to develop corporate bond market, learn how to price credit risk </li></ul><ul><li>Information disclosure and insider trading </li></ul>
  31. 31. Other More Important Issues <ul><li>The following issues will have a bearing on how fast China’s financial reforms will be carried out: </li></ul><ul><li>Income inequality </li></ul><ul><li>Political stability and reforms </li></ul><ul><li>Environmental Issues </li></ul>

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