From Mono-banking to Internationalization:
the Path of China’s Banking Reform and its
Impacts on Hong Kong’s Financial Market
by
Dr Charles C L Kwong
Associate Professor
School of Arts and Social Sciences
The Open University of Hong Kong
1. The presentation aims at
 examining briefly China’s banking sector during the pre-
reform period (1949-1978);
 reviewing the path of China’s banking reform since the late
1970s;
 evaluating China’s policy change in banking sector after its
accession to World Trade Organization (WTO)
 scrutinizing the impacts of China’s banking reform on
Hong Kong financial market
2. The Mono-bank System 1949-1978:
Intended Isolation
 The establishment of People’s Bank of China (PBOC) in
1948 marked the starting point of the banking system
under the PRC rule. Prior to the economic reform in the
late 1970s, China’s banking sector was characterized as a
mono-bank system in which banks operated under a
scheme of ‘Tong Shou Tong Zhi’.
2. The Mono-bank System 1949-1978:
Intended Isolation
 All cash (deposits) from individuals and enterprises,
mainly state-owned enterprises (SOEs), must be held by
the PBOC. All credits (loans) to SOEs and state projects
were extended by the PBOC. In a nutshell, the PBOC
become the centre of settlement for both deposits and
credits.
2. The Mono-bank System 1949-1978:
Intended Isolation
 In the 1950s, the mono-bank system was supported by two
extension arms: the Bank of China (BOC) and the People’s
Construction Bank of China (PCBC), which were
subordinate to the People’s Bank of China (PBOC) and the
Ministry of Finance (MOF), respectively.
2. The Mono-bank System 1949-1978:
Intended Isolation
 The BOC functioned as the foreign exchange division of
PBOC while the CBC disbursed funds to finance stateowned enterprises (SOEs) and capital-investment projects
blueprinted in the government’s economic plan.
2. The Mono-bank System 1949-1978:
Intended Isolation
 On the eve of economic reform, all financial institutions
merged into the PBOC or the MOF during the Cultural
Revolution (1966-1976). The PBOC became a mono-bank
performing both the central bank functions (regulating
money supply and determining interest rate) and commercial
bank function of financing SOEs and state projects. The
PBOC before the reform served as the state’s fiscal agent to
divert funds to fulfil the planned targets. The State Planning
Commission devised the state plans and ranked their
priorities. Then the PBOC was directed to channel bank credit
to SOEs and state projects.
2. The Mono-bank System 1949-1978:
Intended Isolation
 The mono-bank system was not in the sense of the
conventional views of commercial and central banking. In
conformity with the centralist character of the planned
economy, the top priority of the central planners was not
attached to the consideration of efficiency of the banking
system.
2. The Mono-bank System 1949-1978:
Intended Isolation
 The rigid control and intended closeness of China’s mono-
bank was to allocate financial resources for the fulfilment of
state plans and to ensure insulation from potential domestic
and foreign influence. The repercussion of the mono-bank
system was extensive since SOEs received interest free
loanable funds which led to severe moral hazard problems
among cadres who ran the enterprises. The soft-budget
constraints and the associated moral hazard behaviour
resulted in massive non-performing loans (NPLs)
accumulated in the 1980s and the early 1990s.
3. From Mono-banking to Plural-banking System
1979-1992
 The underlying factor for diversifying banking institutions
in the early 1980s stemmed from the economic reforms in
the late 1970s, which entails decentralisation of economic
activities. Economic reforms allowed a larger role of market
in allocating resources and the development of non-state
enterprises, mainly collective enterprises.
3. From Mono-banking to Plural-banking System
1979-1992
 The share of nominal industrial output decreased from 76
percent to 64.9 percent from 1980 to 1985 while the
respective shares by collective enterprises increased from
23.6 percent to 32.1 percent, representing an average annual
growth of 18.7 percent for the same period. Expanding nonstate sector was accompanied with mounting financial
resources held by decentralised units including households,
enterprises and local governments.
3. From Mono-banking to Plural-banking System
1979-1992
 Table 1 indicates that the share of savings in GDP held by
central budget had demonstrated a declining trend while
the respective shares held by the decentralised units had
exhibited an ongoing uptrend since 1978. Further, the
increased connections with the outside world through
foreign direct investment and setting up of special
economic zones called for a more specialised banks to deal
with international financial transactions. The highly
centralised mono-banking system in the pre-reform era
could no longer accommodate the financial needs brought
about by market reform.
Table 1: Composition of savings in GDP 1978-1985
Year
Total savings Household
savings
Enterprise
savings
Budgetary
savings
1978
33.2
1.1
17.0
15.1
1979
34.6
3.1
21.4
10.0
1980
32.3
4.4
20.7
7.3
1981
30.3
3.4
20.0
6.6
1982
31.6
7.5
18.7
5.4
1983
31.5
9.9
15.9
5.7
1984
32.8
14.4
11.8
6.6
1985
34.5
13.4
14.0
7.0
Source: Joseph C. H. Chai, China: Transition to a Market Economy,
(New York: Clarendon Press Oxford, 1997), p. 118
3. From Mono-banking to Plural-banking System
1979-1992
 From 1979 to 1984, four state-owned specialised banks (SBs)
were reinstituted and separated from the PBOC. The
Agricultural Bank of China (ABC) was re-established in
1979 to handle deposits and lending in rural areas.
3. From Mono-banking to Plural-banking System
1979-1992
 The BOC was reinstituted under the State Council (SC) in
1979 to manage the country’s foreign exchange. The
People’s Construction Bank of China (PCBC) (renamed as
China Construction Bank in 1996) was made subordinate to
the SC in 1979 to undertake financing construction and
fixed assets investment while the Industrial and
Commercial Bank (ICBC), established in 1984, specialised
in funding business activities.
3. From Mono-banking to Plural-banking System
1979-1992
 On top of reinstituting the SBs, the central government
transformed the PBOC into a formal central bank in 1984
by transferring its deposit and lending activities to ICBC.
The re-establishment of the SBs and the setting of a formal
central bank laid the important foundation of separating
central bank and commercial bank functions. The central
bank, PBOC, had since then become the main government
agency for manoeuvring monetary policy, supervising the
financial sector and fine-tuning macroeconomic
conditions.
3. From Mono-banking to Plural-banking System
1979-1992
 Parallel to the re-establishment of SBs, new commercial
banks and non-bank financial institutions (NBFIs) were
allowed to open to cater for different financial needs in
urban and rural areas. Nine national and regional banks,
such as the bank of Communications and the Guangdong
Development Bank, were set up in the 1990s. NBFIs also
flourished in the 1990s. Up to 1994, about 60,000 rural
credit cooperatives (RCCs), 1500 urban credit cooperatives
(UCCs), and 590 trust and investment companies (TICs)
was set up (Chai 1997: 123).
3. From Mono-banking to Plural-banking System
1979-1992
 SBs’ specialised roles had started to blur since the 1980s
and each SB had faced increasing competition from other
SBs and the new financial institutions.
3. From Mono-banking to Plural-banking System
1979-1992
 Though the inflow of foreign direct investment (FDI) had
been very substantial since China’s opening up in the 1980s,
the presence of foreign bank was very limited in the initial
stage of economic reforms. In the early 1980s, only four
foreign banks had set up their branches in China.
3. From Mono-banking to Plural-banking System
1979-1992
 Though the PBOC enacted the Regulation on Foreign and
Joint Venture Financial Institutions in Shanghai in
September 1990, their business of foreign banks was
subject to many restrictions, including the forbiddance of
engaging in yuan (RMB) transactions (Yi 1994: 32-33).
3. From Mono-banking to Plural-banking System
1979-1992
 By 1992, a total of 47 foreign banking and financial
institutions with 218 branches or representative offices had
been set up. This figure represented a negligible share of
the branch network of PBOC and the four SBs, which
consisted of 125,711 branches and offices across the country.
By 1994, foreign banks had total assets of 101.7 billion yuan
which was only 0.9 percent of assets of China’s banking
sector.
3. From Mono-banking to Plural-banking System
1979-1992
 The reinstituting of SBs and the diversification of financial
institutions in the 1980s represented only a hierarchical
and structural transformation. Though limited
competition was introduced, the SBs still dominated the
banking sector. The market share, in terms of assets, of SBs
was 85.4 percent in 1988 and fell slightly to 84.2 in 1993,
and continued to perform the fiscal functions assigned by
the central government. SBs were expected to extend loans
to SOEs even though many of the state enterprises were
loss-making. The soft loans were to maintain the operation
of the enterprises by which stable employment could be
guaranteed.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 As elucidated above, to avoid massive layoffs by ailing SOEs
from the mid-1980s to the mid-1990s, the SBs shouldered
the key responsibility of rendering ‘soft loans’ to SOEs to
keep the loss-making SOEs floating. This strategy reduced
the number of losers under reform, but at the same time
piled up NPLs of the SBs. The ratio of NPLs of the SBs
reached 20.4 percent in 1994 and was estimated to increase
by 2% annually.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 The PBOC lacked effective means of controlling the
lending behaviour of the SBs, which were dominantly
affected by central directives. The ‘soft loans’ resulted in
spectacular rise in money supply and inflation rates.
Money supply (M2) increased from 31.3 percent in 1992 to
34.5 percent in 1993 while the inflation demonstrated a
hyper growth from 6.4 percent in 1992 to 24.1 percent in
1994. The runaway inflation alarmed central leaders of the
possible macroeconomic instability resulting from quasi
uncontrolled bank loans by SBs.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 On the other front, since the transformation of the GATT
(General Agreement on Tariffs and Trade) to WTO (World
Trade Organization) in 1995, China started to request its
membership in WTO. As part of the commitments to WTO
accession, China was required not only to reduce its tariff
and non-tariff barriers for imports, but also open up its
telecommunication, banking, financial and insurance
sectors to foreign investors.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 Facing both domestic and external pressure on its banking
sector, the central government decided to embark an
overhaul of the banking system in 1994, with at least three
major aims: (1) to develop the PBOC into an independent
and full-fledged modern central bank to regulate the
national financial market and maintain macroeconomic
stability; (2) to commercialise the four SBs by separating
commercial lending from policy lending; and (3) to
nourish a more diverse and competitive banking sector by
allowing more commercial banks, including foreign
competitors to enter the market.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 The Law of the People’s Republic of China on the People’s
Bank of China (PBCL) was enacted in 1995 to establish a
legal foundation for the superior status of the PBOC. The
PBCL stipulates that the PBOC, under the leadership of the
State Council, devises and implements monetary policy
and monitors the operations of the financial sector (Article
2). Article 7 of the PBCL entrusts the PBC with a high level
of independence by specifying that the PBOC is free from
the intervention of local governments, government
departments, organisations and individuals when it
performs its central bank and business functions.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 The central government’s decision explicitly urged the
establishment of a ‘sound macroeconomic control system’.
It was clearly stated that ‘the central bank, the People’s
Bank of China, under the leadership of the State Council,
should implement monetary policy independently’. The
independent status was further elucidated in that ‘the
power of the central bank and local authorities over
economic administration should be rationally delineated’
and ‘the branches of the People’s Bank of China are
certified as agencies of its head office.’
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 To enhance the efficiency and profitability of the banks, the
Chinese authorities also endorsed in the Third Plenum of
the 14th Central Committee to separate policy lending from
commercial lending. By this, the four SBs would gradually
be transformed into state-owned commercial banks
(SOCBs). Policy-based loans are designated to the three
policy lending banks established in 1994.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 By do so, the SOCBs could be freed from the burden of ‘soft
loans’ and concentrate their businesses in commercial
lending based on market disciplines. However, the transfer
of policy lending from the SOCBs to the three policy
lending banks was more complicated than expected.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 Two points are worth noting. First, the newly established
policy banks were reluctant to accept the policy
responsibilities, particularly lending to SOEs, previously
assumed by the SBs. The SOCBs continued to be a major
government-directed funding source for SOEs. Almost half
of the short-terms of SOCBs were extended to SOEs in 1997.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 Second, since the policy banks did not receive deposits
from the public, their operation was financed by state fund
by issuing financial bonds to existing financial institutions,
primarily the SOCBs. The state banks were under constant
pressure and directives from the PBOC to absorb the
financial bonds issued by the policy banks. As a result,
commercialization of state banks did not substantially
improve the balance sheets of SOCBs in the 1990s.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 Commercialising the SOCBs in 1994 aimed at separating
policy and commercial lending, through which enhanced
the efficiency of the state banks. However, in practice, the
reform failed to institute a credit culture based on market
disciplines. Lending decisions were still mainly influenced
by state directives instead of profitability consideration.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Commercialization of SBs
 The reform was also constrained by lack of Chinese
bankers well-vested with knowledge of running
commercial banks. The problem of NPLs had been
escalating in the 1990s. Some estimates indicated that the
ratio of non-performing loans (NPLs) of the Big Four
stayed at an alarmingly high level of 40 percent by 1998
(Woo 2003: 5).
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Recapitalization of SOCBs
 The 1994 banking reform had limited impact on enhancing
efficiency of the SOCBs. The central government perceived
the need of strengthening the capital position of the Big
Four before fulfilling the WTO commitments of opening
up the banking sector to foreign competitors. Further, the
Asian financial crisis in 1997-98 crystallised the central
leaders’ views that the ailing banking sector could be a
destabilising factor in the economy when China had
established increasing links with the global economy.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Recapitalization of SOCBs
 To speed up the pace of improving the balance sheets of
the state banks, the MOF injected US$34 billion into the
Big Four to lower the NPLs in 1998. The recapitalization
was supposed to alleviate the financial burden of the
SOCBs arising from the past policy lending. Such
recapitalization by the central coffer was planned to be
‘first and final’.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Recapitalization of SOCBs
 However, instead of fundamentally cleaning up the NPLs in
the SOCBs, four asset management companies (AMCs)
were established in 1999 to absorb 1.4 trillion yuan of bad
loans from the Big Four. The further recapitalization,
amounted to US$75 billion, of the SOCBs in 2003-06
defeated the initial design of an ‘once-and-for-all’ relief
plan for China’s debt-ridden state banking system. Table 2
shows that by 2006, official financial support provided for
state banks amounted to US$402 billion.
Table 2 Official Financial Support to SOCBs since 1998
Item
Capital
injection to Big
Four
AMC carve-out
AMC carve-out
Date
1998
Amount (US$ billion)
34
Source
Ministry of Finance
1999
1999
5
48
AMC carve-out
1999
120
Ministry of Finance
People’s Bank of
China
People’s Bank of
China
People’s Bank of
China
People’s Bank of
China
Ministry of Finance
Capital injection 2003-06
to Big Four
Subsidized NPL 2004-06
carve-out
Tax relief for
2004-06
NPL write down
TOTAL
75
100
20
402
Source: Jonathan Anderson, ‘China’s New Banking System,’ p. 173
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Recapitalization of SOCBs
 Central government’s ongoing financial support has successfully
lifted the capital adequacy ratio (CAR) of the SOBs to a level
higher than the international standard of 8 percent and reduces
the NPL ratio to an official figure of 7.83 percent in 2007 (Q3).
The rapid drop in NPL ratio was also attributable to the doubledigit credit growth since 2000.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Recapitalization of SOCBs
 More importantly, the bailout of SOCBs only transfer the
financial burden from the state banks to the AMCs and other
government agencies such as the PBOC and the Ministry of
Financial, instead if instituting an institutional overhaul to solve
the government problems.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Recapitalization of SOCBs
 Worse still, the substantial captital injection did not result in
corresponding enhancement of the SOCBs’ financial indicators.
The NPL ratios of ICBC, BOC, CCB and ABC remained at high
levels of 25.4%, 23.7%, 15.17% and 36.63% respectively in 2002.
the capital adequacy ratio (CAR), a measure of the capital
strength of a commercial bank, was still below the prevailing
international standard of 8% (Table 3).
Table 3 Capital Adequacy Ratios of the SOCBs (1997-2002) (%)
Year
ABC
BOC
CCB
ICBC
1997
2.93
3.91
3.54
4.05
1998
8.13
11.74
9.31
10.40
1999
1.44
8.5
3.79
4.57
2000
n.a.
9.8
6.51
5.38
2001
1.44
8.3
6.88
5.76
2002
n.a.
8.15
6.91
5.54
Source: K. Okazaki, “Banking System Reform in China:
The Challenge of Moving Toward a Market-Oriented Economy,” p. 24.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Recapitalization of SOCBs
 The results of government financial support were even less
promising when compared with other Asian developing
countries. China’s NPL ratio was still higher than some
neighbouring countries such as Indonesia, Thailand, and
Malaysia in 2007. The NPL ratio of the SOCBs has
consistently higher than the joint-stock commercial banks
(JSCBs) in recent years. From 2005 to 2006, the smaller city
commercial banks, such as the Zhuzhou City Commercial
Bank and the Bank of Dalian, achieved a much faster
growth of profitability than that of the SOCBs.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Recapitalization of SOCBs
 These figures raise the issue of moral hazard and cost-
effectiveness in bailing out these state banks. It is
particularly relevant to the future bailout of the
Agricultural Bank of China, which is widely believed to be
the most severely hit by the massive lending to the rural
sector, with a non-performing loan ratio of 24.75 percent
reported in 2006. Agricultural Bank may need as much as
US$140 billion to reduce bad loans to less than 5 percent,
which will be the single largest bailout of a state bank.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Preparing for Market Liberalization?
 Despite China’s multi-facet reforms in improving SOCBs’
balance sheet since the late 1990s, China’s approach to
opening up its banking sector remained cautious and
piecemeal prior to its WTO accession. The central
government had relaxed geographical restrictions on
foreign banks since 1992. Foreign banks were allowed to
operate outside Special Economic Zones (SEZs) and to
expand their presence in Shanghai and other seven coastal
cities in 1992. In 1994, such relaxation was applied to other
selected inland cities.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Preparing for Market Liberalization?
 However, geographical extension did not entail
corresponding expansion of the scope of business of
foreign banks. Until the mid-1990s, foreign competitors
were not accessible to RMB-business. It was only in 1996
that RMB-business by foreign banks was tried out in
Pudong on an experimental basis. The trial was extended
to Shenzhen in 1998.
4. Heading for WTO Accession: Commercialization
and Bailout of SBs 1993-2001
Preparing for Market Liberalization?
 The advent of foreign competition in the 1990s was very
minimal due to the fact that restrictions on foreign banks’
business were still numerous and the branch network of
foreign competitors were very restricted compared with
local counterparts. On the eve of China’s admission to the
WTO, the market share of foreign banks, in terms of assets,
was about 1-2 percent.
5. Post-WTO Reforms: On the Road to
Internationalization?
 China’s accession to the WTO in 2001 represented not only
China’s further integration into the global economy, but
also China’s commitments of opening up its economy to
foreign competitors.
5. Post-WTO Reforms: On the Road to
Internationalization?
 The embedded strategic thinking of the central leaders was
to expose China’s state banks gradually to foreign
cooperation and competition after WTO accession,
through which enriching the Chinese SOCBs on foreign
experience and international standards, and inserting
competitive pressure on reforming the inefficient banking
sector.
5. Post-WTO Reforms: On the Road to
Internationalization?
 While foreign investors were keen on entering China’s
banking sector in a faster and flexible way, the Chinese
government favoured a more step-by-step approach of
introducing foreign players. After rounds of negotiations,
China was allowed to have a phase-in period of 5 years to
incrementally open up its banking sector (Table 4).
5. Post-WTO Reforms: On the Road to
Internationalization?
 After the phase-in period, all foreign banks were endowed
with national treatment, which implies that apart from
some prudential requirement set by the China Banking
Regulatory Commission (CBRC), all restrictions on
ownership, branch network and operation would be
removed.
Table 4 China’s WTO Commitments in Banking Sector
during Phase-in Period (2000-Dec 2006)
Geographical
Location
Business
 From 2002 to 2006, four cities were opened up
for foreign banks each year.
 After phase-in period, all geographical restrictions
would be eliminated.
 Immediately after WTO accession, foreign banks
were permitted to engage in foreign currency
business (both lending and deposits) to all
customers.
 Within two year of accession, foreign banks are
allowed to provide RMB-business for local
enterprises.
 Within five years, foreign banks are allowed to
provide RMB-business for both local enterprises
and individuals.
Source: Svenja Schlichting, Internationalizing China’s Financial Markets, p. 53. K. Okazaki,
“Banking System Reform in China: The Challenge of Moving Toward a Market-Oriented
Economy,” p. 8.
5. Post-WTO Reforms: On the Road to
Internationalization?
 During the phase-in period, China instituted reforms on bank
supervision and corporate governance to further strengthen the
competiveness of state banks before full liberalization. The most
important step of strengthening banking supervision is the
setting up of China Banking Regulatory Commission (CBRC) in
2003 to regulate all banks and depository institutions.
5. Post-WTO Reforms: On the Road to
Internationalization?
 One of the major tasks of the CBRC is to ensure that the SOCBs
are operating under prudent commercial bank practices such as
the 10-plus loan classification system and the internal rating
based loan system to evaluate the potential risks of loans
extended to the market. It is a vital step to develop a credit
culture among SOCBs to avoid piling up NPLs.
5. Post-WTO Reforms: On the Road to
Internationalization?
 China also fulfilled most of the twenty five Core Principles
adopted by the BIS (Bank for International Settlements)
committee on banking regulation and supervision, but the
fulfilment of some principles is still far from de facto. To
illustrate, Principle 1 requires the regulatory agency to have
full autonomy, power and resources to exercise its
supervisory and monitoring role. However, the CBRC is
hierarchically under the SC which can veto the decision
made by CBRC and the appointment of key officials in
CBRC is still under the control of the Communist Party.
5. Post-WTO Reforms: On the Road to
Internationalization?
 In regard of corporate governance, SOCBs were required to
recruit independent directors to oversee the decision
making procedures and operation of the SOCBs, but most
of the independent directors are either government
officials or ex-bank staff, who can rarely perform
independent supervisory role.
5. Post-WTO Reforms: On the Road to
Internationalization?
 Foreign strategic partners are now more welcome not just
for their capital, but also for their knowledge in internal
governance, bank practices, product design, and
international exposure. The following table reveals the
foreign partners of three of the Big Four (ICBC, CCB, BOC).
5. Post-WTO Reforms: On the Road to
Internationalization?
 However, the influence of foreign partners in the Chinese
banks should not be overemphasised since the ceiling of
foreign ownership in a Chinese bank is 25 percent while the
ceiling of a single foreign bank is capped at 20 percent. The
state remains to be the major shareholder of the Big Four
(Table 5).
5. Post-WTO Reforms: On the Road to
Internationalization?
 In most cases, the foreign investors are entitled to
nominate one candidate in the director board, usually
consisting of 14 to 16 members, of the state banks, but their
role in key decision making is more de jure than de facto.
The involvement of foreign partners in daily management
is marginal. Instead, Chinese partners are more eager to
acquire product knowledge, technical support, know-how
on banking operation and human resources training (Table
6).
5. Post-WTO Reforms: On the Road to
Internationalization?
 Though the state banks have tried to recruit foreign
bankers to join their senior management, this outside
talent, in general, served in the state banks only for a short
period of time. Their inputs for improving the banking
efficiency are therefore very limited. Influence of foreign
partners is substantially constrained by the fact that top
positions in state banks are still appointed by the party
leadership and the chairperson of a SOCB also serves as the
party secretary of the bank. Civil service appointees in top
position imply that state banks cannot be fully insulated
from government influence on lending decisions.
Table 5 Strategic Investors in three of the Big Four (as of June 2006)
Bank
Strategic Investors
Bank of China
Royal Bank of
Scotland (RBS),
Merrill Lynch, Li Kashing, UBS, Asian
Development Bank
Tamasek
China Construction Bank of America
Bank
Industrial and
Commercial Bank
of China
Tamasek
Goldman Sachs,
Allianz, American
Express
Investment as
percentage of
the bank
10.0
State Investors
10.0
Social Security
4.6
Fund
State
74.3
Administration
of Foreign
Exchange (SAFE)
9.0
5.1
10.0
Central Huijin
Investment
Ministry of
Finance
SAFE
Social security
Fund
Investment as
percentage of
the bank
69.0
35.3
35.3
5.3
Source: Hansakul, S. ‘China’s Banking Sector: Ripe for the Next Stage’,
Current Issues-China Special, Frankfurt: Deutsche Bank Research, 2006), p. 4.; Costa, P., Curtis, C. T. and Field, J. R.
‘An Analysis of the Chinese Banking Sector Post WTO Accession’, paper prepared for the International Economic
Development Program, Ford School of Public Policy, University of Michigan, 2006, p. 16.; Source: Zdenek Kudrna,
‘Banking Reform in China: Driven by International Standards and Chinese Specifics’, p. 21.
Table 6 Functions and Roles Played by Strategic Investors
Bank
Strategic Investors
Bank of China
Royal Bank of
Scotland (RBS),
Merrill Lynch, Li Kashing, UBS, Asian
Development Bank,
Temasek
China Construction
Bank
Bank of America
(BA), Temasek
Industrial and
Commercial Bank of
China
Goldman Sachs,
Allianz, American
Express
Governance/
management
responsibility
Strategic investors
involve no daily
management duties.
RBS is entitled to
nominate one member
in the Director Board
(DB).
Strategic investors
involve no daily
management duties.
Each of BA and
Temasek is entitled to
nominate one member
in the DB.
Strategic investors
involve no daily
management duties.
Goldman Sachs is
entitled to nominate
one member in the DB.
Provision of technical and
managerial assistance
RBS provides support in wealth
management and corporate
banking while UBS mainly offer
assistance in investment
banking and security business.
BA has seconded about 50
personnel to assist in risk
management, corporate
governance, and consumer
banking. Temasek concentrates
assistance in staff training in
treasury, SME credit, and
corporate business.
Allianz assist in insurance
product and business while BA
aid in risk management,
investment banking and credit
card business.
Source: Zdenek Kudrna, ‘Banking Reform in China: Driven by International Standards and Chinese Specifics’, p. 25.
6. Impact of China’s Banking Reform on
Hong Kong’s Financial Sector
Investment/Wholesale Banking
 The further opening up of China’s banking system to
foreign competitors since December 2006 has not
fundamentally shaken the dominant status of the SOCBs
due to their extensive branch network and well established
client base. Nevertheless, rising income has prompted the
demand for wealth management for which the foreign
banks, in particular Hong Kong banks, demonstrate a clear
competitive edge. It is estimated that the high net-worth
individuals on the mainland invested one trillion yuan in
wealth management products in 2007, which represented a
double of figure of 2006.
6. Impact of China’s Banking Reform on
Hong Kong’s Financial Sector
Investment/Wholesale Banking
 Since banks in Hong Kong are more experienced in loan
syndication, trade financing, and investment banking, it is
predicted that state banks may lose some of the best
customers to their foreign counterparts. Actually, anecdotal
evidence indicates that this scenario is not hypothetical.
6. Impact of China’s Banking Reform on
Hong Kong’s Financial Sector
Investment/Wholesale Banking
 The successful listing of the BOC, ICBC and CCB indicates
that Hong Kong stock market is still a cost-effective venue
for raising capital from both local and overseas sources. It
is made possible by Hong Kong’s absence of foreign
exchange control.
6. Impact of China’s Banking Reform on
Hong Kong’s Financial Sector
RMB Business
 Banks in Hong Kong have been allowed to conduct RMB
business for individuals, including RMB deposits,
remittances, exchange business and RMB bank cards in
Hong Kong since early 2004. RMB deposits in Hong Kong
have increased from RMB 12 billion in 2004 to RMB 54
billion as of end-June 2009.
6. Impact of China’s Banking Reform on
Hong Kong’s Financial Sector
RMB Business
 Mainland financial institutions, after obtaining approval,
are allowed to issue RMB bonds in Hong Kong. The first
RMB bonds, amounted RMB 5 billion, were issued by the
China Development Bank in Hong Kong in July 2007. The
Chinese authorities also allowed the mainland branches of
Hong Kong banks to issue RMB bonds in Hong Kong.
HSBC became the first to issue RMB bonds of RMB 1
billion in Hong Kong in June 2009.
6. Impact of China’s Banking Reform on
Hong Kong’s Financial Sector
RMB Business
 Since July 2009, Hong Kong banks have been allowed to
settle in RMB trade transactions between Hong Kong and
the mainland of China for their customers. Such
arrangement reduces risks arising from exchange rates
fluctuation and reduces transaction costs.
6. Impact of China’s Banking Reform on
Hong Kong’s Financial Sector
RMB Business
 The expanded RMB business in Hong Kong helps stabilize
the business of banks in Hong Kong when the Hong Kong
economy is experiencing fluctuation.
6. Impact of China’s Banking Reform on
Hong Kong’s Financial Sector
Rural Banking
 Banking reform since 1994 has focused on the institutional
overhaul of banking sector in urban areas. After three decades of
reform, the rural financial reforms still lag behind, thus creating
the risk of slowing down further rural development. The Postal
Savings Bank (PSB) was established in 2007 to take over the rural
financial services previously provided by the post offices. The
new bank will provide a network of 37,000 branches providing
banking services, including small loans to individuals, in rural
areas (Kwong 2007b: 5). However, since the postal saving system
was not allowed to extend loans to rural households and
enterprises prior to 2007. Staffs in PSB are in lack of expertise in
extending loans in regard to risk and profitability consideration.
6. Impact of China’s Banking Reform on
Hong Kong’s Financial Sector
Rural Banking
 China Banking Regulatory Commission (BRC), China's
banking regulator, designed a plan to set up 1, 294 new
financial institutions in rural areas over a three-year period
(2009-2011) to cater for the escalating demand for financial
services in rural sector.
6. Impact of China’s Banking Reform on
Hong Kong’s Financial Sector
Rural Banking
 The financial vacuum in rural China allowed banks in
Hong Kong to tap into this underdeveloped market. HSBC
established its first rural bank in the Cengdu District of
Suizhou City in Hubei Province in 2007. Standard
Chartered opened its first village bank in North China's
Inner Mongolia Autonomous Region in 2009.
6. Impact of China’s Banking Reform on
Hong Kong’s Financial Sector
Rural Banking
 Nevertheless, the business in rural China must be viewed
from a gradual and long-term perspective as average size of
each loan application in rural areas remains small, which
lowers the cost-effectiveness of processing each application.
Further, the lack of collaterals from farmers increases the
default risks of the loans. Lower profitability and higher
risks deter the banks from taking bold steps to tap into the
rural business, particularly in poor regions.
7. Conclusion
 Over the past three decades, China’s banking reform has
been lagging behind reforms in other sectors. Though
China’s accomplishments in banking reforms are
staggering, particularly in terms of reducing NPLs, lifting
up CARs, and enhancing corporate governance, state
influence on banks’ operation is still evident, either direct
or indirect.
7. Conclusion
 The long-term efficiency of China’s banking system relies
on whether banks can truly operate according to market
principles such as profitability and repayability, which in
turn rests on the extent of state dominance in loan decision
and setting interest rates. Central leaders are still reluctant
to surrender control to the market, not to mention the
foreign investors.
7. Conclusion
 Foreign banks’ presence in terms of branch network and
assets, even after WTO accession, in China is still limited.
The market share, in terms of assets, of foreign banks in
China only slightly crept from less than 2 percent to 2.38
percent after the phase-in period in 2007.
7. Conclusion
 The significance of China’s admission to WTO lies on the
fact that China has to converge to international rules and
best practices of banks’ operation. Though it may constrain
state’s influence in the banking sector, it is a vital step to
force Chinese banks to face ‘real’ competition on more
equal-footing basis, through which enhances the efficiency
of the banking sector.
7. Conclusion
 A well-functioned banking sector with effective
mechanism to channel loanable funds to productive
projects is fundamental to sustain China’s long-term
growth and development. To achieve this, an overhaul of
ownership structure of SOCBs and the further opening up
China’s banking sector to foreign competitors are crucial.
7. Conclusion
 However, financial crises in 1997-98 and 2008 reaffirm
central leaders’ cautious approach in dealing with the
financial sector. China was relatively unaffected by the two
crises due to the slow pace of liberalization in financial
sector. Central leaders do not see the urgency of speeding
up the pace of liberalization.
7. Conclusion
 It is prima facie that a closely-regulated and state-
dominated banking sector did not tradeoff very much
China’s economic performance in the past three decades.
Notwithstanding, from a long-term perspective, it may
dash foreign investors’ incentive to expand their presence
in China and thus impedes its progress in
internationalizing the banking sector, which is of primary
importance for china’s further integration into the global
economy.
References
 Kwong, Charles C L (2009), ‘Mission Completed or
Problems Unsolved? A Policy Review of China’s Banking
Reform,’ in Xiaohui Liu and Wei Zhang (eds.) China's Three
Decades of Economic Reforms, Oxon: Routledge.
 Kwong, Charles C L (2010), ‘Continued State Dominance in
Commercial Banks: the Myth of China’s Pro-market
Banking Reforms,’ in Lai-ha Chan, G. Chan and Fung Kwan
(eds.) China at Sixty: Global-Local Interactions, Singapore:
World-Scientific. (forthcoming)
- Thank You -