China Market Further Opens to Foreign Banks

Premises

Generally speaking the bank businesses are all with high benefit. According to Report on China Banking Industry 2015-2019, calculating on 3% interest margin, only the loan item automatically adds 800-900 billion RMB to the profit annually in Chinese banking market. Under normal circumstances, banking is definitely one of the most lucrative industry in business. Banks in China have high potential in improving self-quality and operational management efficiency and a lot of foreign banks have entered China market in order to get part of the “cake”.

On December 22 2014, the State Council announced the modification of Regulation of the People’s Republic of China on the Administration of Foreign-funded Banks(中华人民共和国外资银行管理条例2014修订)(hereinafter referred to as the “New Regulation”) which will ease market access for foreign banks in a move to further open up the domestic banking sector. The new regulation will come into effective on January 1 2015. According to this new regulation, China will widen the opening-up of its financial sector by relaxing control over market access for foreign-funded banks.

Development of the presence of foreign banks in China

Historical background

From 1979 to 1997

Foreign banks trickled into after China began its economic reforms in 1978 with Den Xiao Ping policies. A group of foreign banks set up representative offices in Beijing and concentrated most of their commercial activities in special economic zones (mostly in Shenzhen, a special economic zone next to Hong Kong). However, extensive capital investment was nearly impossible and the banks remained relatively passive as Chinese government debated the scale and scope of financial politics.

 

From 1998 to 2001

Because of the Asian financial crisis in 1997, foreign banks spent this period readjusting their development strategies. Market of foreign banks gradually diminished during this period due to China’s sluggish trade and the financial crisis fallout. In response, the People’s Bank of China (the central bank of China) lowered its benchmark interest rates nine times to help spur demand. These measures reduced the funding advantage of foreign banks and squeezed foreign exchange loans on expectation of heightened valuation.

 

From 2002 to present

Since China joined the WTO in 2001, it promised to permit foreign banks to do business in RMB and the foreign financial institutions established in China from 2001to 2013 increased from 190 to more than 400. State Council also issued Regulation of the People’s Republic of China on the Administration of Foreign-funded Banks(中华人民共和国外资银行管理条例)(hereinafter referred as the “regulation”) in December 2006 which foreign banks granted the right to offer services both in RMB and foreign currencies throughout China and before 2006, RMB dominated services were limited to major cities and from only select branches. Such revisions helps foreign banks bridge the use of RMB in China and their home countries, increase the number of financial institutions using the currency, and spur the offshore RMB market

The assets of foreign banks amounted to 2.56 trillion RMB, accounting for only 1.7 percent of the total assets of 151.4 trillion RMB in the Chinese banking sector at the end of 2013. In December 2014, the modification of the regulation further opens Chinese market for foreign banks.

Modification introduced by the New Regulation

1. Remove the minimum amount of non-callable allocation

According to ART 8 of the previous regulations issued in 2006, when a wholly foreign-funded bank or a Chinese-foreign joint venture bank establishes a branch in China, the branch shall receive from its parent bank a non-callable allocation of no less than 100 million RMB or an equivalent amount in convertible currencies as its operating capital. That requirement on the amount of non-callable allocation of operating capital has been removed from the ART 8 of the new regulations.

Previously, branches of foreign-funded banks in China had narrow channels to replenish their capital from retained profits or capital injection by their parent banks. Capital injection is related to foreign direct investment and needs approval from multiple government departments, including the China Banking Regulatory Commission, the State Administration of Foreign Exchange and the Ministry of Commerce.

By removing the requirement for a branch to receive from its parent bank a non-callable allocation of no less than 100 million RMB, China will undoubtedly loosen capital restrictions on foreign banks.

2. Remove the requirement for foreign banks of the establishment a PRC representative office

This is an epical change in the banking industry in China. In the past, a foreign bank in order to operate in the Chinese market it should have opened and maintained a representative office in China for more than two years before the bank could applied to establish its first branch in the country. The ART 10 and ART 12 of the New Regulation has been modified which scraps the previous requirement, which is to say foreign banks or Sino-foreign joint venture banks do not need to establish a China representative office first before they could set up branches. So, if a foreign bank intends to establish branches in China, it does not need to wait for two years.

3. Lower the requirement of application

Meanwhile, the new regulation has relaxed requirements on foreign banks’ application to carry out RMB business. According to ART 34 of the new regulation, foreign banks will be able to apply for such business if they have operated in China for at least a year, down from the previous requirement of three years. The banks applying for such business will also face no profitability requirement, a change from profit making for two successive years in the past.

In conclusion, the revised regulations have lowered the threshold for foreign-funded banks to establish branches within China and relaxed rules on foreign banks to have access to certain business, which signifies that China is accelerating the opening-up of its banking sector.

Comparation with the policies for Foreign Banks inside the China ( Shanghai) Pilot Free Trade Zone

At the moment there are 45 banks which have been settled down in Shanghai Free Trade Zone (hereinafter referred to as “SFTA”) up to the end of November 2014, including 22 Chinese local banks and 23 foreign banks.

The most arresting feature of SFTA is that the number of foreign banks is always more than the number of local banks. In the past year from the establishment, the SFTA has decreed many policies encouraging foreign banks to settle inside it perimeter, which includes RMB internationalization, capital account convertibility, interest rate liberalization, etc. Comparing to the limit of exchanging RMB and deposit rate in mainland, the exchange of RMB is liberally and there is no limit of maxim deposit rate of the foreign currency below 3,000,000 USD in the territory of SFTA, it is a huge convenience for the banks and enterprises. These policies enhance competitiveness and profitability of foreign banks in the Chinese market, and provide new opportunities.

Now, there are 4 free trade zones around China, which are Shanghai, Guangdong, Fujian and Tianjin. Xi’an, Lanzhou and Wuhan are applying their free trade zone, so the scope of the free trade zone is larger and it is good news for foreign banks.

Conclusion

Nowadays, it is very difficult for foreign small and medium sized enterprises (hereinafter referred to as “SMEs”) to get access to credits from Chinese banks since there are little assets to mortgage and most Chinese banks consider that the risk resistance capacity of SME is quite low. The loan approval system is quite restrict in Chinese banks, but for foreign banks, since the mechanism is more agile than the Chinese banks, there are more opportunities for them to credit to the foreign SMEs and bring more profit to both parties.

In the future, China banking has great potential to promote profitability; it is not only because of the huge market development space existing in domestic banking, also because of the high potential to enhance the overall operation quality of foreign banking considering the target of the Central government to transform Shanghai by 2020 in the first financial hub of the world.

The new regulation which will become effective on January 1 2015 will surely ease market access for foreign banks and become a good opportunity for the foreign banks to enter and expand in the Chinese market.

Disclaimer

This article is intended solely for informational purposes and does not constitute legal advice. Although the information in this article was obtained from reliable official sources, no guarantee is made with regard to its accuracy and completeness.