Sep 09, 2013 06:12 PM

Regulator Mulls Paving the Way for Private Banks


(Beijing) – It has been two months since the State Council said the government will explore the establishment of private banks invested by private capital and bearing risks themselves.

The move is widely viewed as real progress toward opening the financial industry to private investors because though non-state companies have been allowed to be the controlling shareholder of a bank, they do not manage the bank's operations independently enough to be considered running a business at their own risk.

The China Banking Regulatory Commission (CBRC) has said that it will strive to introduce by the end of the year a "concrete model" in which private bank founders bear their own risks. These banks will operate on a trial basis for a period, and their experiences will serve as the foundation for rules and regulations for expanding the pilot program, a CBRC document shows.

Many corporations, including retail giant Suning Commerce Group and Hubei Kaile Science and Technology Co. Ltd., a high-tech new materials manufacturer, have begun preparing to set up a bank.

Many have been calling for the regulator to specify the requirements for private banks' registered capital and operational scope, and to establish a clear set of rules for private banks to be created and closed.

The CBRC will issue bankruptcy laws and procedures for banks, as well as an outline for a deposit insurance system, both of which are of utmost importance to the establishment of private banks, as soon as possible, a source from the regulator said.

Beijing and Shenzhen may be the first cities to be approved for the pilot program, a source close to the central bank said.

"It's praiseworthy that private banking is appearing and gradually becoming more open," said Zhou Dewen, president of the Wenzhou Small and Medium-sized Business Development and Promotion Association.

A number of cities have shown interest in the pilot program. In August, the Management Committee of the Zhongguancun Science Park in Beijing said it will support companies in the park to set up a bank positioned to serve primarily private companies, high technology development and Internet businesses.

Shenzhen also wants a try. Chen Zhilie, a business executive and member of the city's political consultative conference, proposed last year that the government support large enterprises in establishing a high-tech bank in Qianhai, a pilot zone in the city for financial reform.

Zhou said many businessmen in Wenzhou, the entrepreneurial hub in the coastal province of Zhejiang, had filed applications to set up private banks but had not received a reply from the CBRC offices.

"The (approvals) procedure is full of trivial details," said Lu Weiguo, general manager of the Wenzhou Commercial United Investment Center. "We have no idea how far we have gotten in the process and are always told to wait for further notice."

He is part of a group of executives from 12 Wenzhou commerce associations that applied to the CBRC in May to jointly set up a bank, but so far, "nothing substantial has been achieved," he said.

Many businessmen like Lu have pinned their hopes on the State Council's new policy, thinking that it will speed up the approval procedures of establishing a private bank.

A CBRC regulator said the obstacle lies not in policies but operational details. "There is no policy against private investors setting up banks, but when it comes to the approval stage in practice, problems arise," he said.

In general, private investors can set up banks as long as they team up with a commercial bank, which needs to act as the initiating founder.

"This is to control risk because commercial banks are more experienced in managing risks," a CBRC official said. "We impose the same conditions for market entry on both state-owned capital and private capital. They both have to adhere to relevant conditions. Only good businesses will be allowed entry."

On August 9, the CBRC issued a draft amendment to a 2006 regulation governing the establishment of banks. The draft requires a bank's founders to have "a good reputation in society, no major illegal behavior in the previous two years and no major legal investigations spurred by internal management problems."

Equally important as entry threshold are exit procedures. Professor Xu Dianqing of the Peking University Economics Institute said whether a private bank should be closed depends to a large extent on its capital adequacy ratio. Under the proposed regulation, private banks must ensure that at least 8 percent of their total assets are from the founding investors.

Controlling Risk

There are also concerns that private banks may be used as a vehicle by their big shareholders to raise money for unintended purposes. "We're most afraid that banks will act as their own financing platforms," one regulator said. And much clarification is needed regarding what the State Council meant by "bearing risk themselves."

CBRC data shows that by the end of 2012, 45 percent of joint stock banks and 54 percent of city commercial banks were held privately; over 90 percent of rural small and mid-sized financial institutions are privately owned. Zhejiang has two urban commercial banks that are completely privately owned.

However, private shareholders still have a limited say in the daily operations of banks.

"It is not that we don't have private ownership, but rather that private shareholders have no say in operations," Wu Xiaoling, vice director of the Finance and Economic Committee of the National People's Congress, the country's top legislature. "Otherwise there would be nothing preventing private investors from acquiring existing banks."

It is one thing for private investors to promise "benefit and loss at their own risk," but putting the words into practice is another thing, said Zeng Gang, director of the Banking Research Office at the Chinese Academy of Social Sciences.

To begin with, the Company Law stipulates that the maximum loss a limited liability company's investor can incur equates to the full amount of investment it has made into the company. But this requirement may fall short of the demand of holding a private bank responsible for all of its losses, he said.

Also, he said the public might not be able to differentiate private banks from established commercial ones. If a private bank gets into trouble, it may trigger a run on all banks.

Guo Tianyong, a professor at the Central University of Finance and Economics, said self-borne risk does not necessarily imply unlimited liability, but rather that risks are covered through both market exit procedures and a deposit insurance system.

The deposit insurance system may soon be established, but a CBRC official warned that it will not solve all of the challenges faced by private banks. "It is rather just one link in the chain of banking safeguards," he said.

In the end, the success or failure of the pilot program of private banks will be judged "not by the number of banks extablished but by whether, in many years, several unqualified banks can be shut down without jeopardizing the financial stability of the region and the country," Xu, the professor at Peking University Economics Institute, said.

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