17 February 2020
Private banks are intended to serve the funding needs of small businesses. Photo: Bloomberg
Private banks are intended to serve the funding needs of small businesses. Photo: Bloomberg

Private banks should not become like their state peers

Private banks mainly serve small businesses. Current efforts to encourage the establishment of these banks are intended to help solve the financing difficulties faced by small and medium-sized enterprises, a chronic problem in China.

Our economic planners and regulators should see to it that the establishment of small, private lenders will serve this purpose. Regulations and supervision, as well as restructuring of the whole banking sector, are needed to bring the advantage of private banks to full play to ensure they can focus on SMEs and mitigate risks.

Compared with state-owned giants, private banks feature a different gene that draws them closer to SMEs. Stakeholders of such banks are mostly private business owners who have achieved fortune and success by working their way up from the bottom rung, and as such, they have a better understanding of small businesses and a natural friendliness toward them.

State-owned banks tend to serve their kind — the large, government-controlled companies — because these lenders believe SMEs, without strong background and financial brawn, are prone to defaulting on their loans.

But with business acumen and a well-built information network in the local market, private banks can excel in this segment.

At least one case has shown that living off SMEs can be profitable and features low risk. Taizhou Bank in East China’s Zhejiang province can be regarded as a Chinese bank that is closest to a pure private bank. Its stakeholders are mostly private companies and individuals, with some state companies having a minority stake. Its clients are basically SMEs and individual business people.

The bank’s net profit-asset ratio stood at nearly 2.2 percent in 2012, beating the national average of 1.3 percent. Its bad loan ratio was 0.43 percent that year, much better than the national average of 0.95 percent. The lender’s risk-control ability can be described as outstanding if compared with its counterparts in Zhejiang, where banks’ bad loan ratio stood at 1.6 percent at the end of 2012.

Another example of how privately run lenders can efficiently control their risks while making handsome profits is the existence of numerous underground banks often run by individuals in villages or townships. In Zhejiang, Fujian, Jiangsu and Guangdong provinces, these illegal entities, whose clients are mostly tiny business owners and farmers, are popular. They can easily beat government-backed rural credit cooperatives and rural banks in terms of profit margins and risk controls. Their superb skills in collecting information and their crude but effective risk evaluation methods are also impressive.

My research on four cases of illegal rural lenders in Zhejiang province shows that their profit margins could be 10 percentage higher than that of local rural cooperatives even if their profits were adjusted by deducting tax and extra gains from higher-than-required lending rates.

So it is fair to expect the establishment of purely private banks to run well and help alleviate SMEs’ long-term complaints about financing difficulties.

But this will happen only after due regulation and supervision are put in place to make sure these banks run in the direction set for them by policymakers.

Since July last year, when the central government announced plans to allow the establishment of private banks, 67 such banks have passed a pre-review by the State Administration for Industry and Commerce by the end of 2013. In fact, the China Banking Regulatory Commission has put the establishment of private banks on top of its 2014 to-do list.

But the current fever in setting up private banks appears to be driven more by a desire to make easy money than by the goal of serving small businesses. As long as China’s interest rate regime remains controlled and its banking sector is not fully open to all investors, a distorted interest gap and a status of monopoly will ensure that banks can comfortably reap fat profits, a scenario former premier Wen Jiabao openly criticized in 2012.

Lured by the promise of huge profits, private banks will learn from their state peers to put a big part of the depositors’ money into high-return projects such as properties and trust funds, instead of focusing on real-economy sectors. This is a complete turnabout from the role they are supposed to perform.

The other concern is that some private investors are setting up banks to give themselves a convenient platform to raise money, thus turning such institutions into their private coffers. This thinking may eventually hurt the interest of depositors.

To reduce all these adverse effects, policymakers should adopt a measured approach to  deregulation and put in place due regulatory scrutiny of the sector.

Private banks should be allowed to set up in small numbers and by batches in the early stages, and it would be good to let them first operate on a regional level. By doing so, the adverse effects of setting up private banks can be minimized.

Rules should also be put in place to limit the private banks’ loans, whether these are granted directly or indirectly, to their shareholders, be they companies or individuals. The government has set the loan ratio to the single largest customer at 10 percent for all lenders. This could be brought down to a lower percentage. Such measures will help prevent the banks’ loans to flow back to their stakeholders, who may use the money for speculation on high-risk sectors.

Last but not the least, private banks’ off-balance-sheet operations must be monitored constantly to make sure funds go to real-economy sectors.

These restrictions, however, should be loosened gradually to ensure a level playing field for both state and private lenders.

– Contact the writer at [email protected]



The writer is an economic commentator. He writes mostly on business issues in Greater China.