Liu Zhigang of King & Wood Mallesons in Beijing looks at how changes to the Chinese regulatory system has affected the financial market
The rapid development of the Chinese economy continually forces change. The banking market is an excellent example. The slow process of the restoration and reconstruction of the international banking market after the 2008 global financial crisis, the huge changes in the Chinese domestic financial market, the rapid emergence of new financial products and the profit-making pressure faced by the traditional banks is pushing the banking market in China to change, change and change. Among all push factors, an important one is the continuous development and loosening of the regulatory mechanism. The following are some examples.
1 The loosening of the interest rate rules
Before 1993, all interest rates used in the business were regulated strictly by People’s Bank of China (PBOC) and all entities in the market must use such regulated interest rates for business. Since 1993, interest rates liberalization has been constantly progressing. The most recent development occurred in July 2013, when PBOC announced that all limitation for the RMB loan interest rates was removed. Although PBOC’s basic interest rates for loans still exist, the banks decide the interest rate for each specific loan.
This change came suddenly and Chinese banks are still working on how to price loans correctly. Indeed, banks still often use the basic interest rates as a pricing tool. In China, there are no such rates as LIBOR or EURIBOR, which can be used as a reference. SHIBOR might be a potential reference rate, but there is still a long way to go.
Theoretically, the removal of the control over the deposit rates is the final step towards overall interest rate liberalisation in China. Mr Zhou Xiaochuan, the president of PBOC, mentioned that such a step might be taken within two years in a new conference in March.
2 The gradual rise of the informal finance market
We use “Informal Finance” here to mean that the financing is made through entities, which do not have a license for doing financing business or in ways, which are not clearly provided for in the laws and regulations. Informal finance exists at all times and everywhere worldwide, but in China we have a strict financial supervision system, and only licensed financial institutions are entities, which can grant finance licenses. Although a lot of other entities are doing that, they are illegal. However, in recent years this issue has become a very hot topic in China. The main reason is that in recent years small and medium enterprises faced more and more financing difficulties, at the same time the public faced more and more difficulties in finding suitable investment for their wealth. As a result informal finance has been developing rapidly.
Informal finance does bring higher risk, both to the relevant parties and to the whole financing system. However, it grew from the markets internal demand. The regulators gradually loosened controls over informal finance in recent years in order to stabilise the market. Several pilot financing mechanisms were introduced in certain places and, here are cases in which the provincial courts have admitted the legality and validity of informal finance.
3 The burst of internet financial products
Internet finance is but one part of the informal finance industry. However, it became very important in China from last year (2013). Before 2013, the main forms of internet finance are only on-line banking businesses conducted by the traditional banks. Today, internet finance entities often sponsored by industrial entities and internet finance products provided by such entities have become the fastest growing segment of the market. The main products provided by such entities include: on-line payment for trade, on-line deposits and on-line loans, etc. Such products attacked the traditional banks business model. For example, if one person deposits Rmb10,000 with the bank from January 1 2014 to March 31 2014, he will get less than Rmb9 as interest; however, if he buys on-line deposit products with the same amount and for the same term, he will receive more than Rmb145 as the profit.
Before 2013, no governmental agency supervised the internet finance business conducted by such entities because it is beyond all relevant regulator’s authority. Today, although the government still encourages the development of such businesses, the authorities pay more attention to the effective supervision of it. PBOC might become the main or lead supervisor.
4 Shanghai free trade zone
On September 27 2013, the State Council published the General Scheme for China (Shanghai) Pilot Free Trade Zone, which outlines the main objective of the FTZ. The Shanghai FTZ was formally launched on September 29 2013.
The Shanghai FTZ has many pilot policies. In the finance sector, the proposal is to further open up the financial services sector and improve financial innovation within the FTZ.
China Banking Regulatory Commission (CBRC), Shanghai municipal government, PBOC and The State Administration of Foreign Exchange Shanghai Branch issued several measures and detailed rules to support the financial sector and business in the FTZ, including: loosening the capital requirement for setting up financial institutions in FTZ; permitting cross-border Renminbi settlement for current account and direct investment; permitting offshore Renminbi borrowings by FTZ entities; permitting cross-border Renminbi trading; facilitating foreign exchange receipt, settlement, purchase and payment under current account; relaxing exchange control for financial leasing companies; simplifying foreign exchange registration procedures for direct investment; implementing voluntary settlement of foreign exchange capital by foreign-invested enterprises; relaxing control over external lending; etc.
5 Credit assets securitisation
The first credit assets securitisation deal in the China market came in 2005, when CCB and CDB issued ABS in the interbank bond market, thereafter several other banks and institutions also issued ABS in that market. This process was suspended by the global financial crisis in 2008.
In 2012, the government turned on the “credit assets securitisation business” again. At the beginning a quota of only Rmb50 billion was allocated to several institutions, then later another Rmb200 billion quota was released. The regulators hope to gradually make this a stable and normal part of the Chinese financial system.
On October 24 2013, CBRC promulgated the Notice on the Engagement by Local Incorporated Foreign Banks in the Pilot Work of Credit Assets Securitisation, allowing the local incorporated foreign banks to, under the current pilot credit assets securitisation system, implement credit assets securitisation projects on a small-scale, batched basis.
King & Wood Mallesons
About the author
Liu Zhigang focuses on general banking business, international and domestic finance, incorporation (including capital increase) of financial institutions, derivative transactions and bond issuing transactions, etc. He has extensive experience in international and domestic finance transactions including import and export credit, commercial loan, syndicate loan, acquisition finance and project finance, etc.
Liu Zhigang joined KWM in 2003. Prior to joining KWM, he worked at China Construction Bank for many years. His experience in the bank made him the right person to provide tailored legal services in the deals. Liu got his LLM degrees from both of Nankai University and Duke University.