Implementation of Basel III in China would result in a vicious downward cycle. It should be postponed until developed countries have reached an agreement on the requirements, market participants have said.
Last week the China Banking Regulatory Commission (CBRC) was reported to have postponed implementation of new capital adequacy rules for Chinese banks until then end of this year. It is understood the move aims to keep China’s loan markets as liquid as possible and encourage lending to small and medium enterprises (SMEs).
Considered overly-stringent and anti-competitive by a number of bank executives and industry analysts in China, the draft bank capital and liquidity requirements were published in August 2011. They have since been subject to several modifications and were originally intended to be effective from July 1, subject to State Council approval, as part of CBRC’s effort to implement Basel III capital adequacy rules.
Market participants have welcomed the regulatory push-back.
FenXun Partners’ Xusheng Yang said it was prudent for China to defer Basel III implementation while those in developed markets continue to criticize, and disagree with, the requirements.
Allen & Overy’s Joseph Tse agreed. “In the run-up to the change of leadership in China toward the end of this year, stability is the overwhelming consideration among the top Chinese leaders,” he said. “They will be most reluctant to introduce an untested, and in certain markets still controversial, regulatory regime which may expose the banking sector in China to unknown risks.”
While another Beijing-based counsel said implementing Basel III requirements now would push China’s already-uncertain economic climate into a vicious downward cycle.
“China’s economy is slowing down and as it slows down we will see more non-performing loans coming out,” he said. “If policy-makers were to implement Basel III at this moment then the banks would be forced to raise capitals though methods which will further damage our economy, such as tapping the country’s domestic stock markets or cutting bank on new loan origination.”
Fund-raising via China’s underperforming equity capital markets would result in a huge volume of share issuances which could cause the market to crash. “Shareholders will be reluctant to allow Chinese banks to risk money in this way,” he said.
If banks were to decrease risky business assets by limiting the number of new loans, or carrying out less restructuring of existing loans, it would lead to a vicious downward economic cycle, the lawyer said.
Several of Chinese commercial banks conducted equity financings either in China on the offshore capital markets in 2010. This was done simultaneously with an increase of the banks’ capital adequacy ratio, prompting public shareholders to lose interests in their stock, and resulting in substantive loss to the industry.
Paul Weiss’ Jeanette Chan said these facts corroborate that implementation of Basel III may not be a good idea in the current market.
The situation has been exacerbated by the China Securities Regulatory Commission’s (CSRC) drive, under the impetus of new chairman Guo Shuqing, to encourage China Listcos to pay dividends to their shareholders.
All major banks in China are listed. But despite CBRC-controlled interest bands facilitating the growth of relatively healthy profits over the last few decades, they have never paid dividends to shareholders. In a bid to change this, Guo is urging all Listcos to declare dividends at their next shareholders’ meetings.
However, if banks are to declare dividends to shareholders, they will retain fewer profits and thereby have less Tier 1 capital on their accounts. This it will thereby be even more of a challenge for them to comply with Basel III.
“No matter which way you look at it, implementation of Basel III would force China’s banks to cut back on the basics, and that’s not good for anyone,” said Yang.
“Central government is currently too reliant on banks to help revive the economy, by originating more loans to SMEs, investing in infrastructure and so on, to allow that to happen.”