China's Trapped Transition_ The Limits of Developmental Autocracy - Minxin Pei [67]
Although these steps prevented a full-blown banking crisis, they did not succeed in improving the financial performance of the SCBs. The asset quality in the banking sector continued to deteriorate. The leadership transition in 2002-2003 provided fresh momentum for banking reform. A new regulatory agency, the Banking Regulatory Commission, was established in April 2003 to strengthen the prudential supervision of all deposit-taking institutions. In a shift of reform strategy, the new leadership in early 2003 decided to focus on turning the SCBs into joint-stock companies and listing their shares on overseas and domestic stock markets in the hope of improving their corporate governance. This strategy was implemented in late 2003, when the government selected BOC and CCB, two SCBs with lower NPL ratios, for new capital injection and corporatization.
As part of the strategy, $45 billion from China’s foreign reserves was transferred as core capital to BOC and CCB. In addition, the MOF wrote off its equity in the two banks, worth 300 billion yuan.57 In return, the government intended to hold the revitalized banks to tough corporate governance and financial performance criteria.58 Like other monopoly SOEs listed on overseas markets, BOC and CCB opened their arms to foreign strategic investors. Two large Western banks, the Deutsche Bank and Citigroup, expressed interest in taking stakes in CCB.59 Altogether, the cumulative costs in bailing out the SCBs alone were more than 2.3 trillion yuan, about 20 percent of GDP.60 But the eventual costs of writing off the NPLs in the banking sector would definitely be much higher. In all likelihood, capital injection and stock market listing, without substantial changes in the environment in which they operate, may not alter the nature of the SCBs as the conduit of government-directed lending.61
The overall assessment of China’s reform efforts in the banking sector has been negative mainly because these reforms have failed to increase competition, improve efficiency, and reduce NPLs.62 The state-dominated banking sector has failed in its role of channeling savings to the most productive sectors and areas. Loans extended by the banking sector at the national level have been found to have a negative impact on provincial economic growth because such loans were used to support SOEs.63 A study by the IMF has shown that the state bank-dominated financial intermediation is inefficient in converting financial resources into productive assets in China. The country’s most efficient and fastest-growing private sector, or the faster-growing provinces, has not used the financial system in any substantial way for financing its growth. For these firms and provinces, nonstate financing has contributed to faster growth.64 In provinces with more diversified banking sectors and where state banks have weaker influence, the growth rate has been higher.65 Due to the government’s control of interest rate policy, loan rates still do not reflect risks. This has been responsible for macroeconomic instability, as subsidized credit encouraged excess investment during boom years while administrative tightening of loans led to hard landings, especially in the 1980s.66 Financial sector reforms have failed to increase the integration of China’s capital markets.67
SCBs’ Dominance and Performance
To evaluate the reform measures taken by the Chinese government in the banking sector, three tests need to be applied. The first is whether such reforms have reduced the state’s control and intervention in this vital sector. The second is whether such reforms have increased competition in the sector. The final