Regions will shore up China’s smaller banks

August 2, 2016

The author is a Reuters Breakingviews columnist. The opinions expressed are her own.

China’s regions will back local banking champions. Anxious economists in Beijing may want to rein in risk-hungry local banks, but provincial officials have every reason to keep them afloat, as bad loans mount and capital buffers erode.

Industrial Bank, a mid-tier lender based in Fujian province, is the first of what is likely to be a queue of banks hitting up backers for capital. On July 29 it announced plans to raise $3.9 billion from six friendly shareholders, including its provincial Department of Finance and centrally owned China Tobacco.

Industrial needs more money because it – and peers – are getting squeezed. China’s “Big Five” state-owned banks hog access to the borrowers with the best collateral and cleanest books. That leaves the also-rans squabbling for scraps, lending to riskier borrowers and indulging heavily in shadow banking.

There are two problems: first, the private sector is borrowing less. Second, officials want to discourage smaller banks from issuing high-yielding “wealth management products”. That looks likely to suppress the one business line where banks like Industrial could compete with the big boys on relatively flat ground.

The fresh capital is welcome. Like other aggressive regional banks, Industrial is one of the weak links in China’s financial system. It had a core Tier 1 capital ratio of just 9.2 percent at end-2015, according to its annual report. That is well below the industry average of 12.6 percent, Thomson Reuters data shows.

Moreover, as at peers such as Zheshang Bank and Bank of Jinzhou, interbank deposits make up more than 40 percent of Industrial’s deposit base, according to Gavekal Dragonomics research. This reliance on other banks could leave medium-sized lenders vulnerable to a liquidity crunch if peers started to question asset quality.

In any case, though, Fujian needs banks it can order to prop up wobbly local employers. Thus, government-linked investors are riding to the rescue. The same goes for other embattled provinces struggling to downsize sunset industries without mass unemployment. Smaller banks may have ugly books, but if governments need them to keep throwing good money after bad, they will have to keep recapitalizing them.

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