SHANGHAI--China's move to allow more competition in itsstate-dominated banking sector revives a reform shelved for nearlya decade and defies expectations of a policy freeze before theleadership change this year. In what analysts see as a significant step for economic reform, thecentral bank will allow banks more flexibility to set interestrates, effectively introducing greater competition and improvingallocation of capital. Just two months ago, Chinese Premier Wen Jiabao railed against the monopoly of big banks, which have reaped healthy profits andfunneled cash to state enterprises while shunning more nimbleprivate firms. In a policy announcement on Friday made along with the firstinterest rate cut in over three years banks can offer a20-percent discount on loans against a government-set benchmark anda 10-percent premium on deposits. |
The People's Bank of China has resumed its interest rateliberalization process, stalled since 2004, said Qu Hongbin,co-head of Asian economics research for HSBC in Hong Kong. This ... also implies that Beijing is getting ready to step upits pace of financial reforms. The change means banks can attract borrowers with cheaper loanswhile drawing deposits by offering higher interest rates.Previously, lending rates only could float just 10 percent belowthe set rate. Such a reform was not expected to happen ahead of aonce-in-a-decade leadership shake-up in the autumn, withexpectations the government would avoid change to preservepolitical and financial stability.
We didn't get it until now, when arguably the politicalbackground is less certain, Ken Peng, senior economist at BNPParibas in Beijing, told AFP. Generally, people didn't expect such momentous change until afterthe 18th Party Congress, he said, referring to the CommunistParty meeting which will usher in the country's new leaders. For years, officials have pledged to further liberalize rates. Thelast moves date to 2004, when the government removed a ceiling onlending rates and scrapped a floor on deposit rates.
There are signs of movement on other economic reforms. A month ago,China began allowing its currency to trade in a wider band againstthe U.S. dollar, on the long march for the yuan to become freelyconvertible. As China has put internationalization of the renminbi (yuan) onthe agenda, it must also carry out internal liberalization, LiaoQun, chief economist at CITIC Bank International in Hong Kong, toldAFP. Some analysts argue the time for interest rate liberalization isripe, even as the world's second largest economy slows.
Morecompetition should drive lending rates lower, helping pump morefunds into the flagging economy. These policies are positive for China's long-term growth, asfinancial resources can be allocated more efficiently, said ZhangZhiwei, chief China economist for Nomura Securities. But they also bring risks to financial stability. Banks will be the biggest losers as the reform will eat into theirprofits by narrowing the spread between lending and deposit rates.Publicly traded Chinese banks fell on Friday on those worries. The Industrial and Commercial Bank of China (ICBC) the country'sbiggest lender tumbled 4.9 percent in Hong Kong trading whileanother state banking giant, China Construction Bank, fell 4percent.
With the potential for risk to the banking system, China will movecarefully to implement further reforms, analysts said. Of all the structural changes in the rebalancing process,interest rate liberalization may be the hardest to implement, Chris Leung, senior economist at DBS in Hong Kong, said in a recentreport. The government must have a strong will, whilst banks must bewilling and able change the way they assess credit risks and grantloans.
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