MNI EXCLUSIVE: China Banks Want More Guarantees To Boost Loans

     BEIJING(MNI) - Regional Chinese banks are calling for state loan guarantees

to be strengthened if they are to comply with regulatory pressure to boost

lending to smaller companies whose business and credit quality were often

already weak even before they were more severely impaired by the coronavirus

epidemic, bankers and advisors told MNI.

     The government is offering up to CNY400 billion in guarantees for small-

and medium-sized businesses this year, double 2019's amount, according to the

Ministry of Finance. But, while banks throughout China have boosted credit

support to the sector, smaller banks have also enhanced risk controls despite

ample interbank liquidity and low interest rates, said Zhao Junhong, deputy

governor of Guangdong Nanyue Bank, a city commercial bank in Guangdong province.

     Some of the companies needing to borrow have been struggling for some time,

following previous official campaigns to reduce excess leverage and industrial

overcapacity, said Liu Xiaochun, former governor of China Zheshang Bank, a

national joint-stock commercial bank headquartered in Hangzhou, Zhejiang

Province.

     With a shortage of healthy demand for loans, increasing credit support to

small businesses would be likely to be reflected in falling asset quality over

the next two years, said Liu, now senior fellow at the National Institution for

Finance and Development, adding that regulators would have to deal efficiently

with any subsequent bank failures in order to avert market volatility.

     The central bank should also be careful not to expand liquidity too

vigorously, lest it inflate asset price bubbles, given this lack of adequate

assets for banks, he said.

     --OUTLOOK CUT

     In March, Moody's reduced its outlook for six regional Chinese banks to

negative, pointing to pressure on asset quality and profitability during the

virus outbreak. The lenders have less diversified portfolios, with higher

exposures to smaller companies and to weaker sectors, it said.

     The State Council has told the five big state-owned banks to increase loans

to SMEs by 30% over 2019 levels in the first half of 2020. The big five's

outstanding loans to the sector reached CNY3.26 trillion in 2019, up 45% in a

year.

     But much of the additional lending has gone to bigger SMEs, leaving most of

the pent up demand among less creditworthy firms, Zhao said, suggesting that

regulators should reconsider the use of quantitative lending targets.

     Smaller banks also have too little capital to take on loans with high risk

weights, Zhao said, noting that while their capital is often higher than that of

the big lenders they also face more nonperforming loans. Only if they control

the growth and quality of their loan books will they be able to recapitalise

themselves at a time when their share prices are depressed, he added.

     With banks' return on equity generally a bit over 10%, expanding credit to

SMEs by more than 10% without compromising capital ratios would be difficult, he

said.

     --PERPETUAL BONDS

     The People's Bank of China launched a facility last year to swap perpetual

bonds which count as capital for government bills, used as central bank loan

collateral, in a bid to encourage banks to strengthen their ratios. But investor

appetite for the bonds and for preference shares is weak, just as weak profits

reduce organic capital generation, an advisor on banking policy told MNI. Local

governments, major shareholders in most regional banks, are also financially

stretched and unable to help, he said, adding that the government could provide

guarantees against banks' capital instruments.

     The PBOC has offered the swap facility twice this year, for CNY11 billion,

compared to seven times for a total CNY32 billion in 2019. Chinese banks issued

CNY569.6 billion of perpetual bonds in 2019, according to Wind.

     The nation's lenders had an average capital adequacy ratio of 14.64% at the

end of 2019, with core CAR of 10.92%, according to the China Banking and

Insurance Regulatory Commission. But the advisor said smaller lenders' core

ratios are lower than needed, with data hard to obtain for non-listed banks, at

which average nonperforming loan ratios could be about 6%, or even 10% in some

cases.

     Pressure on net interest margins is set to continue as the central bank

guides the loan prime rate lower. There is a danger banks might try to

compensate by buying risky assets, said Zhao, who saw little respite from PBOC

cuts to the deposit rate given that smaller banks need to offer higher rates to

compete with larger lenders.

     Small banks' average deposit rate is about 2%, compared with the benchmark

one-year deposit rate of 1.5%. Their overall funding cost, including wholesale

funding, is about 3%. Further deposit rate cuts could divert funds to

higher-yielding wealth management products, further constraining lending, said

Liu, who argued that regulators should allow banks more freedom to set rates.

     The banking system requires consolidation, he said, adding that it is less

concentrated than those of other major economies. An increasingly mobile

population and the need to invest in technology, require bigger, more robust

lenders, he said.

     The fate of China's smaller banks will depend, to a large degree, on when

the pandemic ends. If disruption lasts a year, many companies will fail, noted

Zhao, suggesting that in that case, economic shockwaves could persist for three

to five years. Small banks must make their balance sheets more efficient and

develop new businesses outside traditional loans, he said.

--MNI London Bureau; +44 203 865 3829; email: jason.webb@marketnews.com

[TOPICS: MMQPB$,M$A$$$,M$Q$$$,MC$$$$,MT$$$$,MX$$$$,MGQ$$$]