Banking Laws Under Revision

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Last updated at: (Beijing Time) Monday, June 16, 2003

Banking Laws Under Revision

Legal experts drafting the revised version of China's two main banking laws are trying to address some lingering questions related to the industry.

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Legal experts drafting the revised version of China's two main banking laws are trying to address some lingering questions related to the industry.

But the prospects that the new laws will assert the central bank's status as an independent policy maker for monetary policy remain uncertain even if highly desirable, economists said.

Those writing the new laws are unlikely to move far from the existing clauses regarding the need to keep the barriers separating the banking sector from other financial sectors because the time is still not ripe for more radical changes, the economists said.

It will also be very difficult for the lawmakers to solve once and for all the problem of determining the ownership representation of State-owned banks, which is reportedly the subject of heated debate, the economists said.

The revision of the People's Bank of China Law and the Commercial Banking Law, both promulgated in 1995, was triggered by the approval by the National People's Congress (NPC) of an industry shake-up. In March, the congress gave the green light to a government overhaul plan whereby the central bank would give up its regulatory functions and under which the China Banking Regulatory Commission would be set up. The commission began work last month.

The old People's Bank of China Law said the central bank is responsible for monetary policy and regulating banks.

An official with the People's Bank, China's central bank, said that a team consisting of members of the State Council's Legislative Affairs Office, the central bank and the banking commission are working on the draft laws. The final revised versions are expected to be handed to the Standing Committee of the NPC in August for deliberation.

Matter of independence

The main reason for the reorganization of the banking system is that the authorities believed that it was harmful to both banking regulation and the making of monetary policy that the central bank did both. For example, when the central bank pursues a relaxed monetary policy, it is very difficult to resist the temptation to loosen banking regulation in order to assist that policy, said Wei Jianing, a senior researcher at the Development Research Centre under the State Council. Wei was a key advocate for the establishment of a separate banking regulatory agency.

The reform prompted experts to think about the chance of the authorities taking a step further towards making the central bank a real monetary policy-making body that would be independent from the government and only report to the NPC. But they are not sure how far the authorities will go in this regard. The revised People's Bank of China Law is believed to be an indicator of this.

"An independent central bank is extremely important for a long-term stable environment for economic development," Wei said.

"Many major issues concerning macroeconomic management are contentious in international academic circles. But the importance of an independent central bank is the least contentious one. In the case of China, the pros of an independent central bank also outweigh the cons."

An independent central bank is particularly crucial when the economy is overheated and a hike in interest rates is needed, said a senior fellow with the Beijing-based Tsinghua University's National Centre of Economic Research.

"If the central bank is under government control, the decision to raise interest rates is usually a hard one to make because it will directly affect employment and enterprises' profit levels," said the researcher, who refused to be named.

But there will be practical problems if the central bank is made to report to the NPC now. For example, the congress is currently not equipped with enough professionals who could effectively supervise the central bank. The short sessions of the congress - around two weeks every year - would also prevent it from performing a real role as overseer over the central bank's work, the Tsinghua researcher said.

Yuan Gangming, an economist with the Chinese Academy of Social Sciences, said: "It (an independent central bank) is important, but I don't think they will put that in the revised People's Bank of China Law.

"We still have a long way to go before the central bank can be really independent," he said.

Mixed but separated?

The Development Research Centre's Wei said those drafting the law need to be visionary when they are deciding whether to keep or revise the Commercial Banking Law clause about the separation of different sectors - banking, insurance and securities.

The alternative approach, which Western countries have adopted but abandoned later, is to allow financial institutions to mix them in their operations. Banks operating in this manner are called universal banks.

Universal banks are often stronger but are believed to have a greater chance of exposure to risks. This kind of bank has re-emerged recently in the Western world but mostly in the form of the financial holding company, which serves as a parent for separate companies conducting business in one or other of the different sectors.

China, considering its regulatory abilities and the management skill levels of its banks, opted for the compartmental approach in the 1995 Commercial Bank Law.

Wei said: "But now a rigid implementation of that approach will not help Chinese banks compete with foreign rivals backed by financial holding companies."

However, it is still unwise to totally scrap the barriers between the different sectors, Wei said.

A more balanced way to deal with the issue is to "make the new Commercial Banking Law have some flexibility in this regard. It should leave room for the development of financial holding companies," he said.

Who is the owner?

An NPC official told the Economic Observer newspaper that a major issue under debate among those drafting the law is who should be designated the ownership representative for the assets of the State-owned banks.

Before the reform in March, the People's Bank of China, the Ministry of Finance and the Communist Party Central Committee's Financial Work Committee together acted as the owner of the State-owned banks.

But the central bank is no longer the correct organization for the role as it will now concentrate on monetary policy. The banking commission is not the correct organization either because it would be unfair if the commission, which oversees all the banks, is also the designated owner of the State banks, said the Development Research Centre's Wei.

The Party's Financial Work Committee was disbanded as a result of the government reshuffle in March, which also led to the establishment of a new government agency, the State-owned Assets Supervisory and Administrative Commission. But the new commission is not responsible for State assets in financial institutions. The reason for this is that putting industrial enterprises and banks under the same umbrella might have enabled the agency to pressure banks to support industrial enterprises.

So the problem remains unresolved.

"I believe the Ministry of Finance should be the logical owner of the State banks," said the Tsinghua research fellow.

"Another option is to establish a specialist government agency."

But he said he doubted whether the revised Commercial Banking Law should tackle the problem.

"In fact, I think it is inappropriate to incorporate this issue into the Commercial Banking Law, which should be about the operation and regulation of all banks," he said.

A more reasonable solution would be to enact a law specializing in this issue, he said.

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