Domestic banks facing decline in profitability

Interest rate deregulation and disintermediation, or money flowing out of bank deposits to other investment channels, will be the top challenges for the Chinese banking sector over the next one and a half years, Moody's Investors Service said Thursday.

China's banking sector has a stable outlook over the next 12 to 18 months, but asset quality will remain under pressure and profitability will decline as interest rate liberalization erodes net interest margins, Moody's said in a report.

Chinese bank's semi-annual results this year have signaled a visible deterioration in asset quality, Moody's warned.

Delinquent loans were on the rise in the first six months, "many of which will migrate to non-performing loans," Hu Bin, vice president and senior analyst at Moody's Financial Institutions Group, said at a media roundtable Thursday.

Interest rate deregulation and liberalization, which allows a wider range of fluctuation in benchmark interest rates, will lead to a narrower net interest margin (NIM) for Chinese banks as they rely on interest revenues, Hu said.

Disintermediation, or a flow of money out of banking deposits and toward other investment channels such as wealth management products, will also limit banks' ability to get more funds for lending.

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