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3.2.4 Capital inadequacy

Naughton (1998) pointed out from 1985 to 1992, the capital adequacy reduced steadily in ABC, ICBC and CBC. None of the foue SOCBs reached the 8 percent ratio required accounting to the Basle standards by the end of 1992.

According to Guifen and Sayuri (2004) analysis, faced this problem, in August 1998, the MOF issued RMB 270 billion (US $32.5 billion) of special government bonds to SOCBs. 

Table 5 the Capital Adequacy Ratio of the SOCBs

1997 1999 2002

Agricultural Bank of China 2.14 5.1 1.44

China Construction Bank 2.73 2.5 6.91

Bank of China 4.70 3.0 8.15

Industrial and Commercial Bank of China 2.55 5.7 5.54

Source: annual report of the ABC, the BOC, the ICBC and the CCB

As a result of this, the SOCBs capital adequacy ratios reached 8%, however, this rescue only turned out to be a temporary solution. After 1998, the capital adequacy ratios of the SOCBs have dropped. (the figures can see table 5)

The reason of the capital inadequacy is the SOCBs’ the speed of asset increases is higher than speed of capital increases. In fact, the rapid extension of credit can make the decrease of the capital adequacy ratio. In addition, the decline in profits form lending activities, the low capital adequacy ratios were formed.

Table 6 Profits on Asset of China’s Banking Sector 

year SOCBs Policy banks Joint-stock Commercial banks Foreign banks

1998 0.10% 0.11% 0.97% --

1999 0.17% 0.15% 0.64% 2.69

2000 0.25% 0.51% 0.49% 1.92

Source: Almanc of China’s Finance and Banking 1998-2000

Based on the reported by Almanac of China’s Finance and Banking (table 6), it can clearly prove the profits on the assets of the SOCBs have lower than these of policy banks, they also lower than profits on the assets of joint-stock commercial banks. When compare with foreign banks, the profits on the assets of all these kinds of Chinese banks are much lower than those of foreign banks.

3.2.5 Low Profitability

After over two decades reform, the profitability of the domestic banks still remains at relatively low levels. Alicia, Sergio and Daniel (2007) points out Chinese banks has the low profitability for the period 1997-2004. It induce reduce the investors’ interest in financial institutions, so the banks might no enough capital to continue operating.

Table 7 International comparison of performance measures in 2004

(in percentage) China Eastern Europe

ROA 0.4 1.8

Net Interest Margin (*) 2.2 5.1

Operating Income (*) 2.6 6.3

Cost to Income (*) 47.2 21.7

Pre-Provision Profit (*) 42.6 60.1

Capital ratio 4.0 11.0

NPL ratio 13.0 2.7

Loan Loss Reserves over total loans 5.5 6.3

(*) Over total assets

Source: Bankscope

According to the table 7, it can know the return on average assets (ROA) of the Chinese banking system was 0.4, compare with 1.8 ROA of Eastern Europe, it’s obviously low, it’s also lower than international standards. The Chinese bank has the low net interest margin and operating income, however, they have the high cost to income. Furthermore, Yao and Jiang (2007) show that state-owned banks were 8%-18% less efficient than non state-owned banks, but no analysis has yet been conducted on profitability. The foreign banks are more profitable than domestic banks in emerging countries.

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