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2.7 Summary
After reviewing the history of whole process of financial reforms in China for past three decades, we can see that banking system has transformed very fast from rigid and unified to modernization and marketization. Nowadays there are different kinds of commercial banks, policy banks, postal saving banks, and non-bank financial institutions coexist in China’s banking system to satisfy the need of rapid economic development.
China government sped up the development of financial regime, including established CBRC as supervisory institution to oversee financial markets and banking operation, and restructured SOCBs into joint-stock limited company to improve their constitution, especially after China step by step opened up financial markets for foreign banks’ investment according to its commitments to WTO accession.
Under China’s WTO commitments foreign banks can provide services of RMB business in China without customer or geographic limitations began in the end of 2006;
therefore, since then SOCBs all went public one after another in order to enhance competition to face fierce challenges brought from foreign banks in the future. Now the five SOCBs are very huge either in assets or in scale, they all rank in the world’s top 100 largest banks.
However, in the initial stage of financial reforms, without relevant laws and supervisory regulations, amount and ratio of NPL were extremely high reflecting that banking operation in China was very backward, but after a serious of implementation of financial rules and afterwards the set up of AMCs, descending NPL ratios and rising coverage ratios of SOCBs in recent years showed that government’s policies on controlling bad loans problems and improving risk management were effective and loans quality of SOCBs indeed improved a lot.
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With growing economy the assets scale of banking industry in China expands drastically, among all banking institutions in China SOCBs account for over 50% of total banking assets. Attributing to the historic background of national specialized banks, protection and support from the government of China, SOCBs have maintained monopoly power and leading position in the financial markets, but this situation could results in imbalance banking development.
As to profitability of banking industry in China, the average ROA and ROE have reached the standard of top 100 banks in the world denoting that banking profitability performance is extremely good, nevertheless the main reason is because the benchmark lending and saving interest rates in China are controlled by the PBC, and that allows commercial banks in China to have advantage of high interest spread.
From 2008 to 2009 was the worst of time for world finance and economy due to the impact of global financial tsunami, but during the same period net profit of SOCBs all maintained positive growth rate, it seemed that none of them has been suffered from the downturn.
With respect to liquidity risk management, the China government enacted the upper limit of 75% Loan-to-deposit ratio, lower limit of 25% Liquidity ratio and other relevant provisions in the〈Law of the People’s Republic of China on Commercial Banks〉for commercial banks to obey. By observing regulatory figures of SOCBs from 2007 to 2009 all of them have satisfied the regulations.
In order to get in line with international norms and regulations, the CBRC set up the timetable of Basel II implementation for commercial banks, even though adoption of Basel II has not yet completely, but the requirement of minimum 8% of CAR and 4% of Tier 1 ratio are already applicable to all banks in China, and number of banks meeting the regulatory requirements has increased quickly year after year.
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By examining overall banking industry and SOCBs in China in four dimensions including profitability performance, assets quality, liquidity risk management, and capital adequacy ability, amazing progress for past three years was obviously revealed, although the development history of banking industry in China is not very long, dramatic evolution has been achieved after thirty years elapsed.
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Comparison of Banking Performance between China and USA
Banking industry in the United States of America (USA or US) is generally recognized with a leading position in the world, and most large international commercial banks are originated from USA, such as JP Morgan Chase Bank, Citibank and Wells Fargo Bank. Their stunning performance, management courses and financial innovations are always becoming models for commercial banks in other countries to learn and follow.
In this chapter the study not only gives an overview of current banking situation in the USA, but also collects and uses relevant financial indicators of representative banks of USA to compare with China top five state-owned commercial banks in four aspects such as profitability performance, liquidity risk management, assets quality and ability of capital adequacy to figure out the similarities and differences between each other.
3.1 Overview of Banking Industry in USA
With reference to the statistics of Federal Deposit Insurance Corporation (FDIC), excluding non-insured banks and other financial institutions, as at the end of 2009 merely the number of commercial banks insured and supervised by FDIC has reached 11,372 with USD 11,846 billion of total assets and USD 6,500 billion of total loans.24
24 See Federal Deposit Insurance Corporation, Industry Analysis, http://fdic.gov/bank/statistical/stats/2009dec/i
Afore-mentioned figures indicate that the size of US banking industry is very huge.
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Since sub-prime mortgage markets in USA collapsed in 2007, causing the issuers and purchasers of Collateralize Debt Obligation (CDO) and other derivative products of sub-prime mortgage in severe financial crisis or went bankrupt one after another, and then global financial turmoil was even triggered in the third quarter of 2008.
Till the end of June in 2010, there were 227 failed American banks went bankrupt since 2009,25
Banks in USA are referred as depository institutions, which are financial intermediaries accepting deposits from individuals and institutions and making loans.
Banking institutions in USA can be divided into three categories including Commercial Banking, Savings Institutions, and Credit Unions.
and the number has kept increasing. However, as of the end of year 2009 commercial banks had over USD 14 trillion in total assets, as a whole banking industry in USA was still the largest one in the world.
26 As for commercial banking which is comprised of US-chartered commercial banks, foreign banking offices in US,27 bank holding companies and banks in U.S.-affiliated areas.28
Every banking institution in USA is governed by Federal Reserve System (Fed);
Fed plays the role as the central bank of USA, which was founded by Congress in 1913 dedicated to provide the nation with a safer, more flexible, and more stable monetary and financial system.
Table 3-1 indicates total assets of banking institutions in USA from 2006 to 2009, in the first three years the total assets had increased steadily year after year, but in 2009 the figure slightly decreased from USD16,337 billion to USD 16,276 billion, it was because assets of foreign banking offices in US and saving institutions dropped
25 See Federal Deposit Insurance Corporation, Industry Analysis, http://www.fdic.gov/bank/individual/failed/ba nklist.html.
26 Savings Institutions comprise Savings and loan associations, mutual savings banks, and federal savings banks.
27 Foreign Banking Offices in U.S. comprise branches and agencies of foreign banks, Edge Act and Agreement corporations, New York investment companies, and American Express Bank.
28 Banks in U.S.-Affiliated Areas comprise commercial banks and branches of U.S.-chartered commercial banks located in Puerto Rico, the U.S. Virgin Islands, American Samoa, Guam, and other U.S.-affiliated insular areas.
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substantially. Among all the banking institutions in USA, US-chartered commercial banks accounted for over 60% market share of total banking assets, bank holding companies ranked the second accounted for around 12% to 16% market share.
US-chartered commercial banks consist of large and major commercial banks and they comply with the criteria as representative banks of USA to compare with SOCBs in China. As a result the study subjects will be chose in accordance with total assets and ranks among top commercial banks in USA.
Table 3-1: Total Assets of Banking Institutions in USA—2006~2009
Unit: USD billion
Year
Banking Institution 2006 2007 2008 2009
Commercial Banking 10,821 11,810 14,001 14,138
US-Chartered Commercial Banks 8,190 8,841 10,248 10,046
Foreign Banking Offices in US 828 1,048 1,625 1,271
Bank Holding Companies 1,695 1,813 2,024 2,722
Banks in US-Affiliated Areas 108 108 105 99
Savings Institutions 1,715 1,815 1,524 1,254
Credit Unions 716 759 812 885
Total 13,252 14,383 16,337 16,276
Source: Board of Governors of the Federal Reserve System, Economic Research & Data, http://www.federa lreserve.gov/releases/z1/20100311/z1.pdf.
Table 3-2 lists top five largest banks in USA, and all of them are nationally chartered member banks belonging to the category of US-chartered commercial banks.
In the order of ranking of total assets, top five banks are JP Morgan Chase Bank (JPM), Bank of America (BOA), Citibank (CITI), Wells Fargo Bank (Wells Fargo), Wachovia
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Bank (Wachovia). According to world ranking by total assets of Bankscope database as of July in 2010, JPM ranked among top 10 largest banks in the world with USD 1,627,684 million in total assets, but it was still secondary to ICBC which ranked number 8 in the world, while rest four banks all ranked among top 100 banks in the world equivalent to the size of total assets of other SOCBs in China.
Although total asset of BOA was smaller than JPM, but BOA had the largest amount of equities in US banking industry and it also had the largest number of branches and employees among others. With USD 1,161,361 million of total assets, CITI ranked number 3 in USA and number 22 in the world, and Wells Fargo ranked number 4 in USA and number 48 in the world by USD 608,778 million of total assets.
Currently the world rank of Wachovia is not available in Bankscope database, but its scale is close to BOCOM in China.
Table 3-2: Top Five Banks in USA—2009
Note: 1. According to Bankscope work rank is based on each bank’s total assets of last available fiscal year.
2. Number of Branches includes domestic branches and foreign branches.
3. NA indicates no data available.
Source: Bankscope, http://bankscope.bvdep.com/ip; Federal Reserve System, http://www.federalreserve.gov/rel eases/lbr/20091231/default.htm.
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Given these five bank’s large scale in total assets, their profitability, assets quality, liquidity management and capital adequacy ability will represent banks in USA to compare with SOCBs in China in following sections of this chapter.
3.2 Analysis of Profitability Performance
Due to the global financial tsunami, commercial banking sector in USA remained under significant pressure in 2009. Banking profitability was deteriorated by impacts of weak economy, lending activities and poor assets quality, with loan delinquency and charge-off rates rising to historical high in many cases and contracting balance sheets of banking, reflecting the weak portfolios and low profitability that weighed on the sector as a whole (Lee, 2010).
Figure 3-1 illustrates the composition of operating income of US top five banks in 2009, the proportion of net interest revenue in CITI’s operating income was the highest up to 74%, hence for CITI interest revenue was the major source of profit and it was very similar to SOCBs in China, because in the same year share of net interest revenue also accounted for 70% to 82% of SOCBs’ operating income.
Source: Bankscope, http://bankscope.bvdep.com/ip.
Figure 3-1: Composition of Operating Income of Top Five Banks in USA—2009
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As for other four banks, their proportions of net interest revenue were between 49.2% and 64.7%, with other operating income accounted for over 50% share of operating income, BOA particularly did not rely on interest spread as source of income, in other words the bank has multiple sources of profit.
In comparison with SOCBs in China, large commercial banks in USA have multiple financial products and innovative wealth management services, they are more capable to generate income from other business activities, and commission or fee-based income contribute a lot to banks’ revenue.
Table 3-3 shows net profit of US top five banks from 2008 to 2009, Wells Fargo doubled its net profit from USD 3,636 million to USD 7,872 million within one year, in addition to Wachovia turned deficit to profit, Wells Fargo was the only bank had positive growth rate of net profit comparing to its peers. During the same period, JPM, BOA, and CITI all suffered negative growth of net profit, and net profit of CITI even declined 32.98%.
Table 3-3: Net Profit of Top Five Banks in USA—2008~2009
Unit: USD million
Banks
Year JPM BOA CITI Wells Fargo Wachovia
2008
10,419 5,895 -2,101 3,636 -3,4402009
8,422 4,757 -2,794 7,872 4,247Growth Rate
(%) -19.17 -19.31 -32.98 116.50 —
Source: Bankscope, http://bankscope.bvdep.com/ip.
In contrast, during the same period net profit of SOCBs in China all maintained positive growth rate of net profit from 5.71% to 29.90%. USA is the leading country in
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the world, if its economy becomes worse, the impact will spread world-widely;
however, in China banking sector is more conservative and relatively closed than US banking, besides accompanied by growing economy banking profitability in China seemed not suffer much from global financial crises.
Table 3-4 summarizes different kinds of profitability indicators of top five US banks from 2007 to 2009, with growing net profit Wells Fargo and Wachovia were the only two banks had increasing ROA and ROE in the period from 2008 to 2009, as for rest three representative banks, they all had dropping figures both in ROA and ROE at the same time.
Not only CITI but also Wachovia had negative ROA and ROE in 2008, and CITI even had negative figures in consecutive years from 2008 to 2009, its profitability performance was the worst among these five banks. Comparing to SOCBs, except ABC the ROA and ROE of other SOCBs were above 1% and 14%, respectively, on the average the profitability performance of China banking was better than US banking.
Table 3-4: Indicators of Profitability of Top Five Banks in USA—2007~2009
Unit: %
Bank JPM BOA CITI Wells Fargo Wachovia
Item Year 2007 2008 2009 2007 2008 2009 2007 2008 2009 2007 2008 2009 2007 2008 2009
ROA 0.86 0.68 0.50 0.93 0.42 0.32 0.20 -0.17 -0.23 1.32 0.72 1.37 0.83 -0.53 0.74
ROE 10.39 8.78 6.53 10.50 4.84 3.17 2.64 -2.25 -2.73 13.90 8.70 16.00 7.56 -5.15 6.61
Cost-to-Income
Ratio 62.80 57.18 56.06 59.92 57.68 49.71 73.78 81.43 62.67 60.39 55.63 49.99 64.12 73.61 55.12
Net Interest Margin 2.09 2.29 2.65 2.46 2.51 2.82 3.01 3.26 3.24 4.33 4.50 5.21 2.97 2.14 3.36
Source: Bankscope, http://bankscope.bvdep.com/ip.
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As to Cost-to-Income ratio, in 2009 figures of US top five banks were between 49% and 63%, and CITI particularly had the highest ratio of 62.67%. From 2007 to 2009 the average ratio of these five banks was around 61.34%; during the same period the average ratio of SOCBs was below 40%; therefore, operating cost of banking industry in USA was higher than banking industry in China.
With regard to NIM, except in 2009 the figure of CITI slightly dropped from 3.26% to 3.24%, from 2007 to 2009 figures of other four banks were rising. The main reason was that large banks experienced substantial inflow of deposits at very low interest rates, and lowering interest rate was one of the stimulus packages that central banks of western countries tended to use for conquering financial crisis, and which improved their NIM. By contrast, during 2007 to 2009, SOCBs had contracting figures of NIM.
The deterioration in credit quality across all loan categories led to a further rise in already elevated rates of loss provisioning and then resulted in depressing profitability of US commercial banking industry. In view of the changes of ROA and ROE in recent years, overall profitability performance of US banking industry was worse than China banking industry.
3.3 Evaluation of Assets Quality
In 2007 assets quality of banking industry in USA was pretty good, NPL ratio of each US representative bank was around or even lower than 1%; however, from 2008 to 2009 their NPL ratio all increased more than twice reflecting that turmoil brought from global financial crisis has made assets quality become worse significantly.
From 2008 to 2009 NPL ratio of JPM was up from 1.98% to 5.94%, as for BOA the figure was up from 2.28% to 5.08%, as for CITI the figure was up from 3.60% to
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7.34%, as for Wells Fargo the figure was up from 1.16% to 3.41%, and for Wachovia the figure even increased from 0.03% to 2.92% (Table 3-5).
During the same period NPL ratios of SOCBs in China decreased year on year, quality of assets in China banking industry has improved greatly, despite ABC had very bad assets quality (23.57 % NPL ratio in 2007, but in 2009 the ratio decreased greatly to 2.91%), in 2009 NPL ratios of other SOCBs were in the range of 1.36% and 2.91% smaller than US top five banks.
Table 3-5: NPL Ratio of Top Five Banks in USA—2007~2009
Unit: %
Bank
Year
JPM BOA CITI Wells Fargo Wachovia2007
1.14 0.67 1.14 0.48 0.832008
1.98 2.28 3.60 1.16 0.032009
5.94 5.08 7.34 3.41 2.92Source: Bankscope, http://bankscope.bvdep.com/ip.
In addition to NPL ratio, coverage ratios of top five US banks should also be examined to see if their preparation of loan loss reserve can fully cover NPL or impaired loans.
Table 3-6 summarizes coverage ratios of top five US banks from 2007 to 2009, in 2007 the figure of every bank was higher than 100%, and the ratio of Wells Fargo was even as high as 244.27%, sufficient loan loss reserve reflecting very sound and safe financial situation. But in 2009 coverage ratios of these five banks fell sharply under 100% which meant none of them can undertake 100% default risk of total loans.
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By contrast, under strict requirements of CBRC in China, from 2007 to 2009 coverage ratios of SOCBs have maintained increasing trend, and ratios of ICBC, CCB, and BOCOM were even beyond 150%, which was two times higher than the average figure of US top five banks, from this aspect the soundness of China banking industry is stronger than banking industry in USA.
Table 3-6: Coverage Ratio of Top Five Banks in USA—2007~2009
Unit: %
Bank
Year JPM BOA CITI Wells Fargo Wachovia
2007
124.56 103.39 135.99 244.27 117.982008
130.72 68.54 90.06 205.18 NA2009
74.21 64.04 66.12 84.58 93.80Note: NA indicates no data available.
Source: Bankscope, http://bankscope.bvdep.com/ip.
3.4 Management of Liquidity Risk
In order to compare top five US banks with SOCBs about their liquidity risk management, in this section the study observes changes of three standard liquidity indicators from Bankscope database, including ‘‘Net Loans/Total Assets’’, ‘‘Net Loans/ (Deposits and Short-term Funding)’’ and ‘‘Liquid Assets/ (Deposits and Short-term Funding)’’ of representative banks in USA from 2007 to 2009 to evaluate their performances.
Table 3-7 shows that from 2007 to 2009 ratios of ‘‘Net Loans/Total Assets’’ of JPM were the lowest between 32.93% and 37.04%, demonstrating that JPM had least total assets tied up in loans, while ratios of Wells Fargo were the highest between
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63.10% and 64.91%, among these five banks JPM had more liquid assets comparing to its peers. For past three years the average ratio of ‘‘Net Loans/Total Assets’’ of top five US banks was around 51.53% slightly higher than the average ratio of SOCBs during the same period.
Basically the ratio of ‘‘Net Loans/ (Deposits and Short-term Funding)’’ is very similar to ‘‘Net Loans/Total Assets’’, and the higher ratio reflects worse liquidity.
From 2007 to 2009 both ratios of JPM and BOA showed downward trend while ratios of other three banks all increased, and in 2009 Wachovia particularly had the largest proportion of net loans in deposits and short-term funding (above 83%).
By comparison, the average ratio of ‘‘Net Loans/ (Deposits and Short-term Funding)’’ of these five US banks was beyond 65%, meanwhile, the average ratio of SOCBs was around 54%.
Table 3-7: Indicators of Liquidity of Top Five Banks in USA—2007~2009
Unit: %
Bank JPM BOA CITI Wells Fargo Wachovia
Item Year 2007 2008 2009 2007 2008 2009 2007 2008 2009 2007 2008 2009 2007 2008 2009
Net Loans/
Total Assets 37.03 37.04 32.93 50.99 47.65 49.95 40.01 44.26 54.10 64.91 63.10 64.59 62.65 59.43 64.20
Net Loans/
(Deposits and Short-term
Funding)
52.78 49.28 41.10 64.11 59.10 61.78 50.62 60.03 76.52 77.69 74.39 79.60 81.83 73.95 83.52
Liquid Assets/
(Deposits and Short-term
Funding)
70.03 59.45 40.79 30.16 29.77 17.66 33.02 45.55 36.75 11.55 13.16 10.86 13.58 27.14 6.37
Source: B ankscope, http://bankscope.bvdep.com/ip.
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In terms of ‘‘Liquid Assets/ (Deposits and Short-term Funding)’’, the higher ratio demonstrates the bank is more liquid and less vulnerable to bank run. From 2007 to 2009 only the ratio of CITI grew from 33.02% to 36.75%, and other US banks all had dropping ratios. Although the ratio of JPM was falling, but in 2009 with figure of 40.79% JPM had the strongest capability to deal with bank run comparing to other four banks, among these top five US banks, JPM had best liquidity management, and CITI ranked the second.
By contrast, from 2007 to 2009 the average ratio of US top five banks was around 29.73%, which was almost 13% higher than the average figure of SOCBs in China
By contrast, from 2007 to 2009 the average ratio of US top five banks was around 29.73%, which was almost 13% higher than the average figure of SOCBs in China