UNDERSTANDING CHINA’S BANKS
An insider’s view of a remarkable transformation
Every couple of years now, a book appears predicting the imminent crisis, breakdown, collapse or disintegration of China. The professor Cassandra touting a recent example passed through Bangkok last week. Among such works there is a subset that focuses on finance, especially banking. These books and articles argue that China’s banks are inefficient because of government control; that they are racking up debt, much of which is hidden; and that, unless they are quickly privatised, they will be the spark for the aforesaid crisis, breakdown, collapse, or disintegration. In the last month, I have twice been treated to this argument first-hand, once from an American and once from a Japanese.
James Stent begs to differ, and has taken the trouble to write a 281-page book telling the world why. Stent was a prominent farang in Bangkok’s banking community for over two decades, working first at Citibank and then Bank of Asia. Before that, he had studied Chinese history and culture at Berkeley, and become fluent in Mandarin. On retirement in 2002, he moved to China intending to focus on travel and some activism over environment and heritage. Within a year, he was sucked back into his career, and spent 13 years as an independent director on two of China’s tier-one banks (Minsheng Bank and Everbright Bank). He thus had a grandstand seat, and a participant role, in what he calls the “night and day” transformation of China’s banking system.
He admits that this banking system up to the 1990s was a mess. Under Maoism, there was a single state bank with limited functions. In the early stages of Deng’s Reform and Opening from 1978 onwards, this state bank was broken up and several joint stock banks appeared, but they struggled as “damaged relics of the planned economy”. However, Stent argues, China’s top policymakers, especially Deng and Zhu Rongji, understood that the financial system was fundamental to their ambitious plans to develop China’s economy. After watching the damage that finance could cause in the 1997 Asia crisis, they cleaned up the major banks, put very talented people in charge, and set a target of becoming international-standard institutions.
In the three core chapters of the book, Stent explains how this worked, drawing on his personal experience, especially in Everbright Bank, and on a wide reading in the academic literature and contemporary journalism. He argues that China’s banking system took on international practices, but within a context shaped by China’s deep-seated culture and unique political history. The expertise was easily available from many Chinese returning from spells working in Western banks, especially in the US, supplemented by consultants and chance “imports” like Stent himself. The 17 tier-one banks took on international practice from credit management to service delivery. From around 2000 the Big Four were launched on international stock exchanges so that they would be always subject to scrutiny.
But, Stent argues, this banking system exists within a context formed by the Confucian focus on harmony and by China’s political culture in which, from the Mandarin bureaucracy to the Communist Party-state, legitimacy comes from good performance. Banks should be efficient and make profit for their shareholders, but they should also serve the interests of society and state, meaning they should be active agents in the economic development of China. The banks were corporatised not privatised, meaning only a minor portion of their shares were traded on stock exchanges. Government remains the principal owner (of all but three tier-one banks), appoints the directors and executives, and supervises the banks closely through oversight bodies. Stent calls this a “hybrid” system, combining the capitalist profit incentive with the octopus-like governance of the Communist Party-state.
The result follows a pattern that runs from Friedrich List’s “National System” in late 19th-century Germany to the recent “developmental states” of South Korea and Taiwan. The banks suck up savings from the mass of the population and provide it to entrepreneurs as cheap credit, guided by government in the choice of sectors and firms. Initially they played this role as part of the restructuring of the state-owned industries inherited from the Maoist era. From the 2000s, they were directed to focus more on the emerging sector of small- and medium-scale private enterprises. They have financed the fastest economic transformation the world has seen.
So far so good. Stent makes a strong case that the transformation of the major banks, accounting for 60% of the banking system, has been remarkably rapid and comprehensive. Beyond this, the picture is murkier. There are thousands of smaller banks and other local financial institutions. Some are hand-in-glove with local governments. There is a rising trend of “shadow banking”, providing credit to borrowers who cannot access the major banks, at higher levels of interest and risk. Monitoring is more difficult because of the scale and dispersion. What is going on in these levels of the financial system is more difficult to judge.
Besides tracking the transformation of banking, Stent also discusses why the stock market is a mess, why bonds have developed slowly, why HSBC is the only foreign bank to have made a success in China, and how fast internet banking is developing.
Stent explains that he has written this book because the “night and day” transformation of the major part of China’s banking system is poorly appreciated outside China. He attributes this misunderstanding mostly to ideology. For the past three decades, the neoliberal belief that markets should be left to work without state interference has been dominant in the US and elsewhere. Neoliberals believe that state intervention must inevitably make institutions less efficient. By this token, China has to privatise its banks as soon as possible. First politely, and then rather bluntly, Stent argues that this is a form of bigotry underpinned by wilful ignorance — quite simply, a claim that “our” system is the only good system. Yet neoliberalism, especially in the financial sector, has been substantially discredited by the string of financial crises across the world, finally hitting the US itself in 2008. Returning to his polite mode, Stent invites these critics to learn from China that a different model might actually work better.
Stent not only reviews the recent past but peers into the future, and here his message is more unsettling. China is now entering the “new normal”, meaning that it has done the easy bits of catch-up growth, its economy is slowing, and that this is happening against the background of a world economy in the doldrums. The emerging private firms will be the first to suffer in the slowdown. The banks will have to grapple with rising levels of non-performing loans (NPLs). Some banks will get into trouble. This is inevitable.
But Stent does not see a major crisis. He predicts that NPLs will peak at 5% of all loans. He thinks the big banks will be able to upgrade their credit procedures and risk management, just as they have upgraded other procedures. There is enough leeway in the national balance sheet for the government to manage a few bumps in the road. A bigger threat may be the emergence of massive FinTechs which may prove more difficult to regulate.
The book is very lucidly written, with minimal jargon, always well explained. It has no charts, only one table, and severely rations its numbers and statistics. For a quick read, Chapter 1 is effectively an executive summary, while Chapter 5 contains most of Stent’s personal experience. The book offers an intimate and detailed picture of the transformation of the banks, but also uses banking as a window onto the working of contemporary China’s political economy. The book is also a polemic about the need to understand China dispassionately, rather than allowing “one’s hopes and policy preferences to obstruct an understanding of what China is doing, and why it is doing it”. The book was researched and written before a shifty entrepreneur with a second career in reality TV became the most powerful person in the world, and appointed an anti-China fanatic to his team. Stent stands for a view of China that will be more difficult but more important to uphold.
With his education in Chinese, his career as a banker working in Asia, and his first-hand experience in Chinese banks, Stent is in a unique position to write this book. Some will see him as a China-lover with rose-tinted spectacles, but they will have to confront the well-informed and sophisticated arguments of this book. Essential and fascinating reading.
James Stent invites neoliberal critics to learn from China that a different model might actually work better