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Poor internal control slowing bank reform

(China Daily)
Updated: 2006-03-10 06:07

Opening up has long been deemed a practical way to drive reform in domestic industries. The banking sector is no exception.

However, while foreign banks are ready to jump into the Chinese market when it fully opens late this year, reforms of domestic banks have not pushed ahead fast and hard enough.

The recent disclosure of a big scandal at a branch of Bank of China (BOC) in Heilongjiang Province clearly shows the lack of progress in domestic banks' attempts to strengthen internal management and supervision.

Suspects of a banking fraud in another branch of BOC in Heilongjiang Province are still on trial. That case was exposed early last year, involving loss of bank funds in the region of 1 billion yuan (US$123 million).

And now, some local BOC staff, the country's largest foreign-currency lender, have been reported to be defrauding other banks of huge amounts of money.

Both the frequency of the scandals and the size of funds involved are upsetting. These cases will surely deal a blow to the reputation of BOC, if not to its planned initial public offering.

Looking for a silver lining, one could argue that the new case can be viewed as proof of enhanced internal supervision. Those wrongdoers were ferreted out thanks to BOC's recent measures to rotate local staff.

However, domestic banks and banking authorities should not accept this.

True, increased exposure of problems hidden in various departments and branches might be a predictable consequence of tightened internal control. But that does not qualify optimism on the effectiveness of Chinese banks' reforms.

In view of the limited time left for domestic banks to prepare for fierce foreign competition, the efforts taken to control internal risks seem insufficient given the scale of the problems.

A sense of greater urgency is badly needed. And the warning carried in this newspaper yesterday by a vice-chairman of the China Banking Regulatory Commission that local banks are in for a shock when the sector is opened up later this year, should be heeded by the whole sector.

To expedite the shareholding reform of State-owned banks, the country has spent heavily on creating necessary financial conditions.

With astronomical input of State funds, major Chinese banks have been able to raise their capital-adequacy ratios and improve their balance sheets by substantially reducing bad loans. Non-performing loans owed to China's commercial banks were reduced to an all-time low of 8.9 per cent at the end of 2005, from 13.2 per cent in 2004.

And after the successful public listing of China Construction Bank, BOC and Industrial and Commercial Bank of China, two of the four major State-owned banks, are set to float their shares on overseas stock markets.

Such reforms are aimed at overhauling State-owned banks by introducing advanced foreign management practices and standardizing corporate governance.

Nevertheless, while focusing their attention on these reforms, Chinese banks have not been quick enough to step up efforts to improve internal control and management, particularly at branch level. While the headquarters are busy masterminding reforms to cope with international competition, at local branches it seems it is business as normal.

The latest scandal shows getting their houses in order is a tall order for Chinese banks.

To withstand competition from foreign banking giants, Chinese banks must take more aggressive reform measures.

(China Daily 03/10/2006 page4)