By Hu Rongping (胡蓉萍 )

Market, page 17, Issue No. 543,  

Nov 7, 2011

Translated by Zhu Na

Original article: [Chinese] 

One Sunday afternoon eight years ago, Liu Mingkang (刘明康), who was then Chairman of the Bank of China, was summoned to Wen Jiabao’s office. Arriving in the premier’s Zhongnanhai office, Liu learned he had been chosen to head the country’s newly-formed Banking Regulatory Commission, the CBRC.

During his tenure, which came to an end on Oct. 29, Liu oversaw the restructuring and listing of all the major state-owned banks except Agricultural Bank of China, with China’s banking industry becoming the most profitable in the world. However, Liu built a reputation for prudence, urging caution in China banking industry while others were talking it up.

For example, he was forthright in his warnings about local government financing platforms, describing many projects as “very good from the technical point of view,” without offering any guarantees of returns. He held this position since the end of 2009, and was vindicated in June the following year, when along with the central bank, the NDRC and the finance ministry, he launched a push to regulate the sector. Their investigations later estimated the total volume of local government debt at 10.7 trillion yuan.

“It took courage to raise the issue of local financing platforms. There were strong feelings involved as well as vested interests. Liu is still being criticized, but he wasn’t wrong,” said one bank executive. While a mid-level manager at another financial watchdog said Liu has been vigilant at a time when everyone else was “competing and ignoring the risks.”

In the year prior to the financial crisis, speaking at an investment conference, Liu foresaw the financial the problems in the U.S. and then Europe. Then, in the second half of 2008, his commission warned all commercial banks to expect turmoil in the international financial markets between October to March 2009.

That year, the CBRC made two historic decisions that protected the banking sector: it prohibited banks from guaranteeing corporate bonds and it excluded cross-bank holdings of their subordinated bonds from their Tier 2 capital base.

 “We shouldn’t forget that in this crisis the best performed banking systems are those with the most solid regulatory regimes,” he said.

He also understood well his balancing role as regulator – preventing banks from taking irresponsible decisions, but still protecting their independence – even if he wasn’t always able to convince the bankers of his sensitivity.

“He was a prudent regulator, strict and persistent. The people he was regulating tried to get around the rules, but he persisted for eight years. Those being regulated now have started to get used to doing things according to rules,” says China Guangfa Bank Chairman Dong Jianyue (董建岳).

Liu ordered commercial banks to strengthen their ability to absorb loses, as measured by the capital adequacy ratio, raising the CAR from an average of -3.0% in 2003 to 12% at the end of 2010.

However eight years later, commercial banks have found, to their surprise, that their CARs are at the same levels as the world’s strongest banks.

“There was no shortage of conflicts. Many people made high-level complaints. The most amazing thing was the persistence of the regulator,” said one executive from a commercial bank.

Before the global financial crisis, Liu had proposed restricting loans used by speculators in the stock market and real estate sector. The commission’s subsequent attempts to broaden these restrictions were seen by commercial banks as an attack on their independence.

 “The fact is that [the restrictions] mainly hurt banks, and affected their derivative deposits. But I think the derivative deposits themselves were a bubble that needed to be deflated,” one departmental head from the regulator told the EO.

“From the games between the two, we saw the emergence of a dynamic balance between an effective supervisor and commercial banks pursuing profits,” said one bank executive from Shenzhen, adding that the outcome was a reduction in the volume of bad loans.

However, the presence of regulators at banks’ board meetings was controversial, with bankers complaining that this violate their business’ right to commercial privacy. In response, an official from the commission says their presence at board meeting helped monitor directors’ performance.

…

On Oct. 29., wearing a dark blue zippered jacket, Liu walked into the CBRC conference room to bid farewell to his colleagues. He even went to every office of the various departments to say goodbye, offering words of encouragement to his team.

He might have cast his mind back to that meeting in Zhongnanhai eight years ago. “The Premier and I were sitting at opposite ends of the table, and chatted for a whole afternoon,” Liu told American author Robert Laurence Kuhn. As magpies sung in the yard outside, Liu set out his entire reform plans for state-owned banks and rural credit cooperatives.

New leaders are now needed to assume the challenges that Liu listed at his last quarterly meeting - loans to local financing platforms and the real estate industry, risky financial products, grey lending and moral hazard at banks. The commission’s outgoing chief is well aware that China’s commercial banks are still getting used to their status as listed companies, and, having only experienced one full economic cycle, their risk controls and corporate governance are unproven.

For their regulator, the battle with risk is endless.

The translation of this article was edited by Will Bland.