Foreign Bank Investment in China: Challenges and Crossvergence

China's State-Owned Banking System

The banking industry in China is essentially run by the state. All of the major banks are state-owned enterprises, and all are heavily regulated by the central government. There is a central bank — the People's Bank of China — along with a separate regulator for merchant and retail banks. There are 13 national-level banks along with over one hundred city-level banks. Most banks today compete with each other, even if they occupied specific niches when they were founded. For example, the names Construction Bank and Agricultural Bank reflect the roots of those institutions, but they have long since expanded beyond those original niches. Because all of these institutions are state-owned and ultimately overseen by the central government, however, competition among them is not particularly intense.

Why Foreign Banks Are Attracted to China

The biggest factor that attracts foreign banks to China is the sheer size of the market. Even though there are many restrictions for foreign banks operating in China — restrictions that limit their market shares — a very small slice of a very lucrative market is still valuable. Moreover, there is a widespread sense that China will continue to open as a market, and that gaining a first-mover advantage will prove valuable once the market liberalizes further. Foreign banks envision a future in which their early investment in brand-building, relationship development, and market knowledge will pay off when greater access becomes available.

Foreign banks also see an opportunity to serve wealthy Chinese clients. These are individuals who seek to move money across borders — and out of China if possible — and who are able to do so by working with foreign financial institutions. This creates a mutually beneficial relationship that foreign banks are eager to cultivate with high-net-worth Chinese clients.

Advantages and Disadvantages for Foreign Banks

For a foreign player, there are both advantages and disadvantages to doing business in the Chinese market. On the positive side, a foreign bank can offer greater perceived security to wealthy Chinese clients who value stability and an exit strategy for their assets. This is a significant attraction. The Chinese government also welcomes a limited foreign banking presence as a means of facilitating knowledge transfer and learning from the expertise that international institutions bring.

There are, however, considerable downsides. Chief among them is that foreign banks are afforded relatively few privileges in the Chinese market. Even HSBC, which has one of the longest histories in the country and ranks as the largest foreign bank operating there, does not enjoy anywhere near the privileges granted to domestic Chinese banks. Foreign banks are consistently kept at arm's length by regulators, which presents ongoing challenges in terms of competitiveness and market share growth.