Despite Challenges, Chinese Banking System Outlook Stable

Moody's Investors Service says the outlook for the Chinese banking system for the next 12-18 months remains stable despite an economic slowdown and long-term challenges because of deregulation.


"China's economic performance has come in at the weaker end of the 7.5%-8.5% GDP growth range that we had assumed in our previous outlook for the banking system in April," says Bin Hu, a Moody's Vice President and Senior Analyst. "Nonetheless, we expect long-term economic growth drivers, such as urbanization and productivity gains, to underpin a stable and moderate rate of growth."


"Furthermore, our baseline GDP growth assumption of 7%-8% in 2013 continues to support our expectation that the operating environment of Chinese banks will remain stable," says Hu. "At the same time, softer economic indicators, an acceleration towards interest-rate liberalization, and signs of rising non-performing loans (NPLs) are challenging the banks."


The overall assessment of Moody's is that the Chinese banks will, by and large, weather these threats over the next 12 to 18 months.


This latest report assesses the banking system's asset quality as negative, based in part on the latest Chinese bank results, which signal a rise in problems in this area, and Moody's expectation of more visible NPL deterioration throughout 2013.


Hu notes that most of the asset quality pressures have been felt in export-related industries located in the coastal regions, and these sectors, as well as sectors with overcapacity, will continue to be the principal sources of new problem loans and credit costs in 2013.


"However, a material deterioration during the horizon of our outlook now seems unlikely, as we note recent progress in addressing significant areas of asset quality concern," says Hu.


The outlook on profitability is modestly negative, with the growth of pre-provision profits slowing because of the impact of lower interest rates and interest-rate liberalization.


Moody's research shows that the sector's net interest margin, which is currently healthy, will decline modestly by 4-6 basis points in 2012, and Moody's base case assumes a further drop of 10-13 basis points in 2013 as a result of the greater flexibility the banks now enjoy in setting interest rates.


In terms of capitalisation, with a stable assessment, the banks are protected from rising defaults by their strong loss reserves and capital buffers. Moreover, their adoption of the Basel III regime will have a limited impact on capitalisation.


The banks are also taking a more proactive approach to capital planning, and those with weaker capital positions will be keen to raise equity when market conditions improve.


Liquidity and funding positions are stable. Although the liberalisation of interest rates and the continued growth of disintermediation channels may lead to lower stability in deposits over time, they will not materially impact system liquidity over the horizon of this outlook.


Moody's assessment of systemic support is stable for the system in general, and material changes to Moody's assumptions in this area are not expected during the outlook horizon even though the regulators are reviving efforts to establish a deposit insurance scheme.



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