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### Viewing cable 06GUANGZHOU10672, Getting a Piece of the Action: Foreign Banks Try To

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Reference ID | Created | Released | Classification | Origin
--- | --- | --- | --- | ---
06GUANGZHOU10672 | 2006-04-07 08:03 | 2011-08-23 00:00 | UNCLASSIFIED//FOR OFFICIAL USE ONLY | Consulate Guangzhou

`

    VZCZCXRO5398
    RR RUEHCN RUEHGH
    DE RUEHGZ #0672/01 0970803
    ZNR UUUUU ZZH
    R 070803Z APR 06
    FM AMCONSUL GUANGZHOU
    TO RUEHC/SECSTATE WASHDC 4065
    RUEHOO/CHINA POSTS COLLECTIVE
    RUCPDOC/USDOC WASHDC
    RUEATRS/DEPT OF TREASURY WASHDC
    RHHMUNA/HQ USPACOM HONOLULU HI
    RUEKJCS/DIA WASHDC
    RUEAIIA/CIA WASHDC

` `

    UNCLAS SECTION 01 OF 03 GUANGZHOU 010672

    SIPDIS

    SENSITIVE
    SIPDIS

    USDOC FOR 4420/ITA/MAC/MCQUEEN
    TREASURY FOR OASIA/INA-CRANE
    STATE ALSO PASS USTR/STRATFORD
    STATE ALSO PASS FEDERAL RESERVE

    E.O. 12958: N/A
    TAGS: ECON WTRO EFIN EINV CH
    SUBJECT: Getting a Piece of the Action: Foreign Banks Try To
    Get Their Foot in the Door of Chinese Banking

    REF: A) Shanghai 1354
    B) Guangzhou 5379
    C) Beijing 3454

    ¶1. (U) Summary: Under a five-year transition period in its
    WTO accession agreement which ends December 11, 2006, the
    Chinese Government is gradually becoming more liberal in
    allowing foreign investment to enter China's banking
    industry. With the Chinese Government opening its RMB
    currency market later this year, how do foreign banks get
    into the market?  The quick way is for foreign banks to
    invest in local Chinese banks to access the latter's usually
    extensive system of bank branches and customer networks.
    Such strategic investment can also effectively help foreign
    banks to circumvent the Chinese Government's barriers to
    slow the growth of the foreign banking sector through
    licensing procedures as well as the difficulties most
    foreign banks face in accumulating RMB deposits with their
    few branches.  End Summary.

    ¶2.  (U) Economic Minister Counselor Robert Luke and
    Congenoff met with Milton Lau, General Manger of Citigroup's
    Guangzhou Branch, and Professor Lu Jun, Dean of the Finance
    Department of Lingnan College of Dr. Sun Yat Sen University
    in late February.  Interlocutors discussed their opinions on
    China's opening of the banking industry.

    Restricting Trade: Control through Indirect Means
    --------------------------------------------- ----

    ¶3.  Administrative barriers govern foreign bank expansion at
    present.  According to Citigroup's Lau, RMB business is
    currently restricted.  Foreign banks, with only a two
    percent share of the banking sector, are eager to get a
    larger share.  Even if there were an RMB license available,
    only 20 cities in China are approved for foreign banks to
    offer RMB transactions.  Currently, RMB services by foreign
    banks are only allowed for foreign customers.  According to
    Lau, whenever a foreign bank wants to open a new bank branch
    or launch a new product, it will face delays due to lengthy
    application and permit procedures.  Lau mentioned another
    foreign bank that was delayed for six-nine months in opening
    a branch office.  And approval is not an approval.  After
    leasing an office, installing IT systems, and providing
    training, the local China Banking Regulatory Commission
    (CBRC) office then does an on-site inspection.  Only then is
    a final license issued. Large capitalization requirements
    are also required as per CBRC requirements, depending on the
    level of services provided.  For each additional sub-branch
    an additional RMB 10 million (USD 1.25 million) is required.
    To provide foreign currency trading, RMB 100 million (USD
    12.5 million) is required.  To provide RMB banking business
    services to individuals, a foreign bank needs to have RMB
    200 million (approximately USD 25 million) in operating
    capital.  For comprehensive RMB services for businesses, RMB
    300 million (USD 38 million) is required.  Lu Jun also noted
    that even if a bank obtained approval for opening a new
    branch, it may still face zoning restrictions, limiting the
    number of banks that can be allowed within a certain
    geographic area.  Starting December 11, at the end of
    China's WTO transition period, the Chinese Government will
    fully open its banking industry and lift all current
    geographical and product restrictions on foreign banks.

    Domestic Banks are the Most Efficient Choice For Expansion
    --------------------------------------------- -------------

    ¶4.  (U) To work locally, foreign banks need access to local
    currency, i.e., RMB.  RMB most commonly comes from local
    depositors.  Without access to local depositors, banks could
    use interbank lending to get access to RMB but would be at a
    competitive disadvantage from the start due to the higher
    acquisition costs.  Ready access to RMB would also allow
    foreign banks to offer loan services to a sector that had
    defaulted on them earlier.  Though many foreign banks,
    including Citigroup, had earlier suffered from bad loans to
    some of China's large state-owned enterprises (SOEs), in
    recent years, according to Lau, foreign banks have found
    that large reformed SOEs to have become good customers.
    Since domestic banks have a long tradition of providing the
    majority of their loans to SOEs, these banks have very

    GUANGZHOU 00010672  002 OF 003

    close, long-term relations with the big SOEs.  Additionally,
    domestic banks holding full business licenses already
    maintain a far-flung branch network with ready access to
    local depositors.  China is already well known as a country
    with a savings rate as high as 40-50 percent with banks
    awash in cash.  Lu noted that management, not finance, is
    the problem with domestic banks.  Buying into domestic banks
    can provide foreign banks with the fastest access to the
    local market, especially in getting RMB deposits after
    November 1.  The current average three percent gap between
    the deposit and loan interests also make the RMB currency
    market very attractive to foreign banks.  Investing in a
    domestic bank with its built-in advantages is the most
    efficient and cost-effective way for foreign banks to expand
    in China.

    But No Free Lunch: Citigroup Plays Catch-up To Rivals
    --------------------------------------------- --------

    ¶5.  (U) All of this opportunity comes with costs and
    limitations.  Some domestic banks carry a high percentage of
    non-performing loans, so acquiring a share of a domestic
    bank often means acquiring a net negative value, though it
    obviously is not entirely without value.  In theory, each
    foreign bank is only allowed to invest in two domestic
    banks.  Citigroup is trying to catch up with rivals in China
    such as HSBC Holdings, which already has a bigger stake in
    China's financial sector.  Citigroup has already invested in
    Shanghai Pudong Development Bank with a 4.6 percent share,
    is in negotiations for an increased share, and is currently
    bidding for a significant share of Guangdong Development
    Bank (GDB).  Lu's understanding is that GDB's capitalization
    rate is already negative seven percent but still described
    Citigroup's bid as "good risk management."  Despite this
    negative worth, GDB already has a built-in infrastructure
    that will save Citigroup much money and time it would need
    for its own expansion with the purchase.  The success of
    Citigroup's bid depends on whether the Chinese regulators
    make an exception in the ownership cap of 20 percent set for
    a single foreign firm and 25 percent for collective
    ownership.  As reported on ref A, Citigroup hopes to acquire
    a 40 percent stake in GDB.  Citigroup believes the
    Government might still approve the purchase because of the
    seriousness of GDB's current situation.

    Citigroup's Strategy
    --------------------

    ¶6.  (SBU) Lau outlined several steps that Citigroup would
    take to expand its business.  Beginning with its current
    multinational corporate clients, Citigroup would expand its
    services to Guangdong's top tier of SOEs and to Taiwan-
    invested businesses, building on its strong business in
    Taiwan.  Later, Citigroup would develop services
    specifically for small and medium enterprises (SMEs) and
    commercial banks; groups Lau said were often ignored by
    local banks.  Lau noted that Citibank Hong Kong already has
    a well-established SME banking business begun in 2005.  This
    sector has just opened to foreign banks.  Citigroup China
    has promoted the former Guangzhou Citigroup director to be
    the head of all China commercial banking in an effort to
    begin planning.  Taking a long-term view of the China
    market, Lau said that both Citigroup and HSBC would expand
    into consumer banking, an area he suggested few foreign
    banks would penetrate, preferring to stick with corporate
    banking.

    Encouraging a Foreign Lifeline
    ------------------------------

    ¶7.  (U) Lu also pointed out the Chinese Government and
    domestic banks acknowledge the value of attracting foreign
    investment.  The Chinese Government, which formerly held
    that the banking industry was a strategic sector of the
    economy and therefore no portion of it could be sold to
    foreign interests, has seen that keeping domestic banks
    fully state-owned is not the best way of keeping them

    GUANGZHOU 00010672  003 OF 003

    healthy, particularly given their previous track record.
    Foreign banks offer strategic investment, financial
    expertise, advanced management, and experience in a
    competitive global world, all of which domestic banks will
    need to survive in a more open post-WTO transition period.
    Starting from January 1, 2007, three weeks after the
    transition period ends, all domestic banks will be required
    to meet an eight percent capitalization rate before they can
    provide new business products, critical for their survival.
    Foreign banks could provide much of this capital.

    Comment: Possible Breakthrough for Mutual Benefit?
    --------------------------------------------- -----

    ¶8.  (SBU) The Chinese Government is protecting its domestic
    banks by using intangible administrative measures to push up
    the expansion costs for foreign competitors.  Foreign banks'
    investment in domestic banks will have a win-win effect of
    providing a fast and comparatively low-cost expansion for
    foreign banks while bailing out and encouraging the
    comprehensive upgrading of domestic banks.  A successful
    Citigroup bid for Guangdong Development Bank may open the
    door to more rapid access to this sector by foreign banks.
    End Comment.

    DONG

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