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BMI China Commercial Banking Report Q1 2011


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Q1 2011

cHina

commercial Banking report
INCLUDES 5-YEAR FORECASTS TO 2014

iSSn 1747-8537
published by Business monitor international ltd.

CHINA COMMERCIAL BANKING REPORT Q1 2011
INCLUDING 5-YEAR INDUSTRY FORECASTS TO 2014

Part of BMI’s Industry Report & Forecasts Series
Published by: Business Monitor International Copy deadline: November 2010

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China Commercial Banking Report Q1 2011

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China Commercial Banking Report Q1 2011

CONTENTS
Executive Summary ......................................................................................................................................... 5
Table: Levels (CNYbn)........................................................................................................................................................................................... 5 Table: Levels (US$bn) ........................................................................................................................................................................................... 5 Table: Levels At December 2009 ........................................................................................................................................................................... 5 Table: Annual Growth Rate Projections 2010-2014 (%) ....................................................................................................................................... 5 Table: Ranking Out Of 59 Countries Reviewed In 2010 ........................................................................................................................................ 6 Table: Projected Levels (CNYbn) .......................................................................................................................................................................... 6 Table: Projected Levels (US$bn) ........................................................................................................................................................................... 6

SWOT Analysis ................................................................................................................................................. 7
China Commercial Banking SWOT........................................................................................................................................................................ 7 China Political SWOT ........................................................................................................................................................................................... 8 China Economic SWOT ......................................................................................................................................................................................... 9 China Business Environment SWOT .................................................................................................................................................................... 10

Business Environment Outlook .................................................................................................................... 11
Commercial Banking Business Environment Ratings .......................................................................................................................................... 11 Table: China Commercial Banking Business Environment Rating ...................................................................................................................... 11 Commercial Banking Business Environment Rating Methodology ...................................................................................................................... 11 Table: Asia Commercial Banking Business Environment Ratings ....................................................................................................................... 13

Global Commercial Banking Outlook........................................................................................................... 14 Asia Banking Sector Outlook ........................................................................................................................ 20
Table: Asia Banks’ Bond Portfolios .................................................................................................................................................................... 22 Table: Asia Commercial Banking Business Environment Ratings ....................................................................................................................... 23 Table: Comparison Of Loan/Deposit, Loan/Asset And Loan/GDP Ratios ........................................................................................................... 24 Table: Developments In 2010e............................................................................................................................................................................. 25 Table: Comparison Of Total Assets, Client Loans And Client Deposits, 2008-2009 (US$bn) ............................................................................. 26 Table: Comparison Of Per Capita Deposits, 2010e (US$) .................................................................................................................................. 27 Table: Interbank Rates And Bond Yields, 2010.................................................................................................................................................... 28

China Banking Sector Outlook ..................................................................................................................... 29 Economic Outlook .......................................................................................................................................... 31
Table: China Economic Activity, 2007-2015 ....................................................................................................................................................... 33

Competitive Landscape ................................................................................................................................. 34
Market Structure ....................................................................................................................................................................................................... 34 Protagonists......................................................................................................................................................................................................... 34 Table: Protagonists In China’s Commercial Banking Sector .............................................................................................................................. 34 Definition Of The Commercial Banking Universe................................................................................................................................................ 35 List Of Banks ....................................................................................................................................................................................................... 35 Table: Policy Banks And The ’Big Four’ State-Owned Commercial Banks ......................................................................................................... 35 Table: Joint-Stock Commercial Banks, City Commercial Banks And Rural Commercial Banks ......................................................................... 35 Table: Locally Registered Foreign Banks ............................................................................................................................................................ 36

Company Profiles ........................................................................................................................................... 37
China Development Bank .................................................................................................................................................................................... 37

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Table: Key Statistics For China Development Bank, 2006-2008 (CNYbn) .......................................................................................................... 38 Export-Import Bank of China .............................................................................................................................................................................. 39 Table: Key Statistics For Export-Import Bank of China, 2006-2008 (CNYmn) ................................................................................................... 40 Industrial and Commercial Bank of China .......................................................................................................................................................... 41 Table: Key Statistics For ICBC, 2006-2008 (CNYmn) ......................................................................................................................................... 42 Agricultural Bank of China .................................................................................................................................................................................. 43 Table: Stock Market Indicators............................................................................................................................................................................ 44 Table: Balance Sheet (CNYmn, unless stated) ..................................................................................................................................................... 44 Table: Balance Sheet (US$mn, unless stated) ...................................................................................................................................................... 44 Table: Key Ratios (%).......................................................................................................................................................................................... 45 Bank of China ...................................................................................................................................................................................................... 46 Table: Stock Market Indicators............................................................................................................................................................................ 47 Table: Balance Sheet (CNYmn, unless stated) ..................................................................................................................................................... 47 Table: Balance Sheet (US$mn, unless stated) ...................................................................................................................................................... 47 Table: Key Ratios (%).......................................................................................................................................................................................... 48 China Construction Bank..................................................................................................................................................................................... 49 Table: Stock Market Indicators............................................................................................................................................................................ 50 Table: Balance Sheet (CNYmn, unless stated) ..................................................................................................................................................... 50 Table: Balance Sheet (US$mn, unless stated) ...................................................................................................................................................... 50 Table: Key Ratios (%).......................................................................................................................................................................................... 51 Agricultural Development Bank of China ............................................................................................................................................................ 52 Table: Stock Market Indicators............................................................................................................................................................................ 53 Table: Balance Sheet (CNYmn) ........................................................................................................................................................................... 53 Table: Balance Sheet (US$mn) ............................................................................................................................................................................ 53 Table: Key Ratios (%).......................................................................................................................................................................................... 53

BMI Banking Sector Methodology ................................................................................................................ 54
Commercial Bank Business Environment Rating ...................................................................................................................................................... 55 Table: Commercial Banking Business Environment Indicators And Rationale.................................................................................................... 56 Table: Weighting Of Indicators ........................................................................................................................................................................... 57

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Executive Summary
Table: Levels (CNYbn)

Date December 2008 December 2009 Change, %

Total assets 64,150.2 80,923.0 26%

Client loans 32,004.9 42,559.7 33%

Bond portfolio 7,425.7 9,276.5 25%

Liabilities Other & Capital 24,719.6 29,086.9 18% 64,150.2 80,923.0 26%

Capital 2,175.1 2,307.1 6%

Client deposits 47,844.4 61,200.6 28%

Other 14,130.6 17,415.3 23%

Source: BMI, PBC, regulators

Table: Levels (US$bn)

Date December 2008 December 2009 Change, %

Total assets 9,395.6 11,848.2 26%

Client loans 4,687.5 6,231.3 33%

Bond portfolio 1,087.6 1,358.193 4 25%

Liabilities Other & Capital 3,620.5 4,258.7 18% 9,395.6 11,848.2 26%

Capital 318.6 337.8 6%

Client deposits 7,007.4 8,960.6 28%

Other 2,069.6 2,549.8 23%

Source: BMI, PBC, regulators

Table: Levels At December 2009

Loan/deposit ratio 69.54% Rising

Loan/asset ratio 52.59% Falling

Loan/GDP ratio 131.2% Rising

GDP per capita, US$ 3,489

Deposits per capita, US$ 6,601

Source: BMI, PBC, regulators

Table: Annual Growth Rate Projections 2010-2014 (%)

Assets Annual Growth Rate CAGR Ranking 4 11 17

Loans 6 12 11

Deposits 7 12 19

Source: BMI, PBC, regulators

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Table: Ranking Out Of 59 Countries Reviewed In 2010

Loan/deposit ratio 51 Local currency asset growth 3

Loan/asset ratio 37 Local currency loan growth 2

Loan/GDP ratio 7 Local currency deposit growth 2

Source: BMI, PBC, regulators

Table: Projected Levels (CNYbn)

2007 Total assets Client loans Client deposits
54,120.30 27,774.65 40,105.14

2008
64,150.17 32,004.87 47,844.42

2009e
80,923.04 42,559.66 61,200.64

2010f
89,015.34 46,815.63 67,320.70

2011f
96,136.57 50,560.88 72,706.35

2012f
101904.76

2013f
105980.95

2014f
110220.19

54,100.14 77,795.80

57,346.15 83,241.51

60,786.91 89,068.41

e/f = BMI estimate/forecast. Source: BMI, PBC, regulators

Table: Projected Levels (US$bn)

2007 Total Assets Client Loans Client Deposits 7,416.69 3,806.26 5,496.04

2008 9,389.66 4,684.55 7,002.99

2009 11,853.38 6,234.02 8,964.50

2010e 13,038.72 6,857.42 9,860.95

2011f 14,081.82 7,406.02 10,649.82

2012f 15,231.35 8,086.16 11,627.87

2013f 16,246.78 8,791.11 12,760.84

2014f 17,329.90 9,557.51 14,004.21

e/f = BMI estimate/forecast. Source: BMI, PBC, regulators

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SWOT Analysis
China Commercial Banking SWOT

Strengths

China’s economy grew by 8.7% in 2009, making it the fastest growing major economy in the world. BMI forecasts growth to average 7.5% over our 10-year forecast period. The large institutions in China’s banking system, responsible for the majority of deposits, have an implicit guarantee from the government, which will provide resources should there be a in a crisis.

Weaknesses

Current levels of investment could lead to overcapacity in future, which might then lead to the re-emergence of deflationary pressures and banking sector instability. The state’s involvement in the banking sector means that loans are often granted on political grounds rather than for profit maximisation.

Opportunities

Many areas of China lack access to credit markets, which could provide significant opportunities for expansion. The memorandum of understanding on financial services with Taiwan signed in 2009 should provide opportunities for the transfer of skills from the more developed Taiwanese banking sector.

Threats

The banking sector is highly susceptible to an increase in non-performing loans that could result from an aggressive increase in interest rates. The sudden outflow of ‘hot money’ from the economy could reduce local money supply, with deflationary consequences.

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China Political SWOT

Strengths

The Communist Party, which has governed for over 60 years, remains secure in its position as the sole political party in China. China’s expanding economy is gradually giving it greater clout in international affairs, which will allow it to build politically important ties, especially with the developing world.

Weaknesses

As with any one-party state, China’s political system is inherently unstable and unable to respond to the wider changes taking place in Chinese society. Provincial governments often fail to enforce central government directives. Although bilateral ties have warmed since the election of Ma Ying-jeou as Taiwanese president in March 2008, China’s relationship with Taiwan remains problematic, with Beijing refusing to rule out the threat of force in the event of a declaration of independence by Taiwan.

Opportunities

China is expanding its political and economic ties with major emerging markets in Latin America, Africa and the Middle East. A new generation of leaders, the ‘fifth generation’, is being prepared to take power in 2012-2013. This should ensure continuation of reform and modernisation.

Threats

Growing corruption, widening inequalities, increasing rural poverty and environmental degradation have led to an increase in social unrest in recent years. The Communist Party is facing increasing factional rifts based on ideology and regionalism. While greater political debate would be welcomed by many, internal regime schisms could prove politically destabilising. China faces major challenges in ensuring that separatism in ethnically distinct regions such as Tibet and Xinjiang is kept at bay.

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China Economic SWOT

Strengths

China is the fastest growing major economy in the world and this has lifted hundreds of millions of people out of poverty over the past generation. China has a massive trade surplus and its huge foreign exchange reserves are a substantial cushion against external shocks. China’s economic policymakers are committed to continuing gradual reform of the economy.

Weaknesses

China’s economic growth boom has led to major imbalances and environmental degradation. China’s dependency on exports to boost growth has made it vulnerable to the global recession. Private consumption remains weak at less than 40% of GDP. The close relations between provincial leaders and local businesses are fostering corruption, making it harder for the central government to enforce its policies.

Opportunities

China’s economic growth is slowly becoming more broad-based, with domestic consumption likely to rise in importance in relation to exports thanks to a middle class of 200-300mn people. China’s ongoing urbanisation will be a major driver of growth and new cities will emerge in the less developed inland provinces. The UN forecasts China’s urban population to rise from 40% in 2005 to 73% in 2050, an increase of 500mn people. As China moves up the value chain it will develop its own global brand name companies, which will foster innovation and growth.

Threats

We believe that the global recession of 2008-2010 will mean an end to China’s double-digit annual growth rate. Despite a halt to the appreciation of the yuan, the recession is leading to job losses in China’s export sector and thus increasing social instability. An over-reliance on construction activity in economic growth could become a threat if credit flows are reduced and property prices begin to cool.

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China Business Environment SWOT

Strengths

China is continuing to open up various sectors of its economy to foreign investment. With its vast supply of cheap labour, the country remains the top destination for foreign direct investment in the developing world.

Weaknesses

Foreign companies continue to complain about the poor protection of intellectual property in China. Chinese corporate governance is weak and not transparent by Western standards. There is a considerable risk for foreign companies in choosing the right local partner.

Opportunities

China’s ongoing urbanisation and infrastructure drive will provide major opportunities for foreign investment in the landlocked provinces and the transfer of skills and know-how. The Chinese government is giving more protection and encouragement to the private sector, which is now the most dynamic in the economy and accounts for most of the country’s job growth.

Threats

China’s government will block attempts by foreign firms to take over assets of national importance. China is experiencing rising labour costs, prompting some investors to turn to cheaper destinations such as Vietnam.

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Business Environment Outlook
Commercial Banking Business Environment Ratings
Table: China Commercial Banking Business Environment Rating

Limits of Potential Returns Total assets, 2009 Growth in total assets, 2009-2014 Growth in client loans, 2009-2014 GDP per capita, 2009 Tax GDP volatility Financial infrastructure Risks to Realisation of Returns Regulatory framework and development Regulatory framework and competitive landscape Moody’s rating for local currency deposits Long-term financial risk Long-term external risk Long-term policy continuity Legal framework Bureaucracy Commercial Banking Business Environment Rating

Data US$11,853.4mn

Score, out of 10 Ratings Score, out of 100 10 9 9 Market Structure 93

US$3,617 1.1 0.8 5.8

5 1 10 6

Country Structure 55

8.0 5.0 4.0 9.0 9.7 9.0 5.2 5.0

8 5 4 9 10 9 5 5 75

Market Risk 57

Country Risk 76

Source: BMI

Commercial Banking Business Environment Rating Methodology
Since Q108, we have described numerically the banking business environment for each of the countries surveyed by BMI. We do this through our Commercial Banking Business Environment Rating (CBBER), a measure that ensures we capture the latest quantitative information available. It also ensures consistency across all countries and between the inputs to the CBBER and the Insurance Business Environment Rating, which is likewise now a feature of our insurance reports. Like the Business Environment Ratings calculated by BMI for all the other industries on which it reports, the CBBER takes into account the limits of potential returns and the risks to the realisation of those returns. It is weighted 70% to the former and 30% to the latter.

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The evaluation of the Limits of Potential Returns includes market elements that are specific to the banking industry of the country in question and elements that relate to that country in general. Within the 70% of the CBBER that takes into account the Limits of Potential Returns, the market elements have a 60% weighting and the country elements have a 40% weighting. The evaluation of the Risks to Realisation of Returns also includes banking elements and country elements (specifically, BMI’s assessment of long-term country risk). However, within the 30% of the CBBER that takes into account the risks, these elements are weighted 40% and 60%, respectively.

Further details on how we calculate the CBBER are provided at the end of this report. In general, though, three aspects need to be borne in mind in interpreting the CBBERs. The first is that the market elements of the Limits of Potential Returns are by far the most heavily weighted of the four elements. They account for 60% of 70% (or 42%) of the overall CBBER. Second, if the market elements are significantly higher than the country elements of the Limits of Potential Returns, it usually implies that the banking sector is (very) large and/or developed relative to the general wealth, stability and financial infrastructure in the country. Conversely, if the market elements are significantly lower than the country elements, it usually means that the banking sector is small and/or underdeveloped relative to the general wealth, stability and financial infrastructure in the country. Third, within the Risks to Realisation of Returns category, the market elements (ie: how regulations affect the development of the sector, how regulations affect competition within it, and Moody’s Investors Service’s ratings for local currency deposits) can be markedly different from BMI’s long-term risk rating.

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Table: Asia Commercial Banking Business Environment Ratings

Limits of Potential Returns Market Structure Bangladesh China Hong Kong India Indonesia Japan Malaysia Pakistan Philippines Singapore Sri Lanka South Korea Taiwan Thailand Vietnam US 43.3 93.3 73.3 83.3 73.3 30.0 70.0 33.3 50.0 66.7 20.0 76.7 70.0 56.7 63.3 90.0 Country Structure 45.0 55.0 90.0 55.0 62.5 75.0 80.0 47.5 60.0 90.0 55.0 85.0 70.0 65.0 52.5 85.0

Risks to Potential Returns Market Risks 30.0 56.7 70.0 53.3 76.7 63.3 76.7 56.7 56.7 96.7 36.7 76.7 83.3 80.0 40.0 100.0 Country Risks 42.0 76.0 84.0 56.0 42.0 80.0 80.0 40.0 50.0 88.0 44.0 68.0 74.0 68.0 46.0 78.0

Overall Rating 42.0 75.1 79.5 66.9 65.1 55.6 75.4 41.3 53.6 80.6 36.1 77.4 72.3 63.8 54.4 87.6 Ranking 52 13 9 24 29 38 12 55 43 7 56 10 17 31 41 2

Scores out of 100, with 100 the highest. Source: BMI

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Global Commercial Banking Outlook
Emerging Markets Still Set To Outperform Our outlook for commercial banking in emerging markets remains broadly positive, with more robust economic growth and healthier banking systems than in most of their developed world counterparts. We emphasise that the key macroeconomic dynamics underpinning global banking in 2011 will continue to be deflation and deleveraging in much of the developed world, contrasting with inflation and lending growth in emerging markets. The implementation of quantitative easing policies by major central banks, notably the US Federal Reserve and the Bank of Japan, will result in the purchase of hundreds of billions of dollars worth of government securities in an effort to grease the wheels of lending. While we are not convinced that quantitative easing will have significant positive effects for economic growth, or even for lending, increasing central bank support will further reduce the potential for another systemic banking crisis, which fits with our core assumptions. However, it could fuel asset price inflation and tighter policy in emerging markets, which could eventually lead to a boom-and-bust cycle. Meanwhile, the introduction of a new Basel framework on banking regulation will also underpin confidence in banking stability, and does not greatly threaten lending growth, given banks’ pre-emptive capital raising and the gradual schedule for Basel III implementation.

Regional Outlooks: Uneven Recovery Underway Below we present brief outlooks for regional banking sectors:

Developed states: We continue to expect underperformance by the developed world’s banking sectors in terms of loan growth and profitability compared with emerging markets. This is due to our belowconsensus outlook for economic growth in developed states, the likelihood of retrenchment by both households and governments, and the potential for tighter sector regulation. In the US, loan growth will remain slow due to ongoing post-recession household deleveraging. A major concern for the eurozone heading into 2011 is the impact that government austerity measures will have on demand. Should governments cut too far at a time when consumer spending and investment is yet to sufficiently recover, growth could quickly stagnate. This would further dent the operating outlook for European banks and could mean more deterioration in asset quality as non-performing loans edge higher.

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Weak Outlook Europe – Banking Sector Asset Growth, % y-o-y

Source: BMI, central banks

Emerging Asia: After suffering only minor profit damage from the global financial crisis due to their strong capitalisation and less risky lending practices than in the US and Europe, Asian banks are now increasingly positioning for growth. The well capitalised nature of the region’s banking sector is the main reason why banks are now in a position to expand their loan books and support domestic economic growth, and with the exception of Japan we continue to forecast solid equity-to-asset ratios preventing any major banking sector dislocation, even if property bubbles across the region continue to inflate and burst in 2011. Despite the limited crisis risks we remain concerned that profitability will take a significant hit once hot money inflows into Asia slow down.

Latin America: Thanks to prudential regulation and a lack of cross-border lending few banking sectors in Latin America face systemic risks, even with the wave of foreign capital entering the region. We believe that over the long-term time, Peru offers the greatest potential in the region for commercial banking sector expansion, followed by Mexico and Guatemala.

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Searching For Potential Latin America – Commercial Banking Sector Assets-to-GDP, %

Source: BMI, central banks, national financial regulators

Emerging Europe: Our outlook for the emerging Europe banking sector is mixed, reflecting the divergent growth trajectories that we forecast for the region. We have long highlighted Turkey and Poland as economic outperformers in the region, with domestic demand driving rapid economic convergence with Western peers. We highlight Hungary and Romania as two countries where the outlook for the banking industry is negatively affected by domestic economic conditions.

Middle East and North Africa: That a significant share of lending throughout MENA was directed towards the real estate and construction sectors, particularly in Bahrain and Kuwait, in the run-up to 2009 underscores our view that a return to pre-crisis asset and loan growth rates will be unlikely for the foreseeable future. While the outlook for lending to the real estate sector appears relatively weak, except in Saudi Arabia, we expect the infrastructure sector to play an increasingly important role in driving loan growth, particularly given the number large-scale projects in the pipeline. While a robust bounce in asset growth and profitability should not be expected in the short term, a recovery (within the Gulf Cooperation Council in particular) should begin to gain steam in H111 concomitant with publicly funded investment projects.

Sub-Saharan Africa: Sub-Saharan Africa’s major banking sectors (South Africa, Nigeria, Ghana and Kenya) all survived the global financial crisis and are continuing to rebound from the various difficulties they experienced in 2009. Rebounding economic activity and improved liquidity are bolstering growth, and the most recent available data for the region show that the recovery in the banking sector is accelerating.

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South Africa Lagging Africa – Banking Sector Asset Growth, % y-o-y

Source: South African Reserve Bank; Central Bank of Nigeria; Central Bank of Kenya

Basel III: Still Some Uncertainty The Basel Committee on Banking Supervision signed off its new capital requirements in September 2010, marking a regulatory regime shift from Basel II to Basel III. Overall, we believe that Basel III will make the global banking system more robust. However, some questions remain about the implementation and enforcement of the new regulations. The key revisions were:

The quality and size of capital ratios are to be strengthened. These will include a common equity (core) capital requirement of 4.5% of risk-adjusted assets plus a ‘conservation buffer’ of 2.5% for a total requirement of 7.0% (compared with the 2.0% minimum under Basel II). Failure to meet the conservation buffer will lead to constraints on dividend payments and bonuses. The broader Tier 1 ratio requirement is being raised from 4.0% to 6.0% (8.5% including the conservation buffer).

Tier 1 equity capital is going to be redefined to exclude lower-quality assets, including deferred tax assets, while asset weightings will be less forgiving. All of this will toughen ratio requirements, meaning that some banks that meet current criteria will have to improve their capital levels to meet Basel III standards.

The less quantifiable amendments include the creation of a ‘macroprudential overlay’. This includes mandating that banks build up buffers of a 0-2.5% of risk-adjusted assets in the upward part of the economic cycle that can be drawn upon in slowdowns. Furthermore, the Basel

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Committee are exploring measures to deal with the systemic risks caused by banks that are ‘too big to fail’, which may include larger capital requirements and surcharges for big banks.

Raising The Bar Capital Requirements As % Of Risk-Weighted Assets

Source: Bank for International Settlements

Basel III is not going to make a major difference to BMI’s short-term forecasts. For a start, the revisions are certainly more stringent but not as tough as they could have been, and banks (and markets) were slightly relieved at the announcement. Banks also have until 2019 to comply with the new regulations, meaning that implementation will be gradual and have a more limited effect on the short-term outlook. In addition, banks are generally already ahead of the game on capital raising. The new requirements will not require major levels of new equity issuance on aggregate, with most major banks easily meeting the broad Tier 1 criteria set out by Basel III. These are minimum standards and in the post-Lehman environment investors have looked for banks to build stronger capital bases anyway.

There are, however, unanswered questions about the new regulatory requirements that cloud the mediumterm outlook. The biggest questions for us is how the countercyclical measures will work and what further steps might be taken to rein in risks from ‘too big to fail’ banks. As it stands, domestic authorities will have to decide whether the rate of economic activity exceeds the desirable, pre-set pace of growth for any particular country. We believe that since the criteria will boil down to country-specific regulations it will be difficult to reach consensus on this issue. Regulations that are too stringent for a specific country, particularly if the economic trajectory is not as expected, would force further capital raising or profit retention and could well lead to lower loan growth. It would certainly complicate the work of fiscal and monetary policymakers in participating countries as it would add another layer of countercyclicality to the economy, in addition to tighter or looser official policy.

Other questions relate to the composition of capital. For example, the requirement for banks to hold sufficient cash and government paper to meet a liquidity coverage ratio and survive a 30-day market crisis may be difficult to meet for emerging market banks operating in countries without deep, liquid

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government bond markets. As such, the Basel Committee agreed that this requirement would be ‘observational’ until 2015, but other questions remain. Even if these liquidity requirements are met, we question whether the perceived risk of government paper is line with the actual risk: what of sovereign bonds in ‘safe’ countries that are, in BMI’s view, at risk of restructuring or defaulting, including some in the eurozone such as Greece and Portugal?

Ultimately, Basel III’s success will be determined by whether it improves the stability of the banking sector while not stifling innovation, profitability and lending. We believe it is an improvement on the previous framework but several questions still need to be answered.

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Asia Banking Sector Outlook
Banks Riding The Liquidity Wave With the developed world’s central banks accelerating their monetary stimulus measures, the potential for a continued surge in hot money inflows into Asia is high. This poses major risks for local banking sectors, not only due to the formation of asset bubbles, but also in lending to the real economy as banks increase credit expansion across the region. There could be a spike in non-performing loans (NPLs) if easy monetary policy is forcefully reversed down the line, although the crisis risks are minimal.

Governments and central banks in Asia have kept their currencies artificially weak in recent years. This has attracted a surge in speculative inflows as investors believe these currencies will eventually have to be revalued. Because of the large current account surpluses across the region, most countries are exporting capital and capital controls are unlikely to stop the flood of money coming in. While South Korea sets limits on banks’ exposure to foreign exchange derivatives, Indonesia has introduced measures such as a one-month minimum holding period on monetary instruments issued by the central bank and Thailand removed the tax exemption of foreign purchases of government bonds, such measures are unlikely to stem the tide. The solution would be for Asian central banks to allow their currencies to revalue to the extent that this would eliminate their current account surpluses, but we believe this is unlikely and even if it were to happen it could attract more destabilising inflows in the interim. Whatever path is chosen, it seems that Asian banks would be forced to absorb an increasing amount of liquidity. While this should help profit growth and keep economic activity buoyant, the risk of a rise in NPLs in future is growing.

Hot Money Pouring In Asia – Reserves At Asian Central Banks, US$bn

Source: BMI, central bank data

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Crisis Passes, Positioning For Growth After suffering only minor profit damage as a result of the global financial crisis due to strong capitalisation and less risky lending practices than in the US and Europe, Asia’s banks are now increasingly positioning for growth. Hong Kong has been the most clear example, where unfettered currency inflows have allowed banks to increase lending, with credit growth coming in at 24.1% year-onyear (y-o-y) in August 2010, after being in deeply negative territory 12 months earlier. As it has the region’s most tightly managed peg and one of the highest current account surpluses this stands to reason. We continue to caution, however, that burgeoning property prices could take a dip in 2011, undermining loan quality for a large chunk of the banking sector.

While Hong Kong is perhaps the clearest example, we are seeing a shift in tact across the board. In Singapore and Taiwan, also economies with huge fundamental upside pressure on their currencies, loan growth has risen substantially. After dropping into negative territory in late 2009, Singaporean loan growth has surged to almost 10% y-o-y in August 2010, and this is on top of continued overseas expansion. The Taiwanese banking sector’s loan trajectory has shown a similar trend, supported by the recent improvement in relations with Beijing. Meanwhile, Thailand’s loan-to-deposit ratio has ticked up amid a newfound appetite for domestic lending, while Malaysian banks have accelerated lending with support from widening interest margins and are increasingly expanding operations overseas.

Bubble Risks Grow It is no surprise that the economies that are most actively seeking to prevent currency appreciation (Hong Kong, China, Taiwan and Singapore) are experiencing the most significant upside pressure on local property prices as hot money inflows are channelled into this area. Central bank sterilisation measures have clearly been inadequate in preventing domestic currency weakness measures from feeding through to local monetary expansion. As long as the US dollar continues to weaken, property bubbles across Asia will continue to build, in our view.

Well Capitalised And Able To Withstand Potential Shocks The well capitalised nature of the region’s banking sector was the main reason why banks are now in a position to expand their loan books and support domestic economic growth, and with the exception of Japan we continue to anticipate solid equity-to-asset ratios preventing any major banking sector dislocation, even if property bubbles across Asia continue to inflate and burst in 2011. Tier 1 capital is estimated to be above 10% across Asia, far in excess of the 6% figure agreed upon in the Basel III requirements. Even in China, where we believe that the government may have to stand behind some of the larger banks if the property bubble bursts and local governments threaten to default on loans, Tier 1 capital remains high compared to US and European banks, with Industrial and Commercial Bank of China, one of the world’s largest bank by market value, boasting a common equity-to-assets ratio of roughly 10%. Despite the limited crisis risks, we remain concerned that profitability will take a significant hit once hot money inflows into Asia slow down.

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Table: Asia Banks’ Bond Portfolios

Bond Portfolio, US$bn Bangladesh China Hong Kong India Indonesia Japan Malaysia Pakistan Philippines Singapore Sri Lanka South Korea Taiwan Thailand Vietnam US 15.7 1,358.8 303.0 258.0 14.4 2,286.6 52.6 21.5 31.9 67.9 2.2 225.7 125.4 50.7 10.3 2,500.5

Bonds, % total assets 26.0 11.5 22.1 24.0 5.5 26.5 13.2 26.8 27.0 13.4 12.8 15.6 12.8 16.3 10.3 19.1

Year-on-Year Growth, % 19.4 24.9 29.1 20.6 18.5 12.4 18.1 62.3 16.8 36.2 18.2 -7.1 31.2 22.4 6.7 22.8

Source: Central banks, regulators, BMI

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Table: Asia Commercial Banking Business Environment Ratings

Limits of Potential Returns Market Structure Bangladesh China Hong Kong India Indonesia Japan Malaysia Pakistan Philippines Singapore Sri Lanka South Korea Taiwan Thailand Vietnam US 43.3 93.3 73.3 83.3 73.3 30.0 70.0 33.3 50.0 66.7 20.0 76.7 70.0 56.7 63.3 90.0 Country Structure 45.0 55.0 90.0 55.0 62.5 75.0 80.0 47.5 60.0 90.0 55.0 85.0 70.0 65.0 52.5 85.0

Risks to Potential Returns Market Risks 30.0 56.7 70.0 53.3 76.7 63.3 76.7 56.7 56.7 96.7 36.7 76.7 83.3 80.0 40.0 100.0 Country Risks 42.0 76.0 84.0 56.0 42.0 80.0 80.0 40.0 50.0 88.0 44.0 68.0 74.0 68.0 46.0 78.0 Rating 42.0 75.1 79.5 66.9 65.1 55.6 75.4 41.3 53.6 80.6 36.1 77.4 72.3 63.8 54.4 87.6

Overall Ranking 52 13 9 24 29 38 12 55 43 7 56 10 17 31 41 2

Scores out of 100, with 100 the highest. Source: BMI

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Table: Comparison Of Loan/Deposit, Loan/Asset And Loan/GDP Ratios

Loan/Deposit Ratio, % Bangladesh China Hong Kong India Indonesia Japan Malaysia Pakistan Philippines Singapore Sri Lanka South Korea Taiwan Thailand Vietnam US 76.7 69.5 51.5 79.5 72.9 74.6 75.6 75.1 66.5 71.9 68.0 122.7 75.1 95.3 120.9 78.9

Rank

Trend

Loan/Asset Ratio, % 64.7 52.6 30.8 62.3 58.9 53.2 57.0 49.7 50.1 39.8 51.0 70.6 59.8 64.4 76.6 55.6

Rank 12 38 57 14 27 37 29 44 40 51 36 7 23 13 2 31

Trend Falling Rising Rising Rising Falling Falling Rising Falling Rising Falling Falling Rising Falling Falling Falling Falling

Loan/GDP Ratio, % 43.7 127.4 200.7 48.3 25.6 89.7 114.4 24.8 35.8 108.4 22.9 110.1 154.7 73.8 112.3 51.1

Rank 43 9 3 41 52 20 11 56 48 13 55 12 7 30 10 39

Trend Rising Rising Rising Rising Falling Rising Rising Falling Rising Rising Falling Falling Rising Falling Rising Falling

41 Falling 49 Rising 58 Falling 42 Falling 44 Falling 46 Falling 45 Falling 55 Falling 53 Falling 47 Falling 52 Falling 11 Falling 43 Falling 25 Falling 6 Rising

39 Falling

Source: Central banks, regulators, BMI

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Table: Developments In 2010e

Loan/Deposit Ratio, % Bangladesh China Hong Kong India Indonesia Japan Malaysia Pakistan Philippines Singapore Sri Lanka South Korea Taiwan Thailand Vietnam US 78.7 69.5 54.1 78.2 76.7 75.7 76.3 63.0 67.8 72.5 68.0 122.1 77.7 95.8 130.7 79.3

Trend Rising Falling Rising Falling Rising Rising Rising Falling Rising Rising Falling Falling Rising Rising Rising Rising

Loan Growth, US$bn 7.0 623.4 21.1 55.3 38.8 -304.7 30.4 -3.1 7.7 16.5 1.7 180.5 55.4 15.7 13.7 182.1

Deposit Growth, US$bn 7.7 896.4 -0.1 85.2 40.0 -492.4 37.1 4.4 9.7 20.2 2.5 151.8 44.8 15.4 4.2 184.5

Residual, US$bn -0.6 -273.0 21.2 -29.9 -1.3 187.7 -6.7 -7.5 -2.0 -3.7 -0.8 28.8 10.6 0.3 9.4 -2.5

e = BMI estimate. Note: Incorporates estimated economic data and projected banking data. Source: Central banks, regulators, BMI

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Table: Comparison Of Total Assets, Client Loans And Client Deposits, 2008-2009 (US$bn)

2009 Total Assets Bangladesh China Hong Kong India Indonesia Japan Malaysia Pakistan Philippines Singapore Sri Lanka South Korea Taiwan Thailand Vietnam US 60.4 11,853.4 1,370.6 1,073.3 259.8 8,614.6 398.3 79.9 117.9 505.0 19.5 1,450.9 980.8 311.1 130.6 13,108.0 Client Loans 39.1 6,234.0 422.8 668.6 153.0 4,585.4 227.0 39.8 59.1 200.9 9.9 1,023.7 586.0 200.3 100.1 7,282.2 Client Deposits 51.0 8,964.5 820.4 840.8 209.9 6,146.3 300.1 51.3 88.7 279.6 14.6 834.3 780.2 210.1 82.8 9,226.8 Total Assets 50.6 9,389.7 1,387.6 896.5 203.1 8,976.7 368.9 80.0 106.0 464.5 17.3 1,407.9 901.8 289.5 100.0 13,853.2

2008 Client Loans 33.0 4,684.6 423.8 547.9 120.5 4,778.8 207.3 45.3 53.1 189.1 10.2 920.9 567.8 195.9 76.6 7,875.9 Client Deposits 42.1 7,003.0 781.9 674.9 161.6 6,166.8 270.0 48.1 78.0 241.5 12.5 693.6 694.6 202.7 76.7 9,035.7

Source: Central banks, regulators, BMI

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Table: Comparison Of Per Capita Deposits, 2010e (US$)

GDP Per Capita Bangladesh China Hong Kong India Indonesia Japan Malaysia Pakistan Philippines Singapore Sri Lanka South Korea Taiwan Thailand Vietnam US 604 4,239 32,025 1,332 2,905 39,457 8,009 1,024 1,856 39,198 2,383 22,068 17,912 4,350 1,085 48,295

Client Deposits Per Capita 281 5,124 63,044 618 790 33,606 9,220 234 713 42,299 590 24,638 27,611 3,170 1,362 24,101

Rich 20% Client Deposits Per Capita 1,427 29,475 466,016 3,163 4,299 177,545 48,316 1,207 4,208 233,315 3,355 80,699 142,057 13,234 3,940 121,549

Poor 80% Client Deposits Per Capita 89 1,842 29,126 198 269 11,097 3,020 75 263 14,582 210 5,044 8,879 827 246 7,597

e = BMI estimate. Source: Central banks, regulators, BMI

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Table: Interbank Rates And Bond Yields, 2010

3-Month Interbank Rate % Current Account % of GDP, 2010e Bangladesh China Hong Kong India Indonesia Japan Malaysia Pakistan Philippines Singapore Sri Lanka South Korea Taiwan Thailand Vietnam US 2.7 4.6 4.1 -3.2 2.3 4.3 15.4 -2.0 5.9 23.2 -2.2 3.6 7.4 4.3 -5.6 -3.1 Budget balance % of GDP, 2010e -4.5 -0.3 -2.4 -8.4 -1.0 -8.5 -5.8 -6.3 -3.9 -0.8 -8.1 -3.9 -3.6 -1.5 -4.7 -8.8 H110 na 1.71 0.50 7.00 7.00 0.24 2.70 12.10 4.70 0.56 9.58 4.44 0.48 1.41 10.25 0.35 2009 na 1.71 0.21 4.25 6.60 0.28 2.08 12.20 5.29 0.69 9.62 5.06 0.26 1.40 10.37 0.36

e = BMI estimate; na = not available. Note: Incorporates actual financial markets data, estimated economic data and projected banking data. Source: Central banks, regulators, BMI

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China Banking Sector Outlook
Liberalisation May Be On Its Way The wide spreads between loan and deposit rates in the Chinese banking system have helped boost industry profits in recent years, but they have come at the macroeconomic cost of reducing private consumption’s share of GDP. Recent steps to narrow the spread and talk of interest rate liberalisation bodes well for macroeconomic rebalancing over the medium term even if it suggests that profits could be squeezed in the short term.

We have long argued that the state-controlled nature of the Chinese banking system makes it prone to a rise in non-performing loans as banks primarily look to generate profits by rapidly boosting credit growth, making use of the wide gap between lending and deposit rates. This comes at the expense of improved risk practices. The problem is compounded by an implicit guarantee by the government that it will stand behind state-linked banks, which in our view encourages excessive loan growth. A good example of this was in early 2009 when banks were encouraged to play their part in the government’s giant stimulus project by lending freely, particularly to the real estate and construction sectors.

PBC Finally Makes Its Move
One-Year Lending & Deposit Rates, %

Source: BMI, People’s Bank of China

As well as posing potential problems for the health of the banking sector, this system also has farreaching implications for the economy as a whole, particularly regarding consumption’s share in the GDP. In our view, one of the contributing factors behind the declining share of consumption in China’s GDP has been the meagre rate of return on savings. The average deposit rate has lagged a long way

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behind nominal GDP growth over recent years, often (as it is currently) falling short of consumer price inflation. As the bulk of lending is undertaken by the investment sector, the wide spread between lending and deposit rates allows loans to the investment sector to be essentially subsidised by the consumer sector. In effect, lower interest rates, despite boosting economic activity, actually depress the relative clout of the consumer.

Narrower Spreads Are A Step In The Right Direction With this in mind, and with the government increasingly talking up its desire to rebalance the economy in favour of the consumer, we believe that the 25-basis point (bps) increase in the benchmark one-year lending and deposit rates (together with hikes on longer maturities, asymmetrically targeted at increasing deposit rates) in October 2010 by the People’s Bank of China (PBS) may have been partly aimed at correcting these imbalances. As such, we view the move as a significant step in the right direction and believe that while profits could be hurt in the short term by narrower spreads, the medium-term benefits of a more balanced economy will outweigh the short-term costs.

Wang Zhaoxing, vice-chair of the China Banking Regulatory Commission, highlighted similar concerns to ours in October, saying that banks should not seek excessive profits from a rapid increase in loans and a widening gap between lending and deposit rates, which is unsustainable. Wang said China will ‘gradually move toward a market-determined interest rate, which will squeeze profitability in the banking sector’. While there have been a number of statements over recent years to this effect, we regard the narrowing of the interest rate margin at some maturities as a move towards priming the banking system for such a change. The surprise decision by the PBC to hike rates by 25bps, rather than a typical 27bps change, may be a symbolic measure that suggests a move towards international norms is in the offing.

Economic Slowdown Poses Risks The largest risk to our outlook comes from the potential for a sharp slowdown in economic growth, which would cause non-performing loans (NPLs) to rise. In previous similar episodes, the government has endeavoured to buy up NPLs from the banking system and use the wide loan-to-deposit interest rate spread to recapitalise the banks. Should another round of losses ensue as a result of the surge in lending over the past two years this policy could be implemented again, to the detriment of long-term efficiency gains and financial stability.

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Economic Outlook
Pushing Back Our Slowdown Call While a sharp slowdown in the Chinese economy remains our baseline scenario, with liquidity still abundant, the property market re-igniting and external demand holding up, we are pushing back our call for a slowdown into 2011, from Q410 previously. We now see real GDP growth coming in at 9.7% in 2010, while maintaining our below-consensus view of a slowdown to 7.5% next year. Should the government maintain the current easy monetary policy, this could see growth overshoot our 2011 forecast, although this would most likely come at the expense of longer-term growth.

The Chinese economy has been cooling in recent months, in line with our view. Fixed-asset investment has continued to decline and the growth rate of exports has cooled substantially - the two most important growth drivers and two that have led to a cooling in purchasing managers’ indices. Consensus projections for real GDP growth both this year and next have also come in more in line with our long-held view of a slowdown. However, in the absence of a US double-dip recession that could potentially collapse export demand or further tightening measures to rein in the Chinese property market, our 2010 real GDP growth forecast of 8.8% looked conservative, leading us to revise this figure to 9.7%, with 8.1% growth expected in H210. That said, we continue to forecast real GDP growth of just 7.5% in 2011 as we believe that the rebalancing that has yet to occur thus far will need to take place, which will put a ceiling on economic growth in spite of the government’s ambitious infrastructure plans. We also see the potential for inflation pressures to creep up if the economy overheats which, in the absence of a sharp slowdown in the economy, could require significant tightening measures going forward.

Net Exports Still Contributing To Growth One of the main factors behind our weak growth call for 2010 was our view that net exports would contribute negatively to headline growth as the current account surplus narrowed. However, with exports - particularly to the US and Europe - holding up much better than expected, the drag on growth from net exports should be minimal as long as the current account surplus is maintained. IN 2011, however, we continue to see the trade account shrinking as import growth holds up better than export growth. Indeed, US demand for Chinese goods is at an all-time high and we expect the growth seen here to fall sharply, either on its own or via measures imposed by the US Congress. Meanwhile, a lower domestic savings rate and higher real wages should see import growth outperform going forward. We are pencilling in a trade surplus of US$150.7bn in 2011 following an expected US$187.5bn in 2010, which should see net exports subtract 0.8 percentage points from headline growth.

Property Market Bubble Yet To Be Fully Addressed We had expected the harsh property cooling measures implemented in April this year to have a dampening impact on property prices, transactions and construction. While prices and volumes fell temporarily, they have since rebounded strongly. Abundant liquidity, negative real interest rates and

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continued strong end-user demand have caused prices to rise and volumes picked up strongly at the start of September (which, together with October, are traditionally strong months for housing demand). We also note that the government’s recent announcement that it intends to build 5.8mn social housing units over the next 12 months will lend support to the construction industry over the remainder of the year, allowing real estate fixed asset investment to continue driving growth. A wave of housing supply coming onto the market in the coming months should dampen prices going into 2011. That said, we continue to see the property market in a bubble state and believe that further tightening measures will be needed if prices continue to rise aggressively, which would potentially have serious negative implications for the construction industry as a whole. This, too, would have negative implications for local government financing - a problem that temporarily seems to have receded from the headlines but remains a serious threat to growth.

Three Scenarios Revisited: Overheating Risks Rise Back in October 2009 (see our online service, October 7 2009, ‘Three Scenarios For Growth’), we highlighted the main risk to our core economic growth view, which was that the government could continue to embark on extremely loose fiscal and monetary policy, resulting in growth coming in higher than expected in the near term at the expense of the longer-term outlook. While we maintain our view that the economy will slow into 2011 and that credit growth will be allowed to cool, we note that the risks of an unsustainable boom continuing are on the rise.

Indeed, M2 money supply has increased a staggering 50% since the stimulus measures were introduced in November 2009 to help mitigate the negative external demand outlook. While consumer price inflation has remained subdued since then, there are increasing signs that pressures are brewing. Anecdotal evidence suggests consumer prices are rising much faster than the 3.5% year-on-year (y-o-y) official rate reported in August and wage rates are certainly on the up (including the minimum wage), rising 20%+ yo-y in many industries. Surveys continue to show high inflation as being a major cause of property purchases and we note that real deposit rates remain negative. There is a growing risk that, if the easy monetary policy is not tightened soon, the mis-allocation of capital created could undermine business profits and economic growth once cooling measures finally take place. Rising consumer price inflation would be an obvious trigger for this, and we will be watching sources of inflation closely to gauge whether policy tightening will be forthcoming any time soon.

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Table: China Economic Activity, 2007-2015

2007 Nominal GDP, CNYbn Nominal GDP, US$bn Real GDP growth, % 1 change y-o-y GDP per capita, US$ Population, mn
2 1 1 1

2008

2009

2010e

2011f

2012f

2013f

2014f

2015f

25,730.6 30,067.0 32,466.1 36,536.8 40,307.2 44,738.0 48,986.0 53,484.7 58,325.3 3,384.6 13.0 2,568 1,317.9 18.0 4.0
1

4,328.8 9.0 3,268 1,324.7 12.9 4.2

4,753.8 8.7 3,617 1,331.4 9.4 4.8

5,351.8 9.7 4,105 1,338.2 9.5 4.4

5,904.1 7.5 4,503 1,345.8 8.0 4.4
2

6,619.6 8.6 5,020 1,353.4 9.0 4.3

7,415.1 7.6 5,592 1,361.0 9.5 4.2
3

8,303.6 7.1 6,228 1,368.5 8.5 4.2

9,287.3 7.0 6,929 1,375.9 8.0 4.1

Industrial production index, 1 % y-o-y, ave Unemployment, % of labour 3 force, eop

e/f = BMI estimate/forecast. Source: National Bureau of Statistics, BMI; World Bank/BMI; National Bureau of Statistics

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Competitive Landscape
Market Structure
Protagonists
Table: Protagonists In China’s Commercial Banking Sector

Central bank: People’s Bank of China (PBC) www.pbc.gov.cn The PBC was established in 1948, essentially as a state-owned commercial bank, and has functioned as central bank since 1983. Under the guidance of the state council, the PBC formulates and implements monetary policy, prevents and resolves financial risks and safeguards financial stability. The law on the People’s Bank of China 2003 dictates that the PBC performs the following functions: issuing and enforcing orders and regulations; formulating and implementing monetary policy; issuing and administering the circulation of notes and coints; regulating the inter-bank lending and bond markets; administering foreign exchange and regulating the inter-bank foreign exchange market; regulating the gold market; holding and managing official foreign exchange and gold reserves; managing the state treasury; maintaining normal operation of the payment and settlement system; guiding and organising the anti-money laundering work of the financial sector, including monitoring relevant fund flows; compiling financial statistics, surveys, analysis and forecasts; and participating in international financial activities. Principal banking regulator: China Banking Regulatory Commission (CBRC) www.cbrc.gov.cn The CBRC authorises, supervises and regulates banks in China. It seeks to protect depositors’ and consumers’ interests, maintain market confidence, boost the public’s understanding of modern finance and to fight financial crime. It also says it aims to ‘encourage fair and orderly competition’. Banking trade association: China Banking Association (CBA) www.china-cba.net/eng/ The CBA was founded in May 2000 as a social organisation registered at the Ministry of Civil Affairs. On behalf of its 81 full members and 37 associate members, the CBA brings together various types of banking institution to represent the interests of this rapidly changing industry. With its missions generalised into four categories, self-regulation, rights protection, reconciliation and services, the CBA devotes its skills and experience to: ? Encouraging self-regulation and communication among members ? Regulating operation and management of its members ? Protecting the legal rights of members ? Promoting the healthy development of the banking sector. The CBA’s full members include policy banks, the big four banks, joint stock commercial banks, city commercial banks, asset management companies, the China Government Security Depository Trust & Clearing Company (DTC), the China Post Savings and Remittance Bureau, rural commercial banks, rural co-operatives, rural credit unions and locally registered foreign banks. The 37 associate members include banking associations in various provinces, autonomous regions and municipalities directly under the central government.

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Definition Of The Commercial Banking Universe
There are 81 full members of the China Banking Association. These are grouped into the following categories: policy banks; state-owned commercial banks; joint-stock commercial banks; city commercial banks; rural commercial banks; locally registered foreign banks; co-operatives; asset management corporations; the state Post Savings and Remittance Bureau; and the Government Securities Depository Trust & Clearing Company. For the purposes of this report we include 45 Banks.

List Of Banks
Table: Policy Banks And The ’Big Four’ State-Owned Commercial Banks

China Development Bank Export-Import Bank of China Agricultural Development Bank of China Industrial and Commercial Bank of China Agricultural Bank of China Bank of China China Construction Bank

Source: BMI, CBA

Table: Joint-Stock Commercial Banks, City Commercial Banks And Rural Commercial Banks

Bank of Communications China Bohai Bank China CITIC Bank China Everbright Bank Huaxia Bank Guangdong Development Bank Shenzhen Development Bank China Merchants Bank Shanghai Pudong Development Bank Industrial Bank China Minsheng Banking Corporation Evergrowing Bank China Zheshang Bank Bank of Shanghai Bank of Beijing

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Table: Joint-Stock Commercial Banks, City Commercial Banks And Rural Commercial Banks

Baoshang Bank Tianjin City Commercial Bank Guangzhou Commercial Bank Shenzhen City Commercial Bank Chongqing Commercial Bank Chengdu City Commercial Bank Kunming City Commercial Bank Xian City Commercial Bank Lanzhou City Commercial Bank Nanjing City Commercial Bank Urumqi City Commercial Bank Beijing Rural Commercial Bank Corporation Shanghai Rural Commercial Bank

Source: BMI, CBA

Table: Locally Registered Foreign Banks

HSBC Bank (China) Standard Chartered Bank (China) DBS Bank (China) Bank of East Asia (China) Bank of Tokyo-Mitsubishi UFJ (China) Mizuho Corporate Bank (China) Hang Seng Bank (China) First Sino Bank Xiamen International Bank ABN AMRO Bank (China)

Source: BMI, CBA

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Company Profiles
China Development Bank
Strengths The largest national development financing institution in the world. Close to and supported by the government. Weaknesses Opportunities Relatively narrow range of business operations. Increasing overseas development in infrastructure financing. Increased foreign involvement in sourcing funds. Acquisitions. Threats Increased competition from foreign banks. High level of loans brings the future possibility of NPLs.

Company Overview

China Development Bank (CDB) is under the direct leadership of the State Council. It was established in 1994 and is one of China’s three policy banks. In December 2008, CDB was restructured into the joint-stock China Development Bank Corporation. It is the largest national development financing institution in the world. The bank supports the development of the state’s key projects, such as construction in the infrastructure sector and basic and hi-tech industries. Its funding efforts also extend to urbanisation, small and medium-sized enterprises (SMEs), agriculture, rural communities and farms, education, healthcare and environmental protection, helping to implement the government’s policies to ‘develop and build a harmonious society’. The bank’s funding, raised domestically and internationally, is mostly sourced from issuing debt securities in yuan and foreign currencies. CDB is one of the three largest issuers in China’s securities market. In 2006, CDB became the first mainland institution to issue yuan bonds in Hong Kong. In July 2009, the bank issued its second bond issue in Hong Kong for CNY3bn (US$439mn). This also involved Bank of China Hong Kong and HSBC Hong Kong. CDB has considerably expanded its international presence over the past few years, having extended a US$1.2bn credit line to Angola for agricultural development as well as US$10bn to Brazilian state oil company Petrobras for the development of offshore oil fields. CDB provided US$2.2bn in financing for Chinese regional airlines to purchase Embraer aircraft, indicating the important role that CDB plays in Chinese foreign policy. Given this key role in domestic and foreign policy, the bank’s future is relatively secure. After approval by the State Council, CDB received a US$20bn capital injection from a subsidiary of the state-run China Investment Corporation with the aim of improving the bank’s capital adequacy ratio, a sign of the state’s commitment to CDB. Despite increasing international expansion, CDB has no relationship with Dubai World or its subsidiaries, helping to minimise its exposure to the emirate’s debt problems. In terms of performance, CDB has remained profitable, posting a CNY20.8bn net profit in 2008.

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With regards to its NPL ratio, however, the situation has worsened, increasing from 0.59% in 2007 to 0.96% in 2008. These trends indicate that CDB has been affected by global economic events, however this is substantially lower than the average Chinese NPL ratio of 4.5%. CDB has also taken on a prominent role in the efforts by the government to boost consumption and, specifically, increase investment into infrastructure.

Company Data

Website: www.cdb.com.cn/english Status: Public sector bank

Table: Key Statistics For China Development Bank, 2006-2008 (CNYbn)

2006 Total assets Loans and mortgages Total deposits Total shareholders’ equity 2,314 2,018 na 158

2007 2,893 2,262 na 348

2008 3,821 2,899 na 349

Source: CDB

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Export-Import Bank of China
Strengths Weaknesses Close to and supported by the government. Relatively narrow range of business operations. Possible lack of risk management regarding loans. Opportunities Threats Increasing involvement in overseas developments involving trade financing. Increased competition from foreign banks. High level of loans brings the future possibility of NPLs.

Company Overview

The Export-Import Bank of China (China Eximbank) is a government policy bank, established in 1994, under the direct leadership of the State Council. The bank has business branches, domestic representative offices and overseas representative offices in Johannesburg, Paris and St Petersburg. It has relationships with more than 300 overseas banks around the world. The bank describes itself as: ‘A key channel of policy financing for exports and imports of mechanic and electronic products, complete sets of equipment, hi-tech and new technology products, and for offshore construction contracts as well as overseas investment projects.’ It is also involved in lending foreign governments loans and it is the sole lending bank for Chinese government concessional loans, by which the government grants loans for selected projects in developing countries. China Eximbank has total assets of CNY557bn and a loan portfolio worth CNY451bn. China Eximbank is comparatively small in comparison to other Chinese state banks, being about a twelfth of the size of ICBC, reflecting the specialised nature of the institution. The institution’s NPL ratio has fallen to 1.52%, the first time it has fallen below 2% and substantially below China’s average of 4.5%. This is likely due to a rapid expansion in loans: actual disbursement of loans increased by 51% y-o-y to a total of CNY296.1bn. The credit ratings of the bank remained compatible with China’s sovereign ratings, reflecting the closeness of China Eximbank to the government and its role as a policy bank. Reflecting its status as a diplomatic tool, China Eximbank has also focused on improving relations with foreign governments and has played an increasingly important role in China’s diplomatic efforts, recently providing US$8bn to facilitate US-China trade. China Eximbank’s position is secure by virtue of its status as a policy bank, however once the economic pressures driving the current development strategy are reduced it is possible that lax lending will force cuts in the future unless increased government support is provided.

Company Data

Website: http://english.eximbank.gov.cn Status: Public sector bank

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Table: Key Statistics For Export-Import Bank of China, 2006-2008 (CNYmn)

2006 Total assets Loans and mortgages Total shareholders’ equity 258,297 231,670 5,562

2007 378,741 321,055 9,100

2008 566,729 451,240 9,466

Source: Export-Import Bank of China

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Industrial and Commercial Bank of China
Strengths One of the largest banks in the world in terms of market capitalisation. Highly rated by the ratings agencies. Weaknesses Concerns about risk management regarding loans. Decline in reputation due to irregular lending practices discovered in the 2008 audit by the Chinese National Audit Office. Opportunities Increasing overseas development High growth potential for financial services in China. Retail business and SME customers. Threats High level of loans, bringing the future possibility of NPLs. Increased competition from foreign banks. At high risk if asset price growth turns out to be unsustainable.

Company Overview

In 2008, the Industrial and Commercial Bank of China (ICBC) acquired a 20% stake in Standard Bank of South Africa and a 79.9% stake in Seng Heng Bank. It has also established ICBC International Holdings in Hong Kong as an investment bank. ICBC has 21 business institutions and 134 branches in 15 countries outside China, as well as agency relations with 1,358 overseas banks in 122 countries and regions. It was listed on the stock exchanges in Hong Kong and Shanghai in 2006. In 2008, ICBC became the world’s most profitable bank, with a net profit of CNY111bn, representing a growth of 35.6% y-o-y. Its credit ratings have been stable over the past few years, retaining its Standard & Poor’s A- rating for long-term foreign currency deposits, A-2 for shortterm foreign currency deposits and a C bank financial strength rating, indicating that ICBC has not been too badly affected by the global economic crisis but also that risk management still needs improvement. Despite concerns about risk management procedures, ICBC reported that their NPL ratio decreased to 1.68% in 2008. This is a substantial improvement since 2004, when its NPL ratio was 19.1%, a problem tackled by government aid and loan disposals worth over US$160bn. Internationally, ICBC has expanded dramatically, most recently by announcing the intention of opening a branch in Abu Dhabi, which was approved in December 2009. Domestic policy has posed issues for ICBC, however, as investors and the government have started to worry that loose monetary policy is creating an asset bubble in China - putting ICBC, as China’s largest lender, at risk in the event of an asset price collapse.

Company Data

Website: www.icbc.com.cn/icbc/sy Status: Public sector bank

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Table: Key Statistics For ICBC, 2006-2008 (CNYmn)

2006 Total assets Loans and mortgages Total deposits Total shareholders’ equity 7,508,751 3,631,171 6,326,390 466,464

2007 8,683,712 4,073,229 6,898,413 538,371

2008 9,757,146 4,571,994 8,223,446 602,675

Source: ICBC

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China Commercial Banking Report Q1 2011

Agricultural Bank of China
Strengths One of the largest banks in China. Unparalleled access to rural China. Weaknesses Concerns about risk management regarding loans. Government mandated social responsibilities. Opportunities Continue developing innovative products (eg: Kinscard). High growth potential for financial services in China. Retail business and SME customers. Increasing rural purchasing power. Threats High level of loans bringing the future possibility of NPLs. Increased competition from foreign banks.

Company Overview

The state-owned Agricultural Bank of China (ABC) was the first commercial bank established in the People’s Republic of China in 1951, and the state’s first specialised bank set up after the reform and ‘opening up’ of the country in 1979. In 1994, the Agricultural Development Bank was separated from ABC. In 1996, the Rural Credit Cooperatives, an affiliated financial institution to the bank, were also detached. After this, ABC started its transformation into a wholly state-owned commercial bank. ABC has a large physical and electronic network in urban and rural areas and diversified products. It aims to become ‘a modern universal bank with a sustainable development outlook’. ABC has also developed a successful credit card called Kinscard. ABC has arrangements with 983 correspondent banks and its network covers 101 countries. After much speculation, ABC issued an IPO in July 2010. On its completion in August, it became the largest ever IPO, raising US$22.1bn and beating the previous record set by ICBC in 2006. In December 2009, the China Banking Regulatory Commission said that ABC needs to raise CNY100-200bn to boost its capital adequacy ratios (CAR), which have been stretched by expanded lending as part of the government’s development strategy. ABC expanded lending to rural consumers in particular, although a focus on rural areas means it is not as exposed to the risks of urban property bubbles as other large banks. However, ABC still had a comparatively high NPL ratio of 4.32% and a surprisingly low CAR of 9.41%, the CBRC said. This is a potential problem for ABC, although the capital could raised through the IPO will help to tackle it.

Company Data

Website: www.abchina.com/en Status: Public sector bank

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China Commercial Banking Report Q1 2011

Table: Stock Market Indicators

2008 Market Capitalisation, CNYmn Market Capitalisation, US$mn Share Price, CNY Share Price, US$ Shares Outstanding, mn 260,000.00

Oct 2010 904,110.81 135,620.01 2.71 0.41 270,000.00

Source: ABC

Table: Balance Sheet (CNYmn, unless stated)

2007 Total Assets Loans & Mortgages Total Deposits Total Shareholders’ Equity Earnings Per Share, CNY 5,305,506 2,70,9192 5,28,7194 -727,605

2008 7,014,351 3,014,984 6,097,428 290,541

2009 8,882,588 4,011,495 7,497,618 342,925 0.25

Source: ABC

Table: Balance Sheet (US$mn, unless stated)

2007 Total Assets Loans & Mortgages Total Deposits Total Shareholders’ Equity Earnings Per Share, US$ 727,070.50 371,269.70 724,561.00 -99,711.53

2008 1,027,668.00 441,723.50 893,330.60 42,566.99

2009 1,301,078.00 587,584.10 1,098,214.00 50,229.96 0.04

Source: ABC

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Table: Key Ratios (%)

2007 Return On Assets Return On Equties Loan/Deposit Ratio Loan/Asset Ratio Equity/Asset Ratio Total Risk Based Capital Ratio Tier 1 Capital Ratio 65.71 65.48 -13.71

2008 0.84

2009 0.82 20.53

50.84 44.20 4.14 9.41 8.04

55.19 46.59 3.86 10.07 7.74

Source: ABC

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China Commercial Banking Report Q1 2011

Bank of China
Strengths Weaknesses The third largest bank in the world in terms of market capitalisation. Concern about risk management regarding loans. Decline in reputation due to irregular lending practices discovered in the 2008 audit by the Chinese National Audit Office. Opportunities High growth potential for financial services in China. Retail business and SME customers. Acquisitions. International expansion, particularly in Taiwan. Threats High level of loans brings the future possibility of NPLs. Increased competition from foreign banks.

Company Overview

The state-owned Bank of China (BOC), established in 1912, covers commercial banking, investment banking and insurance. Subsidiaries include BOC Hong Kong, BOC International and Bank of China Group Insurance. In 2009, BOC was the third largest bank in the world in terms of market capitalisation. Its main business activities are commercial banking, including corporate and retail banking, treasury business and servicing other financial institutions’ funding needs. In 2009, BOC’s profits increased, particularly in the latter part of the year when Q309 net profits were up by 17.36% y-o-y. This is in the context of an overall net profit growth of 3.82% y-o-y in 9M09. This can be explained to some extent by a massive expansion in the bank’s loan portfolio, which expanded by CNY1.4trn to CNY4.7trn. In terms of risk management, BOC’s NPL ratio was 1.6% in 2009, down from 2.65% in 2008. BOC is China’s most internationally orientated financial institution, with branches on every continent and China’s largest foreign exchange lending operations. Expanding operations outside of China is a continuing priority and BOC has benefited from this focus by receiving privileged direct access to the Taiwanese market - an important new market for forex-focused Chinese financial groups as the Taiwanese economy is rapidly opened to China.

Company Data

Website: www.boc.cn/en Status: Public sector bank

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China Commercial Banking Report Q1 2011

Table: Stock Market Indicators 2004 Market Capitalisation, CNYmn Market Capitalisation, US$mn Share Price, CNY Share Price, US$ Share Price, % change (eop) Change, 5 year-to-date Shares Outstanding, mn 186,390.00 209,427.00 253,789.00 253,839.20 253,839.20 2005 2006 1,291,321.38 165,445.85 5.43 0.70 2007 1,443,736.50 197,661.11 6.61 0.90 30.08 2008 670,018.94 98,164.08 2.97 0.44 -51.92 2009 1,051,067.00 153,955.12 4.33 0.63 45.76 55.22 253,839.20 Oct 2010 898,212.06 134,735.18 3.45 0.52 -18.40 -19.63 253,839.20

Source: BOC, Bloomberg

Table: Balance Sheet (CNYmn, unless stated) 2004 Total Assets Loans & Mortgages Total Deposits Total Shareholders’ Equity Earnings Per Share, CNY 4,265,221 2,072,919 3,479,535 227,907 0.12 2005 4,740,048 2,152,112 3,912,090 255,519 0.14 2006 5,327,653 2,837,674 4,23,8026 412,956 0.18 2007 5,991,217 2,754,493 4,648,593 450,657 0.22 2008 6,951,680 3,189,652 5,302,465 489,887 0.25 2009 8,748,177 4,797,408 6,807,195 541,628 0.32

Source: BOC, Bloomberg

Table: Balance Sheet (US$mn, unless stated) 2004 Total Assets Loans & Mortgages Total Deposits Total Shareholders’ Equity Earnings Per Share, CNY 515,341.20 250,458.40 420,411.40 27,536.64 0.01 2005 587,352.00 266,673.09 484,757.05 31,662.04 0.02 2006 682,586.10 363,566.70 542,981.60 52,908.48 0.02 2007 821,040.80 377,477.80 637,046.60 61,758.37 0.03 2008 1,018,487.00 467,314.00 776,861.01 71,773.05 0.04 2009 1,281,390.00 702,700.70 997,084.40 79,335.00 0.05

Source: BOC, Bloomberg

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China Commercial Banking Report Q1 2011

Table: Key Ratios (%)

2004 Return On Assets Return On Equties Loan/Deposit Ratio Loan/Asset Ratio Equity/Asset Ratio Total Risk Based Capital Ratio Tier 1 Capital Ratio 0.54 11.22 61.72 50.35 4.71 10.04 8.48

2005 0.58 12.14 57.14 47.16 4.78 10.42 8.08

2006 0.85 14.06 69.19 55.03 7.19 13.59 11.44

2007 0.99 14.00 61.32 47.58 7.02 13.34 10.67

2008 0.99 14.55 62.16 47.42 6.68 13.43 10.81

2009 1.03 16.62 72.13 56.13 5.84 11.14 9.07

Source: BOC, Bloomberg

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China Commercial Banking Report Q1 2011

China Construction Bank
Strengths One of the largest banks in the world in terms of market capitalisation. Instrumental to government policy, indicating a secure relationship. Weaknesses Possible lack of risk management regarding loans. Decline in reputation due to irregular lending practices discovered in the 2008 audit by the Chinese National Audit Office. Opportunities High growth potential for financial services in China. Retail business and SME customers. Acquisitions. Threats High level of loans brings the future possibility of NPLs. Increased competition from foreign banks. Substantial involvement in potentially volatile sectors.

Company Overview

China Construction Bank (CCB) is one of the largest commercial banks in the world, with more than 13,000 branches in China. It operates in three business segments: corporate banking, personal banking and treasury operations. CCB has overseas branches in Hong Kong, Singapore, Frankfurt, Johannesburg, Tokyo and Seoul; plus representative offices in New York, London and Sydney. The bank’s subsidiaries include CCB (Asia), CCB International (Holdings), Sino-German Bausparkasse, CCB Principal Asset Management and CCB Financial Leasing. In 2009, it became the second largest bank in the world in terms of market capitalisation. CCB has expanded rapidly in recent years. While already China’s second largest bank and part of the big four’ of state banks, CCB’s asset worth increased by 23.8% from 2008 to Q309, rising to CNY9.35trn. In Q309, net profit increased y-o-y by CNY18.56bn to CNY30.32bn, showing a substantial rebound compared to Q109’s 18% decline in profits. CCB has been instrumental in the government’s economic stimulus programme because of its focus in areas targeted for investment, particularly infrastructure, which accounts for CNY1.5trn of CCB’s lending. Net lending over this period increased by CNY879bn to CNY4.56trn. However, the rapid increase in lending to infrastructure and construction represents a potential problem for CCB as the risks of a Chinese asset bubble are becoming increasingly recognised. Despite this risk, CCB’s NPL ratio dropped from 2.21% in 2008 to 1.57% in 2009. Bank of America, which acquired an initial stake in CCB during the commercialisation process in 2005, was thought to have sold a substantial part of its stake in May 2009 as a result of stress tests by the US government. It is unlikely that a new foreign partner with a similarly sized stake will be sought, as Chinese financial groups such as CCB have become increasingly sceptical of partnering with foreign financial groups hit by the financial crisis.

Company Data

Website: www.ccb.com/portal/en/home

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China Commercial Banking Report Q1 2011

Status: Public sector bank

Table: Stock Market Indicators 2005 Market Capitalisation, CNYmn Market Capitalisation, US$mn Share Price, CNY Share Price, US$ Share Price, % change (eop) Change, % year-to-date Shares Outstanding, mn 224,689.00 224,689.00 233,689.00 233,689.00 2006 2007 1,468,307.88 201,025.16 9.85 1.35 2008 875,269.13 128,235.17 3.83 0.56 -58.39 2009 1,375,203.63 201,433.06 6.19 0.91 61.58 66.58 233,689.00 Oct 2010 1,427,392.88 214,114.28 4.82 0.72 -20.26 -20.19 233,689.10

Source: CCB, Bloomberg

Table: Balance Sheet (CNYmn, unless stated)

2004 Total Assets Loans & Mortgages Total Deposits Total Shareholders’ Equity Earnings Per Share, CNY 3,909,920 2,173,562 3,494,862 195,551 0.26

2005 4,585,742 2,394,533 4,011,475 287,677 0.24

2006 5,448,511 2,795,976 4,728,213 330,204 0.21

2007 6,598,177 3,183,229 5,349,600 422,281 0.30

2008 7,555,452 3,683,575 6,429,725 467,562 0.40

2009 9,623,355 4,692,947 8,001,323 559,020 0.46

Source: CCB, Bloomberg

Table: Balance Sheet (US$mn, unless stated)

2004 Total Assets Loans & Mortgages Total Deposits Total Shareholders’ Equity Earnings Per Share, US$ 472,412.30 262,618.50 422,263.30 23,627.26 0.03

2005 568,231.50 296,713.00 497,072.60 35,646.82 0.03

2006 698,070.60 358,224.30 605,785.10 42,306.18 0.03

2007 904,219.10 436,232.10 733,113.10 57,869.70 0.04

2008 1,106,945.0 0 539,678.40 942,015.30 68,502.23 0.06

2009 1,409,582.0 0 687,399.80 1,171,994.0 0 81,882.50 0.07

Source: CCB, Bloomberg

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China Commercial Banking Report Q1 2011

Table: Key Ratios (%)

2004 Return On Assets Return On Equity Loan/Deposit Ratio Loan/Asset Ratio Equity/Asset Ratio Total Risk Based Capital Ratio Tier 1 Capital Ratio 1.31 25.63 63.73 56.97 5.00

2005 1.11 19.50 61.26 53.59 6.27 13.57 11.08

2006 0.92 15.00 60.78 52.74 6.06 12.11 9.92

2007 1.15 18.39 61.17 49.59 6.38 12.58 10.37

2008 1.31 20.88 59.01 50.21 6.17 12.16 10.17

2009 1.24 20.90 60.24 50.08 5.77 11.7 9.31

Source: CCB, Bloomberg

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China Commercial Banking Report Q1 2011

Agricultural Development Bank of China
Strengths Weaknesses Opportunities Close to and supported by the government. Relatively narrow range of business operations. Further investment in agricultural development projects. High growth potential for financial services in China. Increased focus on rural development will provide expansion opportunities. Threats High level of loans brings the future possibility of NPLs. Increased competition from foreign banks.

Company Overview

Agricultural Development Bank of China (ADBC), established in 1994, is a government policy bank and under the direct leadership of the State Council. The aim of ADBC is to promote the development of agriculture and rural areas through raising funds for (government directed) agricultural policy businesses, developing commercial businesses in the agricultural sector, and acting as an agent of the Treasury for the allocation of special funds to support agriculture. ADBC’s role as an agricultural and rural development bank has meant that it plays an important role in the government’s economic stimulus plan. This new role and other improved prospects have been reflected in a Moody’s ratings outlook upgrade for ADBC to positive. Rural China is quickly becoming a new development focus, as evident in the rapidly growing total lending of ADBC, which was CNY1.21trn in 2008, up from CNY1.02trn in 2007. In terms of the sectors it focuses on, ADBC is becoming increasingly involved in agricultural processing projects, as well as its continued support for the purchase of consumable agricultural produce. Lending to agribusiness has accounted for an increasing share of ADBC’s activities. ADBC’s rural focus, closeness to the Communist Party and social responsibilities has ensured that it played an important role in financing the reconstruction after the May 2008 Sichuan earthquake. ADBC’s NPL ratio dropped to 3.8% in 2008, a marked improvement on 2007’s NPL ratio of 6.29%. This can be explained by expanded lending and improving economic conditions in the Chinese hinterlands.

Company Data

Website: www.adbc.com.cn/en Status: Public sector bank

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China Commercial Banking Report Q1 2011

Table: Stock Market Indicators

2007 Shares Outstanding, mn 121,612.0

2008 260,000.0

Source: ADBC, Bloomberg

Table: Balance Sheet (CNYmn)

2005 Total Assets Loans & Mortgages Total Deposits Total Shareholder Equity 4,771,019.0 2,793,266.0 4,036,854.0 79,607.0

2006 5,343,943.0 3,102,309.0 4,730,372.0 84,002.0

2007 5,305,506.0 2,709,192.0 5,213,383.0 -727,605.0

2008 7,014,351.0 3,014,984.0 6,017,627.0 290,541.0

Source: ADBC, Bloomberg

Table: Balance Sheet (US$mn)

2005 Total Assets Loans & Mortgages Total Deposits Total Shareholder Equity 591,189.7 346,121.0 500,217.3 9,864.3

2006 684,673.3 397,472.0 606,061.7 10,762.5

2007 727,070.5 371,269.7 714,445.9 -99,711.5

2008 1,027,668.0 441,723.5 881,639.0 42,567.0

Source: ADBC, Bloomberg

Table: Key Ratios (%)

2005 Return On Assets Return On Equity Loan Deposit Ratio Loan Asset Ratio Equity Asset Ratio Total Risk Based Capital Ratio Tier 1 Capital Ratio 70.1 59.3 1.7

2006 0.1 7.1 66.4 58.7 1.6

2007 0.8

2008 0.8

66.6 65.5 -13.7

51.5 44.2 4.1 9.4 8.0

Source: ADBC, Bloomberg

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China Commercial Banking Report Q1 2011

BMI Banking Sector Methodology
BMI’s Commercial Banking Forecast Report series is closely integrated with our analysis of country risk, macroeconomic trends and financial markets. As such, the reports draw heavily on our extensive economic data set, which includes up to 550 indicators per country, as well as our in depth view of each local market. We collate our commercial banking databank from official sources (including central banks and regulators) wherever possible, and only fall back on secondary sources where all attempts to secure primary data have failed. Company data is sourced, in the first instance, from company reports, with central bank, regulator or trade association data only used as a backup. All of the risk ratings and forecasts within this report are a result of BMI’s own proprietary research and do not in any circumstances include consensus or third party numbers.

How Our Data Set Is Structured The reports focus on total assets, client loans and client deposits.

Total assets are analogous to the combined balance sheet assets of all commercial banks in a particular country. They do not incorporate the balance sheet of the central bank of the country in question.

Client loans are loans to non-bank clients. They include loans to public sector and state-owned enterprises. However, they generally do not include loans to governments, government (or nongovernment) bonds held or loans to central banks. Client deposits are deposits from the non-bank public. They generally include deposits from public sector and state-owned enterprises. However, they only include government deposits if these are significant.

We take into account capital items and bond portfolios. The former include shareholders funds, and subordinated debt that may be counted as capital. The latter includes government and non-government bonds.

In quantifying the collective balance sheets of a particular country, we assume that three equations hold true:

Total assets = total liabilities and capital;

Total assets = client loans + bond portfolio + other assets;

Total liabilities and capital = capital items + client deposits + other liabilities.

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In terms of the equations, other assets and other liabilities are balancing items that ensure equations two and three can be reconciled with equation one. In practice, other assets and other liabilities are analogous to inter-bank transactions. In some cases, such transactions are generally with foreign banks.

In most countries for which we have compiled figures, building societies/thrifts are an insignificant part of the banking landscape, and we do not include them in our figures. The US is the main exception to this.

In some cases, total assets and client loans include significant amounts that are owned or that have been lent to customers in another country. In some cases, client deposits include significant amounts that have been deposited by residents of another country. Such cross-border business is particularly important in major financial centres such as Singapore and Hong Kong, the richer OECD countries and certain countries in Central and Eastern Europe.

Commercial Bank Business Environment Rating
In producing our Commercial Banking Business Environment Rating, our approach has been threefold. First, we have explicitly aimed to assess the market attractiveness and risks to the predictable realisation of profits in each state, thereby capturing the operational dangers facing companies operating in this industry globally. Second, we have, where possible, identified objective indicators that serve as proxies for issues/trends within the industry to ensure consistent evaluate across states. Finally, we have used BMI’s proprietary Country Risk Ratings in a nuanced manner to ensure that the ratings accurately capture broader issues that are relevant to the industry and which may either limit market attractiveness or imperil future returns. Overall, the ratings system, which integrates with all the other industry Business Environment Ratings covered by BMI, offers an industry-leading insight into the prospects/risks for companies across the globe.

Conceptually, the ratings system divides into two distinct areas:

Limits of potential returns: Evaluation of industry’s size and growth potential in each state, and also broader industry/state characteristics that may inhibit its development.

Risks to realisation of returns: Evaluation of industry-specific dangers and those emanating from the state’s political/economic profile that call into question the likelihood of anticipated returns being realised over the assessed time period.

In constructing these ratings, the following indicators have been used. Almost all indicators are objectively based.

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China Commercial Banking Report Q1 2011

Table: Commercial Banking Business Environment Indicators And Rationale

Limits of Potential Returns Banking market structure Estimated total assets, end 2009 Estimated growth in total assets, 20092014 Estimated growth in client loans, 20092014 Country structure GDP per capita Active population Corporate tax GDP volatility Risks to Realisation of Returns Banking market risks Regulatory framework and industry development Regulatory framework and competitive environment

Rationale

Indication of overall sector attractiveness. Large markets are considered more attractive than small ones Indication of growth potential. The greater the likely absolute growth in total assets, the higher the score Indication of the scope for expansion in profits through intermediation

A proxy for wealth. High-income states receive better scores than lowincome states Those aged 16-64 in each state, as a % of total population. A high proportion suggests that the market is comparatively more attractive A measure of the general fiscal drag on profits Standard deviation of growth over seven-year economic cycle. A proxy for economic stability

Subjective evaluation of de facto/de jure regulations on overall development of the banking sector Subjective evaluation of the impact of the regulatory environment on the competitive landscape

Country Risk from BMI’s Country Risk Ratings (CRR) Short-term financial risk Policy continuity Legal framework Bureaucracy Rating from CRR, evaluating currency volatility Rating from CRR, evaluating the risk of a sharp change in the broad direction of government policy Rating from CRR, to denote strength of legal institutions in each state. Security of investment can be a key risk in some emerging markets Rating from CRR to denote ease of conducting business in the state

Source: BMI

Weighting: Given the number of indicators/datasets used, it would be inappropriate to give all subcomponents equal weight. Consequently, the following weights have been adopted.

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China Commercial Banking Report Q1 2011

Table: Weighting Of Indicators

Component Limits of potential returns, of which: – Banking market structure – Country structure Risks to realisation of returns, of which: – Banking market risks – Country risk

Weighting, % 70, of which 60 40 30, of which 40 60

Source: BMI

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