Central Bank Tackles Risk in Relation to Financial Holding Companies

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Chinese financial regulators led by the People’s Bank of China (PBOC) are busy drafting new rules governing financial holding companies, as the institutions emerge as systemically important players within the sector.

According to domestic media reports the new rules are expected to introduce the requirement that financial holding companies obtain operating licenses issued by the Chinese central bank.

They will also establish thresholds for market entry, standardise affiliate transactions between financial holding companies and their internal subsidiaries via the establishment of a firewalls; strengthen requirements with respect to capital adequacy and authenticity, and standardise corporate equity structures, as well as the requirements for key shareholders and senior management.

A source speaking to Quanshang said that the focus would be on privately run financial-holding companies.

According to the source a number of problems in relation to China’s financial holding companies have recently become more pronounced, compelling regulators to take action.

The rapid growth and increasingly large scale of financial holding companies has made some of them systemically important financial institutions, that need to be included within the purview of regulation.

One official from PBOC said that the the “blind expansion and extreme growth” of financial holding companies had heightened China’s systemic financial risk, and that the institutions are now in urgent need of standardised development and strengthened regulation via statutory means.

“Looking at the procedures for the release of regulations by departments, regulators will probably solicit opinions from the public after they complete drafting of rules,” said the official.

“However, given the urgent nature of financial holding administrative measures, it is expected that the period for the solicitation of opinions will not be that long.”

Hu Xiaolian (胡晓炼), chair of the Exim Bank of China, said that risk-fraught financial holding groups are characterised by the following features:

i) High levels of leverage, and large or even unrestrained debt-funding during the process of asset expansion.

ii) Inadequate corporate governance.

iii) Divergence during the process of operation – insurance companies becoming asset investment companies, and financing companies during actual operation.

iv) These institutions are usually quite large in scale, meaning that associated risk will have a broad impact, or even trigger systemic financial risk.

Former PBOC governor Zhou Xiaochuan said at the Two Sessions in March that regulation of China’s financial holding companies would focus on three areas:

i) An emphasis on capital adequacy and authenticity as well as capital quality. Zhou said that finance is a high risk sector, and for this reason sufficient capital is needed to absorb risk. In addition to this the capital of some financial holding companies is unverified or incomplete, with problems such as fake registration and “circulating capital injections.”

ii) An emphasis upon the transparency of equity structures. The equity structures and status of actual controllers should be subject to adequate transparency, in order to prevent operation in breach of regulations.

iii) Strengthening of regulation of affiliate transactions, between the financial institutions that are part of financial holding conglomerates, as well as between the real enterprises and overseas enterprises of financial holding conglomerates.

Zhou pointed to the need for the  establishment of firewalls between financial institutions and share-controlled companies, as well as other real enterprises.

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