Income Diversification in the Chinese Banking Industry: Challenges and Opportunities

177 Pages·2020·2.366 MB·English

by  Zhixian Qu

Zhixian Qu
Income
Diversification
in the Chinese
Banking Industry:
Challenges and
Opportunities
fi
Income Diversi cation in the Chinese Banking
Industry: Challenges and Opportunities
Zhixian Qu
fi
Income Diversi cation
in the Chinese Banking
Industry: Challenges
and Opportunities
123
ZhixianQu
ChinaConstruction Bank
Beijing,China
ISBN978-981-15-5889-4 ISBN978-981-15-5890-0 (eBook)
https://doi.org/10.1007/978-981-15-5890-0
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Preface
China’sfinancialindustryiscurrentlyundergoingaperiodofrapidtransformation:
heterogeneous service and technology innovations are continuously emerging, and
the process of financial liberalization is urging Chinese financial institutions to
develop new operating systems. At the same time, the opening up of China’s
financialindustry to foreign capital hasacted as a strong impetus for reform ofthe
financial system, accelerating the pace of transformation and upgrading of the
whole industry. As a result, as the main body of China’s financial market, com-
mercial banks are undergoing profound changes in business philosophy and com-
petitive environment. New strategies and business models are forthcoming, and
comprehensive management has become an important strategic choice for the
financial industry.
Since the implementation of the Financial Services Modernization Act by the
U.S. government in 1999, mixed operation has become the mainstream in the
internationalbankingmarket.InChina,althoughthesupervisionmodelisbasedon
“separate operations and separate regulations,” the development of financial dis-
intermediation, interest rate liberalization, and new types of Internet finance are
gradually blurring the boundaries between various financial sub-markets, and
promoting the innovative integration of different types offinancial fields. In addi-
tion, China’s economic development has entered a “new normal,” as the
investment-orientation phase gradually gives way to a new growth phase centered
on innovation and efficiency. In the context of macro policy changes, commercial
banking,asa“regulator”ofthenationaleconomy,isboundtousherinanewround
ofreforms.Asincomestructuregraduallyshiftsfromthetraditionalcreditbusiness
to guarantees, securities, insurance, financial derivatives, and other intermediate
businesses, mixed operation has become a new “blue ocean” for bank strategic
transformation.
However, we should also note the potential risks associated with the process of
diversification.Thepracticeoffinancialmarketsindevelopedcountriesrevealsthat
the innovative business is usually accompanied by complex financial instruments,
the high correlation and leverage characteristics of which are more likely to
exacerbate the risk aggregation of the financial system, resulting in black swans,
v
vi Preface
gray rhinos or other unexpected events. The report of the 19th National Congress
oftheCommunistPartyofChina,whichistheoutlineofChina’sdevelopmentfrom
2017to2022,emphasizestheconstructionofamodernfinancialsystem,andgives
priorityto“improvingthefinancialregulatorysystem”and“defusingmajorrisks.”
Therefore, as Chinese commercial banks enter new and unfamiliar financial
sub-industries,regulatorsshouldgivecloseconsiderationtoquestionssuchashow
to improve the quality and efficiency of banking businesses, and how to avoid
systemic financial crises caused by market and regulatory failures in a context of
increasingly large scale of assets and ever more complex business lines. These
problems have brought new tasks and challenges to banks’ risk management and
regulatory agencies.
In my new book, Income Diversification in the Chinese Banking Industry:
Challenges and Opportunities, I systematically analyse and summarize the explo-
rationandpracticeofmixedbusinessstrategyintheChinesebankingindustry.The
book begins with a history of the reform of the operational system of China’s
financial industry, and an analysis of the motivation and development process of
commercial banks’ diversification. Then, focusing on the three dimensions of
profitability, risk management, and internal efficiency, the book considers in depth
the banks’ mixed business strategy from both theoretical and empirical perspec-
tives. Overall, this book provides thorough and comprehensive explanations of
relevant theories, and gives readers a panoramic view of the opportunities, chal-
lenges,andcorrespondingsolutionsthatthebankingindustryfacesintheprocessof
entering a wider and more complex financial environment. I hope that the publi-
cation of this book could be of great benefit to financial practitioners and business
operators, and to general readers with an interest in this field.
Beijing, China Zhixian Qu
Contents
1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
1.1 The Focus of the Book. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
1.2 Main Contributions of the Book . . . . . . . . . . . . . . . . . . . . . . . . . 3
1.2.1 Content Improvements. . . . . . . . . . . . . . . . . . . . . . . . . . . 3
1.2.2 Methodology Improvements. . . . . . . . . . . . . . . . . . . . . . . 5
1.3 Income Diversification in the Chinese Banking Industry:
An Overview . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
1.3.1 Classification of Diversification . . . . . . . . . . . . . . . . . . . . 7
1.3.2 Channels of Income Diversification . . . . . . . . . . . . . . . . . 8
1.3.3 Income Diversification Activities . . . . . . . . . . . . . . . . . . . 9
1.4 Theoretical Basis and Endogeneity Problem. . . . . . . . . . . . . . . . . 10
1.4.1 Theories on Income Diversification. . . . . . . . . . . . . . . . . . 10
1.4.2 Endogeneity Problem. . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
1.5 Categorization of the Chinese Banking Market. . . . . . . . . . . . . . . 16
1.6 Book Map and Chapter Synopses . . . . . . . . . . . . . . . . . . . . . . . . 18
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
2 The Rise and Development of Non-traditional Banking Business
in China . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
2.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
2.2 Banking System Reforms in China . . . . . . . . . . . . . . . . . . . . . . . 26
2.2.1 First Stage of Reform: Establishment of a “Two-Tier”
Banking System . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27
2.2.2 Second Stage of Reform: Instituting the Regulatory
Framework of “One Bank and Two Commissions” . . . . . . 28
2.2.3 Third Stage of Reform: Towards a Market-Oriented
Economy. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
2.3 Changes in the Income Structure of China’s Banks . . . . . . . . . . . 32
2.3.1 Structural Changes in the Mature Banking Market. . . . . . . 32
2.3.2 Income Diversification in the Chinese Banking Market . . . 33
vii
viii Contents
2.4 Motivations for Chinese Banks’ Diversification . . . . . . . . . . . . . . 38
2.4.1 Constraint-Induced Diversification . . . . . . . . . . . . . . . . . . 38
2.4.2 Internal-Bank Motivations . . . . . . . . . . . . . . . . . . . . . . . . 44
2.5 Conclusion. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49
3 The Impact of Income Diversification on Chinese Banks: Bank
Performance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53
3.1 Research Background . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53
3.2 Related Literature. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56
3.3 Variables, Data and Methodology . . . . . . . . . . . . . . . . . . . . . . . . 59
3.3.1 Variables. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59
3.3.2 Data Sample . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61
3.3.3 Research Methodology. . . . . . . . . . . . . . . . . . . . . . . . . . . 62
3.4 Empirical Research and Analysis. . . . . . . . . . . . . . . . . . . . . . . . . 66
3.4.1 Income Diversification and Performance:
Whole Sample. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 66
3.4.2 Income Diversification and Performance Across
Chinese Banking Groups . . . . . . . . . . . . . . . . . . . . . . . . . 71
3.4.3 Effects of Diversification on Performance
by Components of Non-interest Activities. . . . . . . . . . . . . 78
3.5 Conclusion. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 85
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 85
4 The Impact of Income Diversification on Chinese Banks: Bank
Risk . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 89
4.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 89
4.2 Related Literature. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 91
4.3 Data and Methodology . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 94
4.3.1 Data Sample . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 94
4.3.2 Variables. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 94
4.3.3 Methodology. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 96
4.4 Empirical Estimation and Results . . . . . . . . . . . . . . . . . . . . . . . . 100
4.4.1 Estimation Steps . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 100
4.4.2 Overall Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 101
4.4.3 Components of Non-interest Income and Risk. . . . . . . . . . 106
4.4.4 Income Diversification and Different Types of Risk. . . . . . 110
4.5 Conclusion. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 113
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 114
5 The Impact of Income Diversification on Chinese Banks: Bank
Efficiency . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 119
5.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 119
5.2 Literature Review. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 121
Contents ix
5.3 Variables, Data and Methodology . . . . . . . . . . . . . . . . . . . . . . . . 125
5.3.1 Variables. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 125
5.3.2 Data Sample . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 127
5.3.3 Investigation Strategy and Research Methodology . . . . . . . 127
5.4 Empirical Estimation. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 133
5.4.1 Estimating Efficiency Scores for Chinese Banks . . . . . . . . 133
5.4.2 Determination of Diversification Effects on Cost
and Profit Efficiency . . . . . . . . . . . . . . . . . . . . . . . . . . . . 137
5.4.3 Discussion of the Results. . . . . . . . . . . . . . . . . . . . . . . . . 148
5.5 Conclusion. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 149
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 150
6 Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 155
6.1 Main Findings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 155
6.2 Implications of the Research . . . . . . . . . . . . . . . . . . . . . . . . . . . . 158
6.3 Limitations and Avenues for Future Research . . . . . . . . . . . . . . . 160
References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 161
Appendix. .... .... .... .... ..... .... .... .... .... .... ..... .... 163
List of Figures
Fig. 2.1 Financial regulatory framework in China. Source Author’s
creation.... .... .... ..... .... .... .... .... .... ..... .. 29
Fig. 2.2 Volume changes of interest and non-interest income
and the growth rate of non-interest income for the big-five
banksfrom2008to2017.Source Author’screationaccording
to annual reports of the big-five banks. .... .... .... ..... .. 35
Fig. 2.3 Volume changes of interest and non-interest income
and the growth rate of non-interest income for joint-stock
banksfrom2008to2017.Source Author’screationaccording
to annual reports of 12 joint-stock banks ... .... .... ..... .. 35
Fig. 2.4 The income structure of China’s banking industry in 2016.
Source Author’s creation according to China Banking
Regulatory Commission .... .... .... .... .... .... ..... .. 36
Fig. 2.5 Changes in the growth rate offee-based income and its
components for the big-five banks from 2008 to 2017.
Source Author’s creation according to annual reports
of Big-Five banks.... ..... .... .... .... .... .... ..... .. 37
Fig. 2.6 Changes in the growth rate offee-based income and its
components for joint-stock banks from 2008 to 2017.
Source Author’s creation according to annual reports
of 12 joint-stock banks..... .... .... .... .... .... ..... .. 37
Fig. 2.7 Benchmark interest spreads in China from 1991 to 2015.
Notes Interest spread = Benchmark loan rate − Benchmark
deposit rate. Source Author’s creation according to the
People’s Bank of China .... .... .... .... .... .... ..... .. 39
Fig. 2.8 ROE and profit after tax in the Chinese banking sector
from 2007 to 2017. Source Author’s creation according
to China Banking Regulatory Commission.. .... .... ..... .. 39
xi