Chinese rural banks under increasing pressure to consolidate amid weak earnings
China’s rural commercial banks remain among the least profitable lenders in the country, which could increase pressure for them to regroup, analysts said.
The risk of default of small businesses, key customers of rural banks, remains high despite the ongoing recovery of the Chinese economy. These rural banks are the main financiers of farmers and small businesses in less developed regions, where the gains from the economic recovery take longer to filter through.
While the COVID-19 pandemic weighed on the profits of most Chinese banks, rural commercial banks were hit the hardest. Aggregate profit for a sample of companies tracked by S&P Global Market Intelligence fell 14.17% in 2020, the largest drop for the group in five years. It was also the largest drop among the 54 Chinese listed banks tracked by Market Intelligence.
Even when the income of the lenders started to take in the middle of the recovery of the Chinese economy, rural commercial banks have been lagging behind. In the first quarter of 2021, aggregate profits of rural commercial banks were almost flat at 73.4 billion yuan from 73.7 billion yuan for the same period in 2020, according to the China Banking and Insurance Regulatory Commission, or CBIRC. , which tracks all lenders in the country. The large state-backed banks posted 2.8% year-on-year net profit growth to 316.8 billion yuan in the first quarter, while the cumulative profits of domestic stock banks increased by 5. 3% to 138.5 billion yuan, according to CBIRC data.
“The performance of rural banks is strongly correlated with the strength of small and medium enterprises, which are more vulnerable in times of downturn. [They] are making a comeback, but remain weak as small businesses and the rural economy continue to lag behind the recovery in urban centers and large business, ”said Rory Green, London-based senior economist at TS Lombard. He expects rural banks to improve. their performance in the fourth quarter if China’s vaccination rate exceeds 80% and the economy fully reopens.
Nearly 18.5% of Chinese small businesses closed in 2020, up from 6.7% in 2019, according to a study released in March by Beijing’s Tsinghua University, which surveyed more than 50,000 businesses.
Most rural commercial banks lend to small businesses which may find it difficult to borrow from large banks. About half of rural commercial bank loans go to individuals and mortgages, while 20% of their exposure is to manufacturing, 10% to real estate developers and between 8% and 10% to retailers, according to Wang Zhen. , a Shanghainese. UOB-based analyst Kay Hian Research.
“Retail, for example, has been badly affected by the pandemic, which in turn has deteriorated the quality of the assets of these lenders, even for some large rural commercial banks,” said Chen Shujin, head of research for the Hong Kong-based group of Chinese financial institutions at Jefferies.
Since mid-2019, Chinese regulators to save smaller, less capitalized lenders through ad hoc bailouts and government-led mergers, as concerns grow about the possible contagion effects of a bank failure. The latest agreements, all pushed by local governments, include the merger of five regional lenders in Shanxi province and consolidation of three rural commercial banks in Jiangsu province. The northeastern Liaoning Province also said earlier that it plans to consolidate 12 local banks into a single regional mega lender.
“This is a long-standing goal for Beijing and the pandemic is likely to accelerate the consolidation process. Performances [for rural commercial banks] will remain volatile in one to three years, but consolidation in the banking sector could reduce the cyclicality of rural bank earnings, ”TS Lombard’s Green said.
Out of more than 4,000 banks in China in 2020, about 1,540 were rural commercial banks. However, rural banks, credit unions and other rural financial institutions accounted for only 13% of Chinese banking sector assets in the fourth quarter of 2020, according to CBIRC data.
Consolidation can improve credit risk management for small lenders, said Michael Chang, Hong Kong-based Chinese financial analyst at CGS-CIMB Securities.
“Their relatively small size often leads to less investment in credit risk management and, as a result, lower asset quality than other banks,” Chang said. “If you start to merge a few rural commercial banks, you get more scale.”
The size of assets and profits also limits the ability of rural commercial banks to build up reserves to absorb potential losses from bad loans.
According to CBIRC data, rural commercial banks reported a non-performing loan ratio of 3.7% in the first quarter of 2021, while all other groups reported a ratio of less than 2%. Rural commercial banks have set aside provisions for loan losses equivalent to about 124% of their gross non-performing loans, the lowest of any bank. The large state-owned commercial banks, the best of them all, had a coverage rate of almost 220%.
“The consequence of fewer provisioning buffers on their balance sheets means a larger increase in provisioning expenses when asset quality deteriorates. This makes their net profit growth more sensitive to fluctuations in the provisioning expense line,” Chang said.
As of June 23, US $ 1 was equivalent to 6.47 yuan.