## _cr11321 — Executive Summary and Key Findings ## Source details **Canonical URL:** [_cr11321 — Executive Summary and Key Findings](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2011/_cr11321.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2011/_cr11321.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2011/_cr11321.pdf.json) --- ### Overall assessment and potential risks - China has made "remarkable progress" toward a more commercially-oriented and financially sound system; the financial sector entered the global financial crisis "from a position of relative strength." - Systemic vulnerabilities are steadily building due to: - growing complexity and inter-linkages across markets, institutions, and international borders; - rise of informal credit markets, conglomerate structures, and off-balance sheet activities; - current growth model and relatively inflexible macroeconomic policy framework; - important government role in credit allocation at central and provincial levels leading to contingent liabilities. - Data and monitoring limitations hinder quantification of vulnerabilities. ### Main near-term domestic risks (¶3) - Four principal risks: - (i) impact of recent sharp credit expansion on banks’ asset quality; - (ii) rise of off-balance sheet exposures and lending outside the formal banking sector; - (iii) relatively high real estate prices; - (iv) increase in imbalances due to the current economic growth pattern. ### Stress-test overview and limitations - Joint stress tests of the largest 17 commercial banks (sample described below) indicate resilience to isolated shocks, but multiple concurrent shocks could severely impact the system. - Assessment hampered by: - data gaps and lack of sufficiently long and consistent time series; - weaknesses in informational infrastructure; - constraints on access to confidential data. --- ### Bank-sector Structure, Performance, and Key Statistics ### Market structure and concentration (Section 17) - Banks dominate financial intermediation; five Large Commercial Banks (LCBs) account for majority of commercial bank assets. - Commercial banking system structure by assets, 2010: - LCB: 63% - JSCB (joint-stock commercial banks): 20% - City commercial banks: 11% - Rural commercial banks: 4% - Foreign: 2% - Selected exact figures (2010, bln RMB unless otherwise stated): - Total Financial System: Number of institutions: 4,421; Total assets: 106,383; Share of GDP: 267.3 - Banking institutions: Number of institutions: 3,639; Total assets: 93,215; Share of GDP: 234.2 - Commercial banks: Number of institutions: 379; Total assets: 74,160; Share of GDP: 186.3 - LCBs: Number of institutions: 5; Total assets: 46,894; Share of GDP: 117.8 - Policy banks and China Development Bank: Number of institutions: 3; Total assets: 7,652; Share of GDP: 19.2 - China Postal Savings Bank: Number of institutions: 1; Total assets: 3,397; Share of GDP: 8.5 - Non-bank financial institutions: Number of institutions: 782; Total assets: 13,168; Share of GDP: 33.1 - Insurance companies: Number of institutions: 125; Total assets: 4,965; Share of GDP: 12.5 - Fund management companies: Number of institutions: 63; Total assets: 2,520; Share of GDP: 6.3 - Nominal GDP, 2010: 39,798 (RMB billion) - Population, 2010: 1,338 (million) - Selected financial development indicators, 2010: - Bank deposits/GDP: 171.3 (%) - Private credit/GDP: 131.1 (%) - Bank assets/GDP: 234.2 (%) - Mortgage debt stock/GDP: 14.0 (%) - Interbank lending (RMB billion): 27,868 - Pledged repo value of transactions (RMB billion): 84,653 - Outright repo value of transactions (RMB billion): 2,940 - Central bank bill value traded (RMB billion): 17,465 - Foreign exchange reserves/short-term debt: 7.6 - Value of transactions in FX swap (USD billion), 2010: 1,296 - Number of listed companies, 2010: 2,063 - Market capitalization of listed companies/GDP, 2010: 66.7 (%) - Stock market value traded/market capitalization, 2010: 205.6 (%) - Number of licensed investment funds, 2010: 704 - Total assets under management by investment funds/GDP, 2010: 6.3 (%) - Corporate bonds outstanding/GDP, 2010: 8.6 (%) ### Asset quality, profitability, and funding (Section 18) - NPL ratio trended down to 1.1 percent at end-2010; driver: rapid credit expansion, decline in NPL levels, and RMB 816 billion NPL carve-out from one major bank in 2008. - Bank profits remain high; reliance on interest income and limited earning diversification. - Funding appears stable due to sizable and low-cost domestic deposit base; maturity mismatches have risen due to longer-term loans. ### Collateral and lending practices (Figure 31 data) - Proportions in total secured lending: - Loans guaranteed by person and third party: 35% - Loans secured exclusively by land use rights or buildings: 20% - Credit loans unsecured: 17% - Loans secured exclusively by pledge movable assets: 8% - Loans secured both by collaterals and third party guarantee: 6% - Loans secured exclusively by movable assets: 4% - Loans secured by both immovable and movable assets: 2% - Types of collateral (proportion of total secured lending): - Real property: 65.7% - Financial instruments: 8.6% - Machinery: 7.3% - Right to payment: 4.4% - Investment property: 3.4% - Vehicles: 2.4% - Accounts receivable: 1.8% - Tax refund to exporters: 1.8% - Membership and partnership interests / cooperative shares: 1.6% - Agricultural products: 0.3% --- ### Stress Testing: Design, Scenarios, and Results ### Coverage and methodology (multiple sections) - Sample: 17 major banks (5 LCBs and 12 JSCBs), accounting for 83 percent of commercial banking system assets and 66 percent of banking system assets at end-2010. - Three complementary approaches: - FSAP team (top-down, public data), - PBC/CBRC team (top-down, supervisory/audited data), - Banks (bottom-up, internal risk data). - Key assumptions and metrics: - Minimum capital adequacy ratio (CAR): 8 percent. - Liquidity ratio hurdle: 25 percent; liquidity gap hurdle: zero. - Balance sheet approach: LGD=50 percent; zero credit growth; zero profits; zero provisions for solvency tests. - Stress horizons: one quarter, 1 or 2 years for solvency; 1 year for liquidity; 7 days and 30 days for liquidity sensitivity tests. - Caveats: constrained data coverage of off-balance-sheet, sectoral exposures, bilateral interbank exposures, and exposures to LGFPs; macro-scenario calibration relies on relatively short time series. ### Macroeconomic scenarios (selected values, Table 12) - Mild: GDP 7; M2 14.7; Real estate price -7.0; Change in benchmark interest rates for lending and deposits in RMB (bps): 35; Real effective exchange rate index: 117.5 - Medium: GDP 5; M2 12.4; Real estate price -16.2; Change in benchmark interest rates (bps): 66; REER: 119.6 - Severe: GDP 4; M2 10.2; Real estate price -25.9; Change in benchmark interest rates (bps): 95; REER: 123.0 ### Selected sensitivity and scenario shocks - Aggregate credit: 100–400 percent increase of NPLs; threshold approach with 10, 25, 50 percent of banks below minimum CAR and capital injections of 2, 4, 6 percent of GDP. - Concentration credit risk: sectoral NPL ratios to 5, 10, 15 percent or NPLs increase by 100, 200, 400 percent for targeted sectors (real estate, LGFPs, overcapacity industries, export sector, fast loan-growth sectors). - Market risk: interest rate shifts (examples: 54, 81, 108 bps parallel shift up; 18, 27, 36 bps fall in benchmark loan rate; 50, 100, 150 bps shift up in trading portfolio); exchange rate appreciation shocks of 5, 10, 15 percent. - Liquidity stress tests: 7-day and 30-day scenarios with bond price drops, deposit draw-downs, interbank declines, and required reserve ratio increases. ### Key results and interpretations (Sections 30 and 30 — stress-testing results) - Aggregate credit risk: - If NPL levels increase by 400 percent in two years (post-shock NPL ratio ≈ 6 percent), end-2010 based calculations suggest no banks would have CAR below 8 percent. - Reverse stress test (end-2009 data): for half of banking system assets to breach CAR minimum, gross NPLs/total loans would need to increase to almost 11 percent; a 6 percent of GDP capital injection would be required if NPL ratio reached 24.8 percent (compared with 1.6 percent at end-2009). - Real estate shocks (end-2010 data): - Test 1: if 15 percent of developer and land reserve loans, and 7½ percent of mortgages become nonperforming, aggregate CAR falls by about 1 percentage point; no banks fall below regulatory minimum. - Test 2 (expanded): a 30 percent decline in property prices, higher interest rates, and related industry impact lowers aggregate CAR by less than ¼ percentage point. - LGFP exposures: - Bottom-up test: losses equivalent to 15 percent of banks’ LGFP loans would result in CAR below regulatory minimum for only two small JSCBs. - Key assumptions: 15% of LGFP loans default; LGD = 50%. - Market risks: - Direct exchange rate shocks under severe stress lower system CAR by less than 0.1 percentage point; all 17 banks still exceed minimum CAR. - Interest-rate related shocks produced small impacts on CARs across the 17 banks. - Liquidity two-round results: - Round 1 (no bond sales): substantial impacts; six banks have negative cash flow gap at seven-day horizon. - Round 2 (allowing bond sales at discount): results more benign; all banks except one (30-day horizon) have positive cash flow gaps. - Macro-scenario severe outcome: - Severe scenario (GDP growth slowed to 4 percent) implies system-wide CAR ≈ 8 percent; banks accounting for some ¼ of the total assets of the 17 banks would fall below the 8 percent minimum CAR. - Overall interpretation: - Major banks can absorb moderate, isolated losses due to improved profitability and buffers. - Concurrent major shocks could cause severe system-wide impacts. - Results should be interpreted cautiously given data and modelling limitations. --- ### Recommended Reforms and Policy Actions ### Institutional reforms, mandates, and supervisory focus (Section 6) - Supervisory mandates should focus on safety and soundness, risk management, and market conduct; avoid sector-promoting or capital allocation roles. - Ensure operational autonomy of the PBC and financial supervisors. - PBC should serve as secretariat of a permanent Financial Stability Committee. ### Financial stability framework, contingency planning, and resolution - Implement a formal financial stability framework and contingency planning mechanisms. - Establish a permanent committee on financial stability chaired by a senior official, with access to all supervisory information. - Create a framework and designated government entity with resolution powers for timely resolution of nonviable institutions. - Establish an explicit deposit insurance scheme promptly to finance orderly resolution and protect insured depositors. ### Market-based system reforms and distortion removal (¶8) - Address distortions that foster high savings, structural liquidity overhang, risk of capital misallocation, and asset bubbles. - Priority reform areas: - Improved management of systemic liquidity: drain structural liquidity and move toward liberalized and flexible exchange market. - Greater use of market-oriented monetary policy instruments: make interest rates the primary tool rather than administrative lending controls; accompany with strengthened supervision and bank risk management. - Broaden financial markets and services: deepen fixed income markets and diversify institutional investor base. - Reorient government role: reduce banks’ use for developmental credit; use fiscal spending, policy bank direct lending, and explicit government-sponsored credit programs for developmental credit. - Upgrade financial infrastructure and legal framework: payments and securities settlement improvements; improve Credit Reference Center coverage and oversight of rating agencies; strengthen consumer protection and insolvency proceedings. - Strengthen cross-border and cross-currency prudential framework. ### Calibrating pace and sequencing of reforms (¶9) - Preconditions before broader acceleration of financial deepening and liberalization: - Well-functioning legal, regulatory, supervisory, and crisis management framework. - Improved corporate governance in banks. - Early absorption of current liquidity overhang. - Greater reliance on market-oriented monetary policy instruments. - International experience cautions that ad hoc or partial reforms can pose risks. ### Key action recommendations (Table 1 — selected, with Priority and Time-Frame preserved) - Improving commercialization 1. Continue to advance interest rate and exchange rate reform — Priority: High — Time-Frame: MT 2. Delineate roles of policy financial institutions from commercial institutions — Priority: Medium — Time-Frame: MT 3. Transform the four AMCs into commercial entities; require periodic financial statements — Priority: Medium — Time-Frame: MT - Institutional/regulatory efficiency 4. Empower the PBC and three supervisory commissions with focused mandates, autonomy, resources, and interagency coordination — Priority: High — Time-Frame: MT 5. Develop framework for regulation/supervision of FHCs, conglomerates, informal firms; interim approval for acquisitions — Priority: Medium — Time-Frame: NT 6. Introduce forward-looking credit risk assessment in CBRC rating and eliminate deviations from capital framework — Priority: Medium — Time-Frame: NT 10. Enact a payment system law to give full protection to payments, derivatives and securities settlement finality — Priority: Medium — Time-Frame: MT 11. Ensure beneficial ownership and control information is adequate and accessible — Priority: High — Time-Frame: MT 12. Improve information sharing on AML and supervisory issues — Priority: High — Time-Frame: MT - Financial stability, systemic liquidity, crisis management 13. Establish a permanent committee of financial stability, with PBC secretariat — Priority: High — Time-Frame: MT 14. Upgrade data collection on leverage, contingent liabilities, off-balance sheet positions, unregulated products, cross-border and sectoral exposures — Priority: Medium — Time-Frame: NT 15. Build macro-prudential framework and increase PBC/regulators’ resources for stress tests — Priority: High — Time-Frame: NT 16. Enhance sterilization of structural liquidity via market-based instruments — Priority: High — Time-Frame: NT 17. Introduce reserve averaging — Priority: High — Time-Frame: NT 18. Start targeting a short-term repo rate on a pilot basis and commence daily open market operations — Priority: High — Time-Frame: NT 19. Ensure PBC standing facilities operate immediately and automatically with identical collateral requirements — Priority: Medium — Time-Frame: NT 20. Introduce a deposit insurance scheme — Priority: Medium — Time-Frame: NT - Securities markets and institutional investor development 21. Ensure consistent regulations to support fixed income market development — Priority: Medium — Time-Frame: MT 22. Improve bond issuance strategies between MOF and PBC to support market-making across maturities — Priority: High — Time-Frame: MT 23. Upgrade repo market framework to increase liquidity and reinforce money-bond market nexus — Priority: Medium — Time-Frame: NT 24. Ease the 40 percent net assets limit on corporates’ market-based debt issuance — Priority: Medium — Time-Frame: MT 25. Upgrade links between CCDC and SD&C to enhance connectivity among IBBM, SSE, and SZSE — Priority: Medium — Time-Frame: MT 26. Consolidate multi-pillar pension system, with emphasis on funded component — Priority: Medium — Time-Frame: MT - Access and alternative financing 27. Review government programs for rural and MSE finance and formulate integrated strategy — Priority: High — Time-Frame: MT 28. Further reform rural credit cooperatives — Priority: Medium — Time-Frame: MT ### PSB reform (Section 29) - Recommendations to complete reform of the Postal Savings Bank (PSB): - Optimize equity ownership. - Overhaul the bank to become a corporation. - Build effective corporate governance. - Time horizon: Medium (MT). - Macro-financial context relevant to PSB reform (selected exact figures and facts): - Credit growth up by 33 percent in 2009. - Stress test severe scenario: slowdown in annual GDP growth to 4 percent could see 25 percent of banking system assets drop below the 8 percent minimum CAR (scenario context). - Capital flows (excluding direct investment) have averaged about 1½ percent of GDP since 1998. - Current account balance and net FDI flows are 4.7percent and 1½ percent of GDP, respectively. (preserved punctuation as in source) - Real estate-related bank lending exposures: 20 percent of GDP. - Infrastructure-related lending to local governments market-estimated RMB 7.7 trillion as of end-June 2010, equal to 16 percent of outstanding loans and 23 percent of GDP at end-2009. - Aggregate exposures to real estate and local government financing platforms upward of RMB 20 trillion, equivalent to more than 40 percent of total loans at end-2010. - In five largest banks, 30–45 percent of loans are backed by collateral, majority real estate. --- ### Regulatory, Supervisory, and Infrastructure Assessments ### CBRC and banking supervision (Sections 53, 89, 112 and related) - High degree of adherence to international standards, but priorities are to: - Improve operational autonomy and resourcing of regulators (CBRC, PBC); - Upgrade skills, risk monitoring, and interagency coordination; - Strengthen consolidated supervision over financial groups and complex structures. - Capital adequacy: - Basel II introduced over 2011–2013 for six banks (mandatory); others voluntary. - Minimum required capital: 8 percent. - Recent measures raised expected capital ratios above Basel minimum to: - 11.5 percent for the five major banks; - 10 percent for all other banks. - Key supervisory recommendations (selected): - Enhance forward-looking credit risk assessment in CBRC risk rating system. - Strengthen enterprise-wide risk management and IRRBB analysis. - Empower CBRC with authority to identify ultimate beneficial owners and indirect changes of control. - Improve disclosure and transparency (publish aggregate banking data, key ratios, peer averages quarterly). - Establish less burdensome loan write-off mechanisms and facilitate bank resolution frameworks. - Enhance CBRC staffing, budgeting flexibility, and specialist resources. ### Shadow banking and nonbank finance (Table 9 summary) - Shadow banking indicators and examples: - Private equity: estimated 3,500 PE funds with assets ~ RMB 900 billion as of mid-2010 (≈ 70% funded from overseas). - Wealth management products (WMPs): estimated 7,049 outstanding at end-2010, totaling RMB 1.7 trillion; 124 banking institutions involved. - Underground intermediation, pawn shops, credit guarantee companies, micro-finance companies: varied registration and supervision; regulators need clearer policies. - Recommendation: clarify regulatory policies applying to shadow banking and their interconnections; strengthen consolidated supervision. ### Securities, exchanges, and IOSCO assessment (Sections 139, 161, 170, 171) - CSRC has implemented significant reforms (non-tradable shares, stock index futures introduction, third-party custodian, risk-based net capital). - Key recommendations: - Increase operational budget flexibility and staffing to retain qualified personnel. - Institute formal program of regular comprehensive on-site inspections of exchanges. - Address unregulated or lightly regulated entities (hedge funds, private equity) to avoid regulatory arbitrage. - Improve investor education, suitability, and disclosure practices. - Consider lowering thresholds for CSRC investigatory powers and earlier intervention in intermediary failures. ### Insurance sector assessment (Sections 129, 138, 139) - CIRC implements comprehensive, rules-based supervision with high regulatory compliance but needs to: - Strengthen solvency regimes toward a more risk-based approach; currently some companies operate below 100 percent solvency. - Prohibit writing new business while solvency below 100 percent and enable timely supervisory administration. - Develop clearer regulations for portfolio transfers, market exit, and voluntary run-off. - Reinforce staffing for off-site monitoring, inspection, actuarial oversight, and AML responsibilities. - Insurance market facts (end-2009): - Life insurers: 59; Non-life insurers: 52; Reinsurers: 9. - Life premium income in 2009: US$109.2 billion (penetration 2.3 percent of GDP). - Non-life premium in 2009: US$53.9 billion (penetration 1.1 percent of GDP). - Top 10 life insurers account for nearly 90 percent of gross premium. ### Payment and securities settlement systems (Sections 183–199, 212) - CNAPS/HVPS and BEPS: HVPS handled CY 804 trillion in 2009 (≈ 24 times GDP); cheque clearing gross value CY 248 trillion in 2009 (≈ 7.4 times GDP); ACHs handled CY 69 trillion in 2009 (≈ 2 times GDP). - Card statistics: ~2.07 billion cards issued at end-2009; 1.88 billion were debit cards. - Assessment conclusions and priorities: - LVPS broadly observes CPSS Core Principles except CP I (legal basis); PBC to draft a payment system act to secure settlement finality and netting. - PBC to launch CNAPS2 (second-generation) to improve efficiency and extend operating hours. - Recommended legal and operational actions include enacting a payment system law, addressing the "zero-hour rule" in Enterprise Bankruptcy Law, improving realtime liquidity monitoring, backup and contingency arrangements, and clarifying oversight roles. - Securities settlement systems: - CCDC, SD&C, and CCPs assessed; improvement opportunities in legal certainty, pre-settlement confirmation (T+0), increasing DvP to 100 percent, governance, cross-border risk analysis, and disclosure. - Selected settlement facts: - CCDC settles bond transactions on gross basis; 98 percent of securities held at end-investor level; T+0 settlement for most transactions (82.9 percent of total value in 2009). - Interbank bond market accounts for more than 97 percent of total bond trading volume. - Authorities (PBC, CSRC) acknowledge assessments and will analyze and implement recommendations; some reservations expressed on legal-basis findings for SHFE and CCDC with references to existing regulations and practices. --- ### Managing Risks — Crisis Toolkit and Macro-Financial Policy Guidance ### Financial Stability Framework and data - Establish permanent Financial Stability Committee with PBC secretariat; chair by very senior official; membership to include PBC, three supervisory commissions, MOF, and others. - Enhance data collection on leverage, maturity mismatches, large exposures, contingent liabilities, off-balance sheet positions, unregulated products, and cross-border/sectoral exposures. - Develop forward-looking early warning systems and macro-prudential frameworks; clarify use of tools (capital surcharges, dynamic provisioning, variable capital requirements, reserve and LTV requirements). ### Systemic liquidity management - PBC to absorb liquidity overhang via more aggressive open market operations; reduce reliance on administrative lending limits. - Consider reserve averaging; excess reserves have averaged around 2–3 percent of deposits. - Target a short-term repo rate on a pilot basis; commence daily open market operations and lengthen maturity of open market operations. - Make PBC standing facilities automatic and transparent; standardize collateral requirements across domestically incorporated institutions. ### Crisis management, resolution, deposit insurance - Expand resolution toolkit beyond "open resolution"; create comprehensive safety net with operational autonomy and legal authority to intervene. - Accelerate introduction of explicit deposit insurance designed per International Association of Deposit Insurers principles. - Review insolvency laws for financial institutions and create a designated entity to manage intervened institutions; fund industry-based to reduce reliance on government support. - Clarify strategy for four public AMCs: require periodic financial statements and consider conversion to commercial entities. ### Macro-financial policy adjustments - Reduce reliance on credit growth targets; adopt market-based interest rates as primary instrument for managing credit expansion. - Move toward liberalized and flexible exchange market to ease PBC liquidity management and reduce incentives for one-way capital inflows. - Complement financial reforms with capital markets development, gradual capital account opening, and fiscal reforms (consider broad-based property tax) to address fundamentals driving real estate prices and credit allocation inefficiencies. --- *Source: _cr11321 — IMF staff report (Executive Summary; sections 6, 12, 17–18, 29, 30, 53, 69, 89, 112, 129, 138–139, 161, 170–171, 183–199, 212) as provided in the content unit.* ### Executive Summary ...................................................................................................... ### _cr11321 - Executive Summary ...................................................................................................... ### Executive summary: overall assessment - 1. China has made remarkable progress in its transition toward a more commercially-oriented and financially sound system. Improvements continue to be made to the structure, performance, transparency, and oversight of financial institutions and markets. As a result, the financial sector entered the global financial crisis from a position of relative strength. ### Potential risks - 2. Despite ongoing reform and financial strength, China confronts a steady build-up of financial sector vulnerabilities. The system is becoming more complex and inter-linkages between markets, institutions, and across international borders are growing. In addition, informal credit markets, conglomerate structures, and off-balance sheet activities are on the rise. Furthermore, the current growth model, the associated and relatively inflexible macroeconomic policy framework, and the government’s important role in credit allocation at the central and provincial levels are leading to a build-up of contingent liabilities. These could affect the needed reorientation toward domestic demand and new sectors of growth. These vulnerabilities are not easily quantified, however, in part due to limitations on monitoring, data collection, and inter-agency information exchange. - 3. The main near-term domestic risks to the financial system are four-fold: - (i) the impact of the recent sharp credit expansion on banks’ asset quality; - (ii) the rise of off-balance sheet exposures and of lending outside of the formal banking sector; - (iii) the relatively high level of real estate prices; and - (iv) the increase in imbalances due to the current economic growth pattern. ### Stress-test findings and data limitations - 4. Jointly conducted stress tests of the largest 17 commercial banks indicate that most of the banks appear to be resilient to isolated shocks. Such shocks included a sharp deterioration in asset quality, a correction in the real estate markets, shifts in the yield curve, and changes in the exchange rate. If several of these risks were to occur at the same time, however, the banking system could be severely impacted. A full assessment of the extent of these risks and how they could permeate through the economic and financial system, however, was hindered by data gaps, the lack of sufficiently long and consistent time series of key financial data, weaknesses in the informational infrastructure, and constraints on the FSAP team’s access to confidential data. ### Recommended reforms to strengthen monitoring and resolution of risks - 5. Continued advances in supervision and regulation, and the financial stability framework, together with the upgrading of banks’ risk management systems are required to effectively respond to these risks. As the range of financial activities offered in China grows, there is a need for a concomitant expansion of the regulatory and supervisory perimeter, combined with stronger supervision of financial groups and robust systemic oversight. This will require augmenting resources and skilled personnel, and improved coordination and information and data exchanges among the key agencies. The People’s Bank of China (PBC) and the various supervisory commissions must build staff capacity, adopt new risk monitoring systems, strengthen their intervention frameworks, and establish more forward-looking approaches to assessing financial stability conditions. In support of this, continuing improvements in accounting requirements, data standards, reporting requirements, and meaningful disclosure should be an immediate priority. *Source: _cr11321 - Executive Summary* ### 6. Institutional reforms will help bring the system more in line with international ### 6. Institutional reforms will help bring the system more in line with international ### Mandates, autonomy, and supervisory focus - Supervisory agencies’ mandates should focus on ensuring the safety and soundness of regulated institutions, risk management, and proper market conduct, and avoid promoting development of specific economic sectors or making decisions on how capital should be intermediated and allocated. - Ensuring the operational autonomy of the central bank and the financial supervisors is crucial. - Consistent with its financial stability mandate, the PBC should serve as the secretariat of a permanent financial stability committee. ### Financial stability framework, contingency planning, and resolution - Implementation of a formalized financial stability framework and mechanisms for contingency planning is essential. - Establish a permanent committee on financial stability and systemic risk that builds on China’s June 2008 ad-hoc committee experience; the committee should be chaired by a senior official with authority and have access to all relevant supervisory and other financial information. - A framework to resolve weak financial institutions on a timely basis is needed to facilitate orderly resolution and winding up of distressed institutions. - A designated government entity should be vested with resolution powers to address institutions determined to be nonviable by their supervisor. - An explicit deposit insurance scheme presently under consideration should be established promptly to finance the orderly resolution of failed depository institutions and protect insured depositors, while minimizing the cost to the public purse. ### Toward a more market-based system — distortions and necessary policy changes (¶8) - The existing configuration of financial policies fosters high savings, structurally high levels of liquidity, and a high risk of capital misallocation and asset bubbles, particularly in real estate. - The cost of these distortions is rising over time, posing increasing macro-financial risks; past absorption of these costs relied on rapid productivity gains and an implicit tax on households through low remuneration on deposits. - Needed financial system reforms include: - Improved management of systemic liquidity. - Current high levels of foreign exchange intervention, limited exchange rate movements, and strong incentives for capital inflows hamper systemic liquidity management and control. - Steps to drain large amounts of structural liquidity along with moves towards a liberalized and flexible exchange market will reduce financial stability risks and afford the central bank greater levers for monetary control. - Greater use of market-oriented monetary policy instruments. - Interest rates should be the primary instrument to govern credit expansion rather than administrative limits on bank lending. - Interest rate reform needs to be accompanied by strengthened supervision and improved bank risk management and corporate governance. - Broadening financial markets and services. - Developing diversified modalities for financial intermediation would create competitive discipline on the banks, offer enterprises alternative avenues for financing, and provide households with a broader range of financing and investment possibilities. - The government must move ahead with its priority to deepen fixed income markets and develop a diversified domestic institutional investor base. - A reorientation in the role and responsibilities of government. - Banks’ large exposures to state-owned enterprises, guaranteed margins provided by interest rate regulations, limited ability and willingness to differentiate loan rates, and implicit guidance on new lending undermine development of effective credit risk management in banks. - Banks should have tools and incentives to make lending decisions based upon purely commercial goals. - Replacing the use of the commercial banking system to pursue broader policy goals. - Use direct fiscal expenditures and subsidies, direct lending by policy banks, and explicit government-sponsored credit programs for developmental credit. - Establish safeguards and policy reforms that remove distortions and curb incentives that place risks on the public sector balance sheet as contingent liabilities. - An upgrading of the financial infrastructure and legal framework. - Payments and securities settlement systems have been strengthened, but further progress is required. - Continue improvements in the coverage and quality of the Credit Reference Center and oversight of credit rating agencies. - Stronger consumer protection, including an expanded financial literacy program, together with improved insolvency proceedings are critical as new products are introduced and access is increased. - Cross border and cross currency prudential framework should be strengthened given recent growth in cross-border financial activity and RMB transactions. ### Calibrating pace and sequencing of reforms (¶9) - Given challenges and build-up of vulnerabilities, calibrating the appropriate pace and order of future reforms will be key. - International experience suggests that ad hoc or partial reforms could themselves pose a risk to financial stability; this is especially critical in China given the close association between the macroeconomic policy framework and the financial system. - Preconditions before broader acceleration of financial deepening, interest rate liberalization, and full capital account liberalization include: - Putting in place a well functioning legal, regulatory, supervisory, and crisis management framework. - Improving corporate governance in banks. - Early absorption of the current liquidity overhang in the financial system. - Greater reliance on market-oriented monetary policy instruments. - Careful planning will be critical to smoothly and safely transition to a more market-based system. ### Key recommendations (Table 1) - Improving commercialization 1. Continue to advance the process of interest rate and exchange rate reform (¶8, 11, 50, 51, 52, 68, 79), while ensuring that appropriate credit risk management practices in financial institutions are in place. (¶5, 8, 11, 50, 51, 57, 58, 79) — Priority: High — Time-Frame: MT 2. Clearly delineate the roles and functioning of policy financial institutions from commercial financial institutions. (¶6, 8, 12, 15, 55) — Priority: Medium — Time-Frame: MT 3. Transform the four Asset Management Companies (AMCs) into commercial entities and, as a first step, require them to publish periodic financial statements and management reports. (¶49) — Priority: Medium — Time-Frame: MT - Increasing efficiency of the institutional, regulatory, and supervisory framework 4. Empower the PBC and three supervisory commissions with focused mandates, operational autonomy and flexibility, increased resources and skilled personnel, and strengthen interagency coordination to meet the challenges of a rapidly evolving financial sector. (¶5, 6, 39, 53, 54) — Priority: High — Time-Frame: MT 5. Develop a framework for regulation and supervision of financial holding companies (FHCs), financial conglomerates, and informal financial firms (¶54). In the interim, acquisition of a regulated institution should be approved by the regulatory commission responsible for the underlying financial institution. (¶54) — Priority: Medium — Time-Frame: NT 6. Introduce a more forward-looking assessment of credit risk in the China Banking Regulatory Commission (CBRC) risk rating system and eliminate deviations from the capital framework for credit and market risk. (¶56) — Priority: Medium — Time-Frame: NT 7. Introduce a formal program whereby the China Securities Regulatory Commission (CSRC) conducts regular comprehensive on-site inspections of the exchanges to improve oversight. (¶60) — Priority: Medium — Time-Frame: NT 8. Introduce a risk-based capital (RBC) solvency regime for insurance firms with suitable transition period and restrict new businesses by insurance companies operating below the 100 percent solvency level. (¶61) — Priority: Medium — Time-Frame: MT 9. Develop explicit and clear regulation for facilitating the exit of insurance companies from the market via run off or portfolio transfers. (¶61) — Priority: Medium — Time-Frame: NT 10. Enact a payment system law to give full protection to payments, derivatives and securities settlement finality. (¶63) — Priority: Medium — Time-Frame: MT 11. Ensure that beneficial ownership and control information of legal persons is adequate, accurate, and readily accessible to competent authorities. (¶67) — Priority: High — Time-Frame: MT 12. Improve information sharing and coordination arrangements among the PBC and other agencies on anti-money laundering (AML) and other supervisory issues. (¶39, 53, 54, 67) — Priority: High — Time-Frame: MT - Upgrading the framework for financial stability, systemic risk monitoring, systemic liquidity, and crisis management 13. Establish a permanent committee of financial stability, with the PBC as its secretariat. (¶6, 39) — Priority: High — Time-Frame: MT 14. Upgrade data collection on financial institutions including their leverage, contingent liabilities, off-balance sheet positions, unregulated products, and cross-border and sectoral exposures. (¶40) — Priority: Medium — Time-Frame: NT 15. Build a macro prudential framework for measurement and management of systemic risks; this should include increasing the resources and capacity of the PBC and regulatory agencies to monitor financial stability and to carry out regular stress tests. (¶41) — Priority: High — Time-Frame: NT 16. Enhance the sterilization of structural liquidity through market-based instruments and manage systemic liquidity spillovers via indirect monetary policy instruments. (¶42, 51) — Priority: High — Time-Frame: NT 17. Introduce reserve averaging to facilitate liquidity management and enhance stability and efficiency. (¶43) — Priority: High — Time-Frame: NT 18. Start targeting a short-term repo rate on a pilot basis, as a trial of indirect liquidity management, and commence daily open market operations. (¶44, 45) — Priority: High — Time-Frame: NT 19. Ensure that PBC’s standing facilities operate immediately and automatically, with specified collateral requirement identical across all domestically incorporated institutions. (¶46) — Priority: Medium — Time-Frame: NT 20. Introduce a deposit insurance scheme to assist in the orderly wind-down of financial institutions and to help clarify the contingent liability. (¶7, 48) — Priority: Medium — Time-Frame: NT - Developing securities markets and redirecting savings to contractual and collective investment sectors 21. Ensure regulations are consistent and clarify regulatory responsibilities to support fixed income market development. (¶69) — Priority: Medium — Time-Frame: MT 22. Continue to improve bond issuance strategies between Ministry of Finance (MOF) and PBC to help improve the existing market-making across all maturities of the yield curve. (¶70) — Priority: High — Time-Frame: MT 23. Upgrade regulatory and operational repo market framework to increase market liquidity, enhance risk management and reinforce the money and bond market interest rate nexus. (¶68) — Priority: Medium — Time-Frame: NT 24. Ease the 40 percent of net assets limit applicable to corporation's market based debt issuance to expand their direct funding capacity. (¶72) — Priority: Medium — Time-Frame: MT 25. Upgrade links between China Central Depository Trust & Clearing Co., Ltd (CCDC) and Securities Depository and Clearing Corporation Limited (SD&C) to enhance connectivity among Interbank Bond Market (IBBM), Shanghai Stock Exchange (SSE), and Shenzhen Stock Exchange (SZSE), support further development, and contribute to efficiency in all three markets. (¶72) — Priority: Medium — Time-Frame: MT 26. Consolidate the multi-pillar pension system, with emphasis on the funded component. (¶75) — Priority: Medium — Time-Frame: MT - Improving alternative financing channels and access 27. Review existing government programs to determine their effectiveness in promoting rural and micro and small enterprise (MSE) finance and formulate an integrated and coherent rural and MSE finance strategy. (¶76) — Priority: High — Time-Frame: MT 28. Further reform the rural credit cooperatives to enhance their efficiency and sustainability as commercial providers of financial products and services. (¶76) — Priority: Medium — Time-Frame: MT *Source: IMF staff report section titled "6. Institutional reforms will help bring the system more in line with international" from the provided content unit.* ### 29. Complete the reform of the Postal Savings Bank (PSB) by optimizing equity ownership, overhauling ### 29. Complete the reform of the Postal Savings Bank (PSB) by optimizing equity ownership, overhauling the bank to become a corporation, and building effective corporate governance. (¶76) ### Recommendation summary - Complete the reform of the Postal Savings Bank (PSB) by: - Optimizing equity ownership. - Overhauling the bank to become a corporation. - Building effective corporate governance. - Time horizon: Medium MT ### Macro-financial context relevant to PSB reform - Rapid credit expansion and balance-sheet vulnerabilities: - Very rapid credit growth—up by 33 percent in 2009—raises the risk of credit being directed to less productive investments. - Stress tests show that the impact of concurrent major credit shocks (a severe scenario includes a slowdown in annual GDP growth to 4 percent) could be sizable, with 25 percent of banking system assets dropping below the 8 percent minimum CAR. - Increasing shift of risks off-balance sheet—for example via wealth management products (WMPs)—augment credit risk exposures. - NPL accumulation would impair banks' profitability and capital positions; a sizeable decrease of loan collateral values—predominantly real estate—would amplify potential bank losses. - Interactions with capital flows and asset markets: - Capital flows (excluding direct investment) to and from China have averaged about 1½ percent of GDP since 1998. - Current account balance and net FDI flows are 4.7percent and 1½ percent of GDP, respectively. - Rising RMB appreciation expectations have been associated with stronger speculative capital inflows; large capital inflows could lead to a rapid credit expansion. - High real estate-related bank lending exposures (20 percent of GDP) and indirect exposures via property collateral make banks vulnerable to real estate booms and busts. - Local government and real estate linkages: - Infrastructure-related lending to local governments was market estimated RMB 7.7 trillion as of end-June 2010, equivalent to 16 percent of outstanding loans and 23 percent of GDP at end-2009. - Aggregate exposures to real estate and local government financing platforms are significant at upward of RMB 20 trillion, equivalent to more than 40 percent of the total loans at end-2010. - Real estate sector related loans account for some 20 percent of the Chinese banking system’s total loans. - In the five largest banks, 30–45 percent of loans are backed by collateral, the majority of which is real estate. - Systemic and scenario risks: - A confluence of shocks could trigger severe system-wide effects; for example, a severe scenario (involving a slowdown of GDP growth to 4 percent year-on-year) implies a system-wide CAR of about 8 percent, with banks accounting for some ¼ of the total banking system assets falling below the 8 percent CAR. - Stress test results point to manageable risks in isolation (real estate, local government projects), but results should be interpreted cautiously due to data limitations and ambiguities regarding potential central government support of local governments. ### Policy implications for PSB reform and broader financial stability - Governance and institutional actions: - Transforming PSB into a corporate entity and establishing effective corporate governance would align incentives, improve risk management, and facilitate market discipline. - Optimizing equity ownership could support clearer control structures and permit regulatory oversight consistent with other commercial banks. - Risk management and supervisory needs: - Strengthen oversight of balance-sheet risks, including off-balance-sheet exposures such as WMPs. - Enhance capital and provisioning frameworks to address potential NPL accumulation and collateral value declines tied to real estate. - Improve data collection and transparency on exposures to local government financing platforms and real estate-related lending to enable more robust stress testing and supervisory action. - Complementary macroeconomic and structural reforms: - Continue progress on interest rate and exchange rate reforms, capital market development, gradual opening of the capital account, and fiscal reforms (including consideration of a broad-based property tax) to address fundamentals driving real estate price increases and credit allocation inefficiencies. - Monitor and manage capital flow volatility to mitigate transmission to credit growth and asset price inflation. *Source: IMF staff.* ### 12. Continued reliance on credit growth targets, even if supplemented by other ### 12. Continued reliance on credit growth targets, even if supplemented by other ### Credit growth targets and monetary policy transmission - Continued use of credit growth targets undermines the efficiency of credit allocation and disrupts monetary policy transmission. - Banks facing credit targets have strong incentives to: - expand market share to boost interest income; - use off-balance sheet channels to circumvent credit targets, compromising monetary control. - Corporate behavior is affected: firms tend to over-borrow, anticipating that credit will be rationed at some point. - Controlling interest rates and determining quantities of lending prevents policy makers from relying on market prices (such as short-term interest rates) to assess macroeconomic and liquidity conditions. ### Investment efficiency and capital allocation - Since 2001, it is estimated that every US$ 1 of Chinese GDP growth has required, on average, nearly US$ 5 of investment. - This investment intensity is 40 percent more than in Japan and Korea during their take-off periods. - Although the share of China’s total savings in G-20 aggregates is more than 20 percent, its GDP share is about 10 percent. - These patterns may reflect misallocation of capital to projects with low rates of return. - Footnote source: McKinsey Global Institute, 2006, “Putting China’s Capital to Work: The Value of Financial System Reform.” ### State involvement, banks, and fiscal implementation through the financial system - The state is directly and indirectly involved in the financial sector: - A large share of the banking sector is state-owned, as is much of banks’ corporate client base. - As principal shareholder, the state appoints senior management in all major banks. - In the absence of an explicit deposit insurance system and a resolution framework, the state implicitly insures all deposits. - Heavy state involvement reduces market discipline, weakens corporate governance, and is likely to create soft budget constraints. - Role of banks in fiscal policy implementation: - The 2008–09 global financial crisis response relied on a stimulus package implemented through bank credit expansion. - Local governments’ eagerness to undertake infrastructure projects, revenue-expenditure mismatches, and inability to borrow directly led to rapid use of LGFPs as indirect vehicles to obtain bank loans, often using state-owned assets such as land as collateral. - Contingent liabilities of the public sector from such activities increased considerably. ### Financial system structure and reform progress - China has made progress toward a more commercially-oriented financial system through reforms that included: - recapitalizing the banking system; - creating new capital markets; - introducing a prudential regulatory regime; - opening the financial system following accession to the World Trade Organization; - taking steps to reform interest rate and exchange rate policies. - Specific reform outcomes noted: - Reform of joint-stock banks has boosted the commercial orientation of the banking system. - Reform of rural credit cooperatives has yielded some initial results. - In the securities sector, key companies have been restructured, a resolution mechanism and investor protection scheme have been set up. - Pension sector reform has progressed, with National Social Security Fund established in 2000. *Source: _cr11321 - 12. Continued reliance on credit growth targets, even if supplemented by other* ### 17. Nonetheless, banks, particularly the largest ones, dominate financial ### _cr11321 - 17. Nonetheless, banks, particularly the largest ones, dominate financial ### Overview - Banks dominate financial intermediation in China, with the large commercial banks (LCBs) accounting for the majority of commercial bank assets. - The fixed income market has grown as an alternative funding channel but remains heavily concentrated in public sector securities. - The equity market mainly serves large enterprises; progress has been made in establishing a multilayer equity market to facilitate funding to SMEs. - Non-bank financial institutions (trust, financial leasing, finance companies) have been growing rapidly but remain small relative to banks. - A flourishing informal financial sector exists, providing funding to SMEs and small retail investors. ### Banking sector concentration and structure - Large commercial banks (LCBs) make up almost two-thirds of commercial bank assets (Figure 11: LCB 63%). - The assets of the four largest banks each exceed 25 percent of GDP. - Commercial banking system structure by assets, 2010: - LCB: 63% - JSCB (joint-stock commercial banks): 20% - City commercial banks: 11% - Rural commercial banks: 4% - Foreign: 2% ### Capital markets and fixed income - The fixed income market is expanding but remains dominated by public sector securities (Figure 12: public sector concentration). - Equity market primarily meets the needs of large enterprises; a multilayer equity market is being developed to improve SME access to equity finance. - Assets under management by the insurance sector correspond to less than 11 percent of household bank deposits. ### Non-bank and informal finance - Trust, financial leasing, and finance companies have all been growing rapidly but remain small relative to banks. - China has a flourishing informal financial sector, parts of which provide funding to SMEs and small retail investors. ### Key statistics (selected exact figures from source tables and figures) - Total Financial System, 2010: - Number of institutions: 4,421 - Total assets: 106,383 (in bln RMB) - Share of total assets: 100.0 - Share of GDP: 267.3 - Banking institutions, 2010: - Number of institutions: 3,639 - Total assets: 93,215 (in bln RMB) - Share of total assets: 87.6 - Share of GDP: 234.2 - Commercial banks, 2010: - Number of institutions: 379 - Total assets: 74,160 (in bln RMB) - Share of total assets: 69.7 - Share of GDP: 186.3 - Large commercial banks (LCBs), 2010: - Number of institutions: 5 - Total assets: 46,894 (in bln RMB) - Share of total assets: 44.1 - Share of GDP: 117.8 - Policy banks and China Development Bank, 2010: - Number of institutions: 3 - Total assets: 7,652 (in bln RMB) - Share of total assets: 7.2 - Share of GDP: 19.2 - China Postal Savings Bank, 2010: - Number of institutions: 1 - Total assets: 3,397 (in bln RMB) - Share of total assets: 3.2 - Share of GDP: 8.5 - Non-bank financial institutions, 2010: - Number of institutions: 782 - Total assets: 13,168 (in bln RMB) - Share of total assets: 12.4 - Share of GDP: 33.1 - Insurance companies, 2010: - Number of institutions: 125 - Total assets: 4,965 (in bln RMB) - Share of total assets: 4.7 - Share of GDP: 12.5 - Fund management companies, 2010: - Number of institutions: 63 - Total assets: 2,520 (in bln RMB) - Share of total assets: 2.4 - Share of GDP: 6.3 - Selected financial development indicators, 2010: - Bank deposits/GDP: 171.3 (%) - Private credit/GDP: 131.1 (%) - Bank assets/GDP: 234.2 (%) - Mortgage debt stock/GDP: 14.0 (%) - Interbank lending (RMB billion): 27,868 - Pledged repo value of transactions (RMB billion): 84,653 - Outright repo value of transactions (RMB billion): 2,940 - Central bank bill value traded (RMB billion): 17,465 - Foreign exchange reserves/short-term debt: 7.6 - Value of transactions in FX swap (USD billion), 2010: 1,296 - Number of listed companies, 2010: 2,063 - Market capitalization of listed companies/GDP, 2010: 66.7 (%) - Stock market value traded/market capitalization, 2010: 205.6 (%) - Number of licensed investment funds, 2010: 704 - Total assets under management by investment funds/GDP, 2010: 6.3 (%) - Corporate bonds outstanding/GDP, 2010: 8.6 (%) - Memo: - Nominal GDP, 2010: 39,798 (RMB billion) - Population, 2010: 1,338 (million) *Sources: PBC; CBRC; CIRC; CSRC; NBS of China; Ministry of Human Resource and Social Security; and IMF staff calculations.* ### 18. While China’s financial markets are still in a development phase, cross-market ### _cr11321 - 18. While China’s financial markets are still in a development phase, cross-market ### Cross-market integration and connectivity - Domestic markets show distinct separation (example: domestic bond market divided into exchange traded/retail and interbank/wholesale markets). - Separation between Chinese markets and international financial markets persists, in part due to widespread capital controls. - Shocks are transmitted across different domestic markets, illustrated by a positive correlation of yields. - Connectivity between markets is likely to grow fast. ### Interbank linkages and repo market - Linkages among banks are mainly transmitted through the interbank repo market. - The repo market: - Is necessary for many small banks and nonbanks to fund activities. - Enables larger banks to place surplus funds. - Is the channel through which a liquidity squeeze in one part of the banking system can and does spread to others (Section I.C). ### Bank — NBFI linkages and consolidated supervision - Inter-connections between banks and nonbank financial institutions (NBFI) have begun to grow. - Laws and rules permit more complex structures; supervisors are challenged to meet key elements of the principle of consolidated supervision. - Interlinkages are increasing with the rise of FHCs; FHCs expanded considerably since the pilot program on integrated financial services under the 11th Five-Year Plan (2006–10). - Industrial-financial integrated groups have developed rapidly. - Regulatory policies applying to shadow banking and their interconnections need to be clarified and made transparent. - Recommendation: A more structured oversight, regulatory, and supervisory approach is needed to prevent and manage systemic risks via cross-market products and institutional structures. ### Financial linkages with the rest of the world - Financial linkages between China and the rest of the world have historically been limited, but are growing rapidly. - Growth in RMB deposits in Hong Kong SAR has been rapid, though the amount is insignificant relative to RMB onshore deposits. - Cross-border portfolio capital investment is subject to Qualified Domestic Institutional Investor (QDII) and Qualified Foreign Institutional Investor (QFII) programs. - Aggregate quota for the 88 QDII participants was US$68.4 billion at end-2010, which accounted for about 0.6 percent of domestic deposits. - Under the QFII, 106 foreign institutional investors shared the aggregate quota of US$ 19.7 billion at end-2010, which accounted for about 0.3 percent of domestic bond and equity market capitalization. - Market capitalization: A shares dominate compared with B shares and H shares; financial transmission between A share and H share is still limited. - Banking system balance sheet positions vis-à-vis banks located in other countries increased by 80 percent in the last ten years. ### Banking system performance and balance-sheet developments - Banking sector balance sheet expanded rapidly, partly due to investment-driven stimulus policies. - In 2009, total outstanding RMB loans expanded by 33 percent; credit growth slowed in 2010. - Rapid growth in foreign currency loans likely linked to expectation of RMB appreciation. - Bank exposure increased to infrastructure construction, driven largely by expansion of LGFPs; share of manufacturing-related loans declined. - Upswing in real estate market increased demand for mortgage loans. - Banks’ off-balance sheet exposures expanded rapidly, mostly due to banks promoting wealth-management products as the government began to limit the pace of new lending. ### Funding, maturities, and liquidity - Banks’ funding appears stable due to sizable and low-cost domestic deposit base. - Incremental growth in domestic corporate deposits in 2009 was significant. - Maturity mismatches have risen: increasing reliance on medium- and long-term loans for investment project financing lengthened banks’ average asset maturities, particularly for large commercial banks. ### Profitability and concentration of earnings - Bank profits remain high (Table 6). - Credit expansion supported bank profitability despite partial contraction of interest rate margins in 2009. - Limited earning diversification and strong reliance on interest income make profits prone to changes in regulated interest rate margins and limits on lending volumes. ### Asset quality and NPLs - Nonperforming loan (NPL) ratio trended down to 1.1 percent at end-2010. - Drivers of decline: rapid expansion of credit, decline in NPL levels, and a RMB 816 billion NPL carve-out from one major bank in 2008. - Longer-horizon: large scale NPL carve-outs associated with 1999–2001 and 2004–05 state-owned bank restructurings have kept overall NPL ratios low. - Low reported NPLs also aided by strong economic growth and some improvements in bank risk management. - Risks: - Rapid credit growth could result in deterioration of asset quality in coming years. - About 95 percent of bank loans re-price in under one year; this could lead to higher borrowing costs and loan-servicing problems for weak borrowers if the PBC tightens policy. ### Exchange rate and foreign exposure - Exchange rate exposure is large at the central bank due to large current account surpluses and exchange rate management, resulting in accumulation of sizeable foreign exchange reserves and a large net open foreign currency position for the central bank. - Commercial banks, in aggregate, are also long in foreign assets, though on a much smaller scale. ### Near-term liquidity stress assessment - Near-term risks of liquidity stress appear limited; basic liquidity indicators appear healthy. - Larger banks typically recycle liquidity through interbank markets to smaller banks and other financial institutions. - Dominant share of secured interbank lending, high quality collateral, and abundant liquidity limit near-term market stress prospects. - Interbank markets risks: - Persistent liquidity imbalances among banks. - Small banks and non-banks particularly reliant on wholesale funding. - A localized liquidity squeeze could spread from institutions unable to realize face value of pledged security to a broader liquidity shock. - PBC standing facilities should act as liquidity backstop when market liquidity is unavailable. ### Stress-testing: approaches, coverage, and caveats - A stress-testing exercise was jointly conducted by the FSAP team and PBC/CBRC team. - Tests: - Three complementary approaches: FSAP team; PBC/CBRC team; and banks following guidelines. - Sample: 17 major banks (5 large commercial banks and 12 joint stock commercial banks), accounting for 83 percent of commercial banking system (66 percent of banking system) assets at end-2010. - Contagion risk analysis on 5 large commercial banks, accounting for 63 percent of commercial banking system (50 percent of banking system) assets at end-2010. - Severity of shocks (selected): - Aggregate credit: 100–400 percent increase of NPLs; threshold approach (10, 25, 50 percent of banks below minimum CAR, 2, 4, 6 percent GDP capital injection). - Concentration credit risk: sectoral NPL ratio increases to 5, 10, 15 percent or NPLs increase by 100, 200, 400 percent; sectors include largest borrowers default, real-estate related risk, exposures to LGFPs, “overcapacity industries”, export-oriented sector, and fast loan-growth sectors/regions. - Market risk: Interest rates: 54, 81, 108bps parallel shift up and 18, 27, 36bps fall in benchmark loan rate in banking portfolio; 50, 100, 150bps shift up in trading portfolio; exchange rate: 5, 10, and 15 percent appreciation. - Macro scenarios (three): Mild (GDP 7 percent, M2 14.7 percent, real estate price -7 percent, interest rate 35bps change, REER 117.5); Medium (GDP 5 percent, M2 12.4 percent, real estate price -16.2 percent, interest rate 66bps, REER 119.6); Severe (GDP 4 percent, M2 10.2 percent, real estate price -25.9 percent, interest rate 95bps, REER 123.0). - Liquidity stress tests included 7-day and 30-day scenarios with specified bond price drops, deposit draw-downs, interbank declines, and required reserve ratio increases. - Data used: - FSAP team: publicly available data. - Authorities: supervisory and audited data. - Banks: data from internal risk management systems. - Risk horizon: one quarter, 1 or 2 years for solvency; 1 year for liquidity; 7 days and 30 days for sensitivity/liquidity tests. - Metrics / hurdle rates: minimum capital adequacy ratio 8 percent; liquidity ratio 25 percent; liquidity gap zero. - Methodology highlights: - Balance sheet approach (LGD=50 percent), zero credit growth, zero profits, zero provisions for solvency tests. - Tests combined funding liquidity with haircut on liquid assets for liquidity stress. - Caveats and limitations: - Data constraints prevented full coverage of differentiated risks (e.g., sectoral exposures, types of entities banks lend to). - Data constraints prevented explicit analysis of off-balance sheet positions and operations, except for those relating to direct exchange rate risk. - Macro-scenario test calibration relied on relatively short time series with structural breaks; limited solid econometric analysis. - Full comparison and cross-checks limited where publicly available information is imprecise, insufficient, or nonexistent (e.g., exposures to LGFPs and contagion risk) due to constraints on FSAP team’s access to confidential data. - Stress tests assumed the status quo; reforms could amplify existing risks or introduce new uncertainties, though properly implemented reforms and stronger risk management and corporate governance would help mitigate adverse financial consequences. *IMF — FSAP team and PBC/CBRC findings as provided in the source content.* ### 30. Keeping these caveats in mind, the stress testing results suggest that major ### 30. Keeping these caveats in mind, the stress testing results suggest that major ### Stress-testing results — summary findings - Major banks can absorb moderate potential losses, reflecting improved profitability and balance sheets that allowed banks to build up buffers. - Single-factor sensitivity calculations indicate the system would be able to withstand a range of sector-specific shocks occurring in isolation (real estate, LGFPs, export sector, other sectors). - Macroeconomic scenario analysis suggests the system could be severely impacted if several major shocks materialized concurrently. ### Credit risks — key scenarios and metrics - Aggregate credit-risk sensitivity: - If NPL levels increase by 400 percent in two years (i.e., post-shock NPL ratio reaching about 6 percent), calculations based on end-2010 data suggest no banks would have capital adequacy ratio (CAR) below the regulatory minimum (i.e., 8 percent). - Improvement in resilience from 2008 to 2010 reflects decline in NPL levels and stronger bank capital positions in 2010. - Reverse stress test ("threshold approach"): - Based on end-2009 data, for half of the banking system (in terms of total assets) to breach the regulatory minimum CAR, the ratio of gross NPLs to total loans would have to increase to almost 11 percent. - Assuming the banking system requires a capital injection of 6 percent of GDP, the NPL ratio would need to reach 24.8 percent (compared with 1.6 percent at end-2009). - Real estate sector shocks (end-2010 data): - Test 1: If 15 percent of developer and land reserve loans, and 7½ percent of mortgages become nonperforming, the aggregate CAR falls by about 1 percentage point but no banks fall below the regulatory minimum. - Test 2 (expanded, including insolvencies in six vertically integrated industries): A 30 percent decline in property prices, higher interest rates, and resulting impact on related industries lowers the aggregate CAR by less than ¼ percentage point. - Note on industries affected: (i) steel-making; (ii) cement, lime and plaster manufacturing; (iii) brick, stone and other building materials manufacturing; (iv) building construction; (v) furniture making; and (vi) household electrical apparatus manufacturing. - LGFP exposures: - Bottom-up stress test: losses equivalent to15 percent of the banks’ LGFP loans would result in a fall in the CAR to below the regulatory minimum for only two small joint-stock commercial banks (JSCBs). - Figure note: Key assumptions:15 %of LGFP loans default. Loss given default is 50%. ### Market risks — interest rate and exchange rate - Direct interest rate risk: - Shocks to loan and deposit rates evaluated via implied change in CAR indicate that even under severe combinations of shocks, CARs for all 17 banks declined slightly. - Trading-account yield-curve parallel-shift tests suggest very small impacts. - Examples of tested shocks referenced in figures: 54 bps, 81 bps, 108 bps parallel upward shift of one-year benchmark rates; 18 bps, 27 bps, 36 bps fall in benchmark loan rates; 50 bps, 100 bps, 150 bps up in yield curve (trading accounts). - Direct exchange rate risk: - Top-down and bottom-up stress tests suggest that under the severe stress scenario, the CAR for the system as a whole falls by less than 0.1 percentage point and the CARs for all 17 banks would still exceed the minimum requirement. - Note: shocks refer to appreciation of RMB against USD while exchange rates of USD against other currencies are assumed stable. ### Liquidity risk — two-round results - Round 1 (without assuming banks can sell bonds): impact could be substantial; for instance, six banks have a negative cash flow gap at the seven day horizon. - Round 2 (assuming banks can sell bonds at a discount): results more benign; all banks except one (at the 30 day horizon) have positive cash flow gaps. ### Macro-scenario tests — systemic outcomes - Severe macro scenario example: - Slowdown in GDP growth to 4 percent year-on-year implies a system-wide CAR of about 8 percent. - Under that scenario, banks accounting for some ¼ of the total assets of the 17 banks covered by the stress tests would fall below the 8 percent minimum CAR. - Historical relationship noted: in a major slowdown of GDP, NPL ratios tend to increase by at least one percentage point for each one percentage point decrease in the rate of output growth. --- ### Managing risks: upgrading the crisis toolkit — recommendations A. Financial Stability Framework - Establish a permanent Financial Stability Committee, with the PBC as its secretariat. - Committee should be chaired by a very senior official and have clear mandate and authority to identify and monitor systemic risks and make recommendations. - Members to include the PBC, the three supervisory commissions, the MOF, and other relevant ministries or agencies. - PBC and each commission to be empowered to provide and receive necessary information, including confidential institution-specific supervisory information. - Enhance data collection on: leverage, maturity mismatches, large exposures, contingent liabilities, off-balance sheet positions, unregulated products, and cross-border and sectoral (housing, local government) exposures; improve data on financial institutions’ non-financial counterparts. - Develop a forward-looking early warning system incorporating macro and financial indicators, financial soundness indicators, systemic risk indicators, and balance sheet information. - Build a comprehensive macro-prudential framework: - Clarify how existing tools (capital surcharges for SIFIs, dynamic provisioning, variable capital requirements, reserve requirements, loan-to-value and loan-to-deposit requirements) may vary as conditions change. - Increase PBC’s and regulators’ resources and capacity to monitor financial stability and carry out regular stress tests. B. Systemic Liquidity Management - PBC should begin to absorb the significant liquidity overhang via more aggressive use of open market operations so it no longer relies on administrative limits on bank lending. - Consider reserve averaging: - Across the banking system excess reserves have averaged around 2–3 percent of deposits; reserve averaging could reduce this additional tax on intermediation and ease liquidity management, particularly for smaller institutions. - Target a short-term repo rate and raise the rate paid on excess reserves to narrow the corridor implied by the difference with the discount rate. - Lengthen the maturity of open market operations through greater use of longer-term repos to supplement structural liquidity withdrawal. - Enhance PBC capacity for daily liquidity operations and higher-frequency liquidity forecasting; requires increased information flow among the MOF, SAFE, and the PBC. - Make access to PBC standing facilities more automatic and transparent; reduce discretion, standardize collateral requirements across domestically incorporated institutions, and address moral hazard through pricing. C. Crisis Management, Resolution, and Deposit Insurance - Expand the resolution toolkit beyond the current “open resolution” approach and implicit blanket guarantee for depositors; create a comprehensive safety net with effective institutional arrangements granting operational autonomy and legal authority to intervene promptly. - Accelerate introduction of an explicit deposit insurance scheme; design should incorporate International Association of Deposit Insurers principles and account for the large number of depository institutions and complex structures. - Review and strengthen insolvency laws for financial institutions across all sectors. - Create a designated separate entity with capacity and resources to manage intervened institutions and resolve them via recapitalization, sale, or liquidation; fund the entity by industry to reduce reliance on government support. - Clarify a strategy for existing four public AMCs: require periodic financial statements and management reports and consider conversion into commercial entities over time. D. Macro-Financial Framework - Recognize linkages between macroeconomic policy framework and financial sector stability; allocative inefficiencies and structural vulnerabilities remain despite prudential stability indicators. - PBC should rely more on indirect monetary policy instruments; market-based interest rates should be the primary instrument for managing credit expansion instead of credit growth targets. - Move toward a liberalized and flexible exchange market to reduce PBC liquidity-management challenges and the incentives for one-way capital inflow bets. - Strengthening market and systemic risk monitoring, and cross-border regulation and supervision would be required. *Source: IMF Financial Sector Assessment content unit* ### 53. An assessment of the regulatory and supervisory framework (Table 8) reveals a ### An assessment of the regulatory and supervisory framework (Table 8) ### Overview and main findings - The assessment (Table 8) reveals a high degree of adherence to international standards, but challenges remain. - The central challenge is to increase the efficiency, quality, and responsiveness of the regulatory and supervisory framework. - Key recurring themes across assessments: - Improve operational autonomy of the regulators. - Upgrade skills and risk monitoring capabilities. - Increase resources. - Strengthen interagency coordination. - Note: "This section should be read along with Annexes I to V containing the Reports on the Observance of Financial Sector Standards and Codes." (footnote 6) ### Institutional coordination and scope of supervision - China’s sector-based regulatory and supervisory framework demands a high degree of coordination to limit supervisory “blind spots.” - Need to develop a framework for regulation and supervision, by a single entity such as the PBC, of FHCs including industrial conglomerates investing in financial firms. - The PBC has been authorized by the SC to draft administrative rules working with the three other regulatory commissions. - Interim rule: acquisition of a regulated institution should be approved by the relevant regulatory commission responsible for the underlying financial institution. - Regulatory policies applying to the shadow banking system need to be clarified (Table 9). - Interagency coordination arrangements among the PBC and three commissions, backed by memoranda of understanding for information sharing, need to be strengthened along with the removal of any legal restrictions on such sharing. ### Financial system architecture (Table 8) — institutional roles (high-level) - The NPC promulgates all financial sector laws and the State Council executes financial regulation and issues mandatory policy directives to all financial regulatory and supervisory agencies. - The PBC has three primary functions: formulating monetary policy, maintaining financial stability, and providing financial services. - The MOF has a triple role as tax administrator, treasurer, and owner of several commercial banks. - CBRC, CSRC, CIRC, and MHRSS are mostly responsible for regulating and conducting supervision and oversight of their respective financial sectors. - Additional institutional notes: - SAFE is responsible for foreign exchange operations of securities and insurance companies. - China Development Bank and the Postal Savings Bank are in the process of reforming into commercial banks. - Central Huijin exercises rights and obligations as an investor in major state-owned financial enterprises on behalf of the State. - The National Social Security Fund has a dual role as an institutional investor and a stakeholder in some of the largest commercial banks. ### Banking regulation and supervision (CBRC) - The CBRC has a clear safety and soundness mandate, but its operational autonomy is often undermined by the use of the commercial banking system for development purposes. - Progress has been made in improving the framework for supervising commercial banks and emphasizing prudential goals. - Facilitators for CBRC effectiveness: - More stable resourcing arrangements. - Greater flexibility to build up a skilled and professional staff. - Continued commercialization of the banks. - Legal and regulatory gaps: - No legal requirement to be informed of changes in indirect control and to identify ultimately beneficial owners and clients of banks. - Complex structures should be prohibited where consolidated supervision may not be possible. - Rules for identifying related parties and rules underpinning bank resolution need strengthening. - Prudential regime for asset classification and provisioning works well, but there are limitations in actual bank practices. - Minor deviations from the Basel I framework may potentially overstate bank capital in the future (footnote 7: "These deviations are currently not material and are offset by the higher minimum requirement."). - Risk management: - Large banks built risk systems around simple yet conservative regulatory metrics; smaller banks need strengthening. - Major banks are developing more granular two-dimensional classification systems, but their use in risk differentiation and loan pricing is currently limited. - Strong dependence on collateral and lack of forward-looking valuation practices need addressing to mitigate credit risk and pro-cyclicality. - Liquidity and market risk management framework works in the current environment but may be inadequate as market conditions change. - Implementing comprehensive, enterprise-wide risk management should be a top priority for major banks. - Country and transfer risk management guidance has only recently been consolidated; implementation must be strengthened given increasing international exposure. - Operational risk management processes need strengthening in small and medium-sized banks. - Macro- and institutional constraints: - Effective credit risk management is discouraged by the implicit backstop of the state for credit exposures. - Banks’ credit risk strategies are dominated by loan growth guidelines. - Bank risk management and supervisory assessments focus more on NPL ratios than on forward-looking credit risk assessments. ### Shadow banking (Table 9 and associated text) - Table 9 highlights a variety of shadow banking and informal financial sector entities with differing registration and supervisory arrangements. Examples and exact figures: - Private equity: Estimated 3,500 PE funds have been established with assets of around RMB900 billion as of mid-2010 of which around 70 per cent is funded from overseas. - Wealth management products: Estimated 7,049 Wealth Management products were outstanding at the end of 2010, totaling RMB 1.7 trillion, and 124 banking institutions were involved in the practice. - Underground intermediation: No regulators, although the PBC implements survey or investigation occasionally. - Pawn shops, credit guarantee companies, micro-finance companies: Registered by local governments; investigated by the PBC, CBRC, and the Ministry of Public Security. The Financing Guarantee Regulatory Inter-ministerial Joint committee led by the CBRC is responsible for making regulation and policy of credit guarantee institutions. - Notes on scope and definitions: - According to the FSB definition, shadow banks are those entities that engage in credit creation and maturity/liquidity transformation outside the banking system and that have an element of leverage, and that includes MMMFs, finance companies, ABCP vehicles, SIVs etc. Due to limited data, the table does not include these entities. - The table includes those identified by the authorities (informal financial sector and private equity) and those taken as shadow banks by the FSAP team (trust companies and wealth management products). ### Securities intermediaries and market regulation (CSRC) - The CSRC has taken an active and strategic approach to regulate securities markets, but the legal and regulatory system needs improvement. - Operational autonomy is limited due to the state’s role in staff appointments and influence over CSRC’s operating structure. - CSRC needs greater budgetary flexibility to acquire qualified experts in a rapidly growing market environment. - Accounting and auditing profession has improved markedly in auditing listed companies but needs further development. - The newly introduced risk-based net capital rule should be monitored to ensure it captures all risks. - While there are adequate provisions for dealing with failed intermediaries, the threshold for action should be lowered to allow early intervention. - Supervisory recommendations: - Introduce a formal program of regular comprehensive on-site inspections of the exchanges. - Place stronger emphasis on illegal investment activities and monitoring of hedge funds and private equity funds. - More careful monitoring of implementation of “know-your-client” rules to ensure securities and futures companies maintain comprehensive records (customers’ identity, transaction records, and account data) so investors can make more informed decisions. ### Insurance regulation and supervision (CIRC) - The CIRC has a comprehensive supervisory framework, but solvency regimes need strengthening. - The minimum solvency margin should be risk-based. - Continued issuance of new business by companies operating below the 100 percent solvency level is undesirable. - Explicit and clear regulation is needed to facilitate exit of insurance companies from the market via policy liability run off or portfolio transfers. - Off-site monitoring could be strengthened through reinstatement of the early warning ratios previously required in insurer returns. - The developmental mandate for the CIRC: - Should focus on its broad public good nature as a regulator to ensure safe practices. - Current prescriptive, rules-based system and close monthly monitoring of insurance company activities place a strong burden on staffing and should be reconsidered. - As the market and the newly introduced risk-based supervisory regime mature, the CIRC should move away from direct involvement in insurers’ product, distribution, and investment strategies. - CIRC’s staffing levels need reinforcement with suitably skilled personnel in key operational areas. ### Reliance on collateral in bank lending (Figure 31 data) - Components of lending — types of collateral (proportion in total secured lending): - Loans guaranteed by person and third party: 35% - Loans secured exclusively by land use rights or buildings: 20% - Credit loans unsecured: 17% - Loans secured exclusively by pledge movable assets: 8% - Loans secured both by collaterals and third party guarantee: 6% - Loans secured exclusively by movable assets: 4% - Loans secured by both immovable and movable assets: 2% - Types of collateral (proportion of total secured lending): - Real property: 65.7% - Financial instruments: 8.6% - Machinery: 7.3% - Right to payment: 4.4% - Investment property: 3.4% - Vehicles: 2.4% - Accounts receivable: 1.8% - Tax refund to exporters: 1.8% - Membership and partnership interests in business entities and cooperative shares: 1.6% - Agricultural products: 0.3% - Source cited in figure: IFC, 2007, “Reforming Collateral Laws and Registries: International Best Practices and the Case of China.” ### Payment, securities settlement systems, and legal framework - Assessments of the High Value Payment System and securities and derivatives settlement systems suggest broad compliance with international standards but identify room for improvement. - The PBC has carried out a comprehensive reform of the China National Payments System. - Recommendations for the PBC and authorities: - Ensure the legal framework gives full protection to payments, derivatives, and securities settlement finality. - PBC should clarify its policy stance in payment system oversight and determine the scope, major policies, and instruments of the function. - Clarify criteria for determining the systemic importance of a system. - Strengthen institutional arrangements and cooperation in the payment system arena. - Adopt a more proactive oversight by the PBC over the China Foreign Exchange Trade System. - Legal and regulatory structure: - A “stock-take” of the gaps, overlaps, and clarity in the body of laws governing the financial sector is necessary (partial overview in Table 10). - China would benefit from gradually applying a more principle-based approach in formulation and implementation of laws to deal with increasingly complex and new issues. ### Consumer protection, creditors’ rights, and insolvency - Consumer protection: - Legal framework for consumer protection needs to be clearly enunciated, advocated, and implemented. - Strengthening needed in courts’ capacity to enforce contracts, empowering consumer organizations, enhancing personal data and privacy protection, and requiring market practices and codes of conduct. - Creditors’ rights and insolvency: - Framework for creditors’ rights should be reviewed to provide efficient and effective exit mechanisms. - Detailed laws concerning insolvency of financial institutions have not been developed for some sectors (e.g., insurance sector). - Measures needed for continued training of judges in principles of insolvency law as well as specifics of the Enterprise Insolvency Law and other relevant judicial interpretations. ### Market integrity and AML/CFT - The June 2007 FATF mutual evaluation report indicated China made significant progress in implementing its AML/CFT system but highlighted important shortcomings (footnote 8). - Strengthening since 2007 includes legislative changes bolstering preventive measures, notably in customer due diligence and suspicious transaction reporting. - Two significant shortcomings remain: - Chinese law and practice provide limited ability for authorities or financial institutions to have access to the identity of the beneficial owners of legal persons. - Preventive measures have not been extended to the majority of the non-financial businesses and professions designated by the FATF Recommendations. - Other deficiencies: - Criminalization of self-laundering. - Freezing of terrorist assets. - Need to improve information sharing and coordination arrangements among the PBC and other agencies on AML. ### Broadening financial markets and services — fixed income markets - Incentives for banks to use fixed income instruments to manage balance sheets have been held back by partial interest rate liberalization. - Absence of market-based funding and dominance of lending activities act as disincentives for banks to become active in asset-liability management to hedge mismatches. - Guaranteed interest margins reduce banks’ incentives to engage in fee-generating businesses in the capital market. - The regulatory and operational repo market framework needs upgrading to: - Increase market liquidity. - Enhance risk management. - Reinforce the money and bond market nexus. *Source: IMF staff assessment as presented in the cited chapter/section (Tables 8–10, Figures, and accompanying text).* ### 69. Steps should be taken to ensure regulations of fixed income markets and ### _cr11321 - 69. Steps should be taken to ensure regulations of fixed income markets and ### Fixed income markets and market structure - Steps recommended to ensure regulations of fixed income markets and products are consistent and clearly communicated to the market. - Clarify respective roles of three agencies: PBC, National Development and Reform Commission (NDRC), and CSRC, particularly in the corporate bond market. - Apply equivalent regulations to similar types of participants even when coming under different regulators. - Possible option: delineate a division between wholesale and retail markets and divide regulatory responsibilities between the PBC and CSRC, respectively. - Need for improved coordination between the MOF and PBC to strengthen debt issuance strategy and benchmark-building across all maturities of the yield curve. - Current allocation of risk-free fixed income issuance (2009 context): - MOF’s treasury securities share the risk-free fixed income markets with the PBC bills in the short-to-medium terms and with the more liquid policy bank bonds in the medium-to-long term. - Recommended operational actions for PBC to limit impact of liquidity management on MOF yields: - PBC should seek to limit the issuance of its paper to the short end of the yield curve. - Longer term liquidity withdrawal could be undertaken by rolling over these securities, or by PBC undertaking longer-term repo operations. ### Sub-national (provincial) debt market development - Development of proposed sub-national debt market where local governments can issue debt is welcomed but carries risks without proper frameworks. - Preconditions needed to avoid rapid build-up of contingent liabilities: - Proper medium-term fiscal framework. - Debt sustainability analysis (DSA). - Medium-term debt management strategy (MTDS). - Data and transparency requirements: - Timely and adequate data on projects for which bonds are issued to help investors assess risks. - Role of rating agencies must be properly defined to ensure consistent bond rating methodology. ### Corporate bond market recommendations - Develop a segment that accommodates lower, yet credible credit rating standards to allow enterprises excluded from securities markets to access corporate debt markets. - Easing the legal limit of 40 percent of net assets on bond issuance to enable more extensive use of direct funding to all corporations. - Upgrade links between CCDC and SD&C to enhance connectivity between IBBM, SSE, and SZSE to support further development and efficiency across markets. ### Equity markets - Further development hinges on addressing legacy issues and better servicing needs of SMEs. - Address residual legacy constraints and anomalies relating to nontradable, "A" and "B" shares and expand current free float of shares in public companies. - Build a smooth conduit between private and public offer segments to make sustainable funding options available to SMEs and increase private companies on exchanges. - Growth Enterprise Board (launched in 2009) expected to provide exit channels to private financing. ### Insurance sector - Need to achieve a better trade-off between scale and competition; most insurers licensed in the past decade continue to lose money (reference: Table 11). - Recommendations: - Introduce more comprehensive risk-based capital requirements and require shareholders to achieve these over a suitable period. - Strengthen actuarial oversight of non-life claims provisioning. - Clarify voluntary wind up and exit rules and processes. - Address priority ranking in wind up where staff salaries and benefits and secured borrowers rank ahead of life policyholders (contrary to international best practice). - Enable insurers to generate more stable but higher returns to equity. - Table 11: Insurance—Operating Performance by Size, 2009 (In Percent) - Life — Op. Return on Assets / Combined Ratio / ROE - Top 10: 6.3 / 18.4 - Next 10: -1.1 / -11.4 - Remainder: -2.6 / -11.4 - Multi Line Non Life — Op. Return on Assets / Combined Ratio / ROE - Top 10: 101.7 / 11.4 - Next 10: 117.7 / -5.9 - Remainder: 122.0 / -5.3 - Source: Insurance Yearbook 2010. ### Pension sector - Emphasis should be on the funded component; current first pillar pension reserves invested in inefficient portfolio. - Capital protection—enterprise annuity system’s most popular investment strategy—will not generate sufficient returns for reasonable pensions in the future. - Recommended reallocation: - Longer-term horizon strategies require greater allocations in equity and longer-term bonds than currently in place. - Investment regulation should discourage short-term evaluation of performance and focus on long-term actuarial objectives. - Option to expand personal defined-contribution pension plans given China’s strong culture of saving, by designing attractive personal income tax incentives or matching fund contributions for low income individuals. ### Access to finance (rural and MSE finance) - Current approach in promoting rural and MSE finance may need a paradigm shift; evaluate existing government programs for effectiveness and formulate an integrated and coherent rural and MSE finance strategy. - Steps to broaden access to finance: - Continue reforming rural credit cooperatives to enhance efficiency and sustainability as commercial providers. - Complete reform of the Postal Savings Bank by optimizing equity ownership, overhauling the bank to become a corporation, and building effective corporate governance. ### Sequencing financial reforms - Further financial reforms crucial for sustaining China’s growth; must be carefully crafted to limit risks to financial stability. - Broad principles and preconditions: - Put in place a well functioning legal, regulatory, supervisory, and crisis management framework with adequate technical capacity. - Early absorption of current liquidity overhang to prevent unintentional loosening of monetary and credit conditions. - Introduce reserve averaging and regular open market operations early. - Increase reliance on indirect monetary instruments and more flexible exchange rate to expand macroeconomic control. - Stated pathway (stages depicted in Figure 33): - Absorb liquidity - Liberalize interest rates - Commercial orientation of financial institutions - Accelerate the deepening of financial markets - Strengthen supervision, regulation, and crisis management frameworks - Liberalize capital account - Greater exchange rate flexibility - Policy guidance: - Reorient government role to reduce incidence of direct and contingent risks on its balance sheet and remove moral hazard. - Gradual liberalization of deposit and loan rates alongside stronger supervision. - As banking becomes more commercial, broader financial deepening could proceed with less risk of disorderly disintermediation. - With market-set interest rates and monetary control via short-term policy rates, move more toward full liberalization of the capital account. ### Stress testing—exercise design and key results - Exercise was collaborative between FSAP stress testing team and PBC/CBRC stress testing team to capture Chinese economy and financial system, build on existing work, and establish an operational framework for authorities. - Coverage: - Tests covered 5 LCBs and 12 JSCBs — 17 major banks accounting for about 66 percent of China’s banking sector assets and 83 percent of China’s commercial banking sector assets as of end-2010. - Tests used end-2009 audited or supervisory financial positions; top-down aggregate credit risk and real estate risk analysis also carried out for end-2008 and end-2010 positions. - Non-banking financial institutions were not covered. - Three-pillar methodology (Figure 34): - Pillar I: PBC/CBRC top-down calculations using supervisory data. - Pillar II: Individual banks bottom-up calculations using audited/management data. - Pillar III: IMF staff top-down calculations using publicly available data. - Common assumptions and shocks used across pillars. - Scope of analyses: - Sensitivity analyses and scenario calculations covering aggregate credit risk, concentration of credit risk, direct exchange rate and interest rate risks, liquidity risks, contagion via documented interbank market, and joint effects of macroeconomic shocks. - Sensitivity analysis covered all positions sensitive to risk factor changes, including on- and off-balance sheet positions where possible. - Credit risk workstreams: - Aggregate shock to asset quality and separate shocks examining: - (i) largest individual exposures; - (ii) real estate sector exposures; - (iii) exposures to LGFPs; - (iv) exposures to overcapacity industries; - (v) exposures to export sectors; - (vi) exposures to sectors and regions with most rapid loan growth. - Equity market shock not conducted because banks are prohibited from directly investing in equity markets and indirect exposure infeasible to estimate. - Macroeconomic scenario assumptions (Table 12) — Changes in Percent, unless Indicated Otherwise (note: "These are not forecasts, but assumptions about potential adverse developments in the future.") - Assumed annual real GDP growth rates under scenarios: 7 percent (Mild), 5 percent (Medium), 4 percent (Severe). - Table 12 values: - GDP: 7 / 5 / 4 - M2: 14.7 / 12.4 / 10.2 - Real estate price: -7.0 / -16.2 / -25.9 - Change in benchmark interest rates for lending and deposits in RMB (basis points): 35 / 66 / 95 - Real effective exchange rate index: 117.5 / 119.6 / 123.0 - Scenarios calibrated with inputs from a panel of leading experts on Chinese economy; assumptions derived from averages of experts’ inputs, excluding two outliers. - Implementation approaches: - Bottom-up: banks used econometric models and expert-based approaches depending on bank capacity. - Top-down (PBC/CBRC): econometric equation estimated on recent China data. - Top-down (FSAP): included cross-checks based on international experience. ### Stress testing recommendations (Table 13) - Conduct regular macro-prudential stress tests with participation of the major banks. - PBC and CBRC to work further with banks to improve modeling capacity, particularly modeling impacts of macro-economic scenarios. - Harmonize banks’ approaches to stress testing, especially for macro-scenario tests. - Continue work to integrate credit risk exercises with calculations for market risks, liquidity risk and contagion risk. - Extend stress tests beyond the 17 banks and include more off-balance sheet exposures. - Improve quality of underlying data on stress testing, in particular on PDs and LGDs. - Strengthen capacity for data collection. - Incorporate more granular data on banks’ loan portfolios by economic sector, types of counterparty (e.g., SOEs and SMEs), and specific sectors/regions where banks concentrate operations. - Priority sectors for improved data and testing: - Real estate — improve data reporting systems to enable stress tests with differentiated shock sizes in different parts of the country. - Local government exposures. - Exposures to export-oriented counterparts — start collecting data. - Collect more comprehensive data on bilateral interbank exposures to carry out improved contagion stress tests. - Start collecting data on banks’ non-financial counterparts (firms, households). *Source: _cr11321 - 69. Steps should be taken to ensure regulations of fixed income markets and products are consistent, and clearly communicated to the market.* ### 89. Regulation and supervision of China’s banking system has made impressive ### _cr11321 - 89. Regulation and supervision of China’s banking system has made impressive ### Progress in regulation and supervision - Regulation and supervision "has made impressive progress." - "Significant improvements in risk measurement and risk management have occurred." - Regulatory system demands high-quality capital and liquidity, "often through simple and basic regulatory requirements." - Need for rapid evolution as "further opening up and innovation occurs, and China’s banks expand" because "complexity and risks will increase." - CBRC "widely-respected" and "has demonstrated its willingness to act in pursuit of its safety and soundness mandate." - Urgent need: plan to "enhance its experience and expertise, ensure progress to date is sustainable, and needs continued support of government in that endeavor." ### Assessment scope and methodology - Assessment period: undertaken "between June 7 and June 25, 2010." - Focus: "major commercial banks and their regulation and supervision, given their importance to the system." - Team activities: - reviewed the legal framework for banking supervision; - held extensive discussions with CBRC staff and two regional offices; - met with PBC, MoF, National Audit Office (NAO), several commercial banks, audit firms, rating agencies, and the China Bankers Association; - examined CBRC on-site and off-site supervisory practice; - used a comprehensive self-assessment completed by the CBRC. ### Institutional setting and market structure—key facts - Banking sector dominance: - "The banking system accounts for nearly 80 percent of the net new lending every year." - "Within the banking sector, the five large commercial banks account for just over half of the banking system assets." - Foreign banks: "assets less than 2 percent of the total" despite "over 200 branches and subsidiaries operating in China." - Market characteristics: - "China’s capital markets remain relatively shallow," with "over 60 percent of outstanding bonds issued by the government and the majority of the remaining being issuances by the large financial institutions." - Policy banks and China Development Bank are "the second largest issuers." - The insurance sector is "rapidly growing." - System scale and structure: - Banking sector assets "over 200 percent of GDP." - Banks' prudential ratios on capital adequacy, NPLs, and liquidity "have improved significantly." - A "significant amount of the bank assets represent exposures to central bank, and central and local governments." - Payment system: - CNAPS launched; consists of HVPS and the Bulk Electronic Payment System. - HVPS is RTGS for large value transfers; "Currently the system has more than 1,600 direct participants." - Deposit insurance and safety net: - "China does not have an explicit public safety net in the form of deposit insurance but is considering its introduction." - Central bank "has authority to make lender of last resort loans to banks." ### Legal, accounting, and supervisory preconditions - Legal framework and reforms: - CBRC created in 2003 from the PBC as part of major banking sector reform. - Property Law of 2007 and Enterprise Bankruptcy Act 2007 enacted. - Bankruptcy laws: authorities have used existing bankruptcy and other laws for bank restructurings; "there is no explicit resolution framework" and "authorities should consider whether a separate insolvency regime for banks may serve them better." - Disclosure and corporate governance: - Company Law, Law on Commercial Banks, Law on Banking Regulation and Supervision, Securities Law, and Insurance Law provide information disclosure requirements. - Banks required to publicly disclose annual reports including audited financial statements, corporate governance, capital adequacy, risk exposures, risk management strategies and practices. - Listed banks subject to CSRC disclosure requirements. - Corporate governance: dual board system—full-time board of directors plus a supervisory board. - Accounting and auditing: - "Since 2005, China accounting standards have substantially converged with International Financial Reporting Standards (IFRS) and International Standards on Auditing." - MoF promulgated the Accounting Standard for Business Enterprises in February 2006; it "became effective in January 2007." - New standards: "one basic standard and 38 specific standards." - Auditing standards updated in 2006 and recognized by the International Federation of Accountants. - Accounting profession scale: "more than 7,000 accounting firms registered in China, with more than 97,000 CPAs in practice." - CBRC requires banks with total assets exceeding "RMB 1 billion" to receive financial statement audits. - Audit quality concerns remain for smaller accounting firms; need to implement auditor independence regulation in the China Code of Professional Ethics for Certified Public Accountants and increase oversight. ### Licensing, structure, and ownership issues - Licensing and permissible activities: - Extensive licensing and approval process for new institutions, branches, products, and ownership changes. - Fit and proper criteria apply to board and senior management and extend to many other positions. - Use of the name "bank" properly controlled; shell banks not permitted. - Minimum capital requirements to start a new bank "depend on the type of bank and are in line with or higher than international norms." - Ownership and review limitations: - System evolving from state to more private ownership and more complex ownership structures. - CBRC "lack of legal authority could impede their ability to review beneficial owners or indirect changes of control." - CBRC typically obtains information on beneficial/indirect owners through direct acquirers or indirect means, and assessors "did not come across instances where supervision effectiveness has been compromised because of this issue," but "this legal authority should be bolstered." - Investments and cross-ownership: - Banks generally prohibited from investing in nonbank activities; exceptions permitted recently for financial leasing and asset management. - Four cross-ownership pilots in process for bank-insurance and bank-fund management company investments, with CBRC-imposed firewalls and explicit provisions that pilots "must earn at least average industry returns or they are to be dissolved." ### Main findings on objectives, independence, and powers (CP 1) - Objectives and mandate: - Objectives and responsibilities of authorities are "clear." - CBRC's single mission of safety and soundness has helped it become "a high-quality organization." - CBRC has pushed for high-quality risk management and introduced prudential measures including "more stringent credit risk management of loans to local government platforms and real estate lending." - CBRC "pushed banks to hold more capital and more provisions" during rapid loan growth associated with the stimulus package. - Potential conflicts and policy alignment: - Potential conflict between safety and soundness and economic/social objectives is "more acute in China" due to predominant state ownership and use of banks to achieve economic and social goals. - The "12 th plan for the financial sector being developed as part of the 12 th Five-Year economic plan" should reinforce safety and soundness and CBRC's early intervention, and prioritize continued improvement in banks’ risk management across all banks. - Resourcing and independence: - Current resourcing arrangements "lead to potential independence issues, and hampers effectiveness," particularly as banks become more complex and expand abroad. - Potential ability for the SC to override CBRC rules exists "though this has never been exercised." - CBRC law mandates decisions "free from interference from any party" and CBRC reports "no interference has occurred since its creation." - Needs identified: - "more forward resource planning"; - "an urgent government-supported strategy for material upgrading of skills especially specialist skills"; - "more flexibility in budgeting and pay to support this strategy and attract and retain talent." - CBRC's transparency and performance reporting "has greatly improved but more is possible." - Legal powers and cooperation: - Legal framework revised to incorporate legislation, guidelines and rules based on international standards. - CBRC "has authority to take a wide range of corrective and remedial actions, and is clearly willing to use them." - CBRC staff "is legally protected from the consequences of acts committed in good faith." - CBRC "has the legal authority to share information with other regulators, domestically and internationally and does so through networks of Memorandum of Understanding (MOUs)." *Source: IMF assessment text provided in the content unit* ### 112. The capital adequacy rules are based on Basel I. Basel II is being introduced over ### _cr11321 - 112. The capital adequacy rules are based on Basel I. Basel II is being introduced over ### Capital adequacy and Basel implementation - Basel II is being introduced over the 2011–2013 period for six banks that must adopt it on a mandatory basis; some other banks have decided to adopt it on a voluntary basis. - Chinese implementation choices of Basel I have generally been conservative, resulting in Chinese banks uniformly having capital ratios above the Basel minimum. - Banks’ capital composition: primarily (approximately three-quarters) high-quality core capital. - Minimum required capital: 8 percent. - Recent measures raised expected capital ratios above the Basel minimum to: - 11.5 percent for the five major banks - 10 percent for all other banks - These measures are part of a move to counter-cyclical buffers; how these buffers will work in a counter-cyclical way has not been specified. - Recommendation: CBRC needs to review and communicate ongoing expectations for banks to hold capital above the minimum and the criteria it will use to decide how to alter the buffer. - Note: There are a few aspects of the rules that are less conservative than Basel I provisions and should be reviewed. - Implementation note: Implementation of Basel II is pushing major banks to further improve risk management but resources within CBRC for effective implementation on the current timetable may be strained. ### Risk management governance and supervisory guidance - Risk management in Chinese banks is evolving; CBRC has played a major role in significant improvements. - Some less-than-fully-compliant ratings reflect legal framework deficiencies or banks not yet fully implementing CBRC guidance. - CBRC performance: assessed as performing excellently in a challenging and fast-changing environment; on the right track with its reform agenda and needs sustained perseverance and full support of other government parties. - Status of bank risk systems: - Most major banks have developed systems for each major individual risk, though improvements are required in certain cases. - CBRC guidance is generally of high quality and often developed directly from Basel documents. - Some framework guidance is relatively new, with some issued as recently as the last half of 2009. - A period of settling in is required for effectiveness, for less-advanced banks to catch up, and for CBRC to ensure commensurate risk management systems across banks. - Enterprise-wide risk management that accounts for interactions between risks and relates capital to risk is at an early stage in some banks, including some major banks. - Board-approved strategies are often too focused on target loan growth in various sectors and not enough on targeted risk measures linked to banks’ own risk systems rather than regulatory requirements. - For many banks the immediate priority is ensuring a sound risk management framework is fully in place, embedded in culture and group-wide operations, and sustainable. ### Credit risk and problem assets - Credit risk is the most important risk facing Chinese banks and will remain so for some time. - Credit risk has received the most focus by banks and CBRC and is generally well controlled. - There is intense focus on NPL experience by banks, policy makers and parts of CBRC staff; this focus can come at the expense of other early, forward-looking measures of credit risk. - Senior leadership in CBRC and some banks understand the need for forward-looking judgment, but assessors sensed this message has not fully flowed through organizations. - Rules and practice for problem assets and provisioning for listed banks are otherwise adequate; based on IFRS-equivalent accounting rules and regulatory requirements for classifying loans. - CBRC conducts regular, extensive and in-depth reviews of asset quality and replication of the provisioning system. - Major audit firms audit the majority of listed banks. - The regulatory system has encouraged additional provisions and requires further buffers to be held as part of firms’ equity. - Assessors observed many examples of excellent credit-risk management practices, but enhancements in governance related to credit risk are not fully embedded across all banks and have not been tested under stress. - Smaller banks face challenges in following accounting principles relating to determining individual and collective impairment. - Banks’ ability to write off loans in a timely way has been negatively impacted by the strict write-off criteria laid out by MoF. ### Market risk, interest rate risk, and liquidity - Traded market risk in the Chinese banking system is low in aggregate and for major banks individually, but will likely increase as market liberalization occurs. - Exchange rate liberalization announced recently could increase foreign exchange (FX) risk for banks and their customers. - Risk management tools, IT and data infrastructure are generally commensurate with current levels of risk but require improvement and increased sophistication as liberalization proceeds. - The move to Basel II will assist in this evolution. - Interest Rate Risk in the Banking Book (IRRBB) is a more-prevalent risk for a wide number of banks and will likely rise with further liberalization. - Current tools often rely on static gap analysis based on contractual maturities; CBRC could enhance its outlier analysis for IRRBB. Improvements do not require adoption of models. ### Operational risk - Operational risk has been a focus for years, principally internal control breakdowns and fraud, and IT risk. - Such incidents have trended down significantly in recent years according to banks and observers. - The current challenge is establishing more comprehensive frameworks addressing all elements of operational risk relevant to individual banks; this process has begun. - Recommendation: More bank business units should do regular risk and control self assessment (RCSA) and develop, monitor and refine key operational risk indicators. - Note: Moving to advanced measurement approaches (AMA) for capital purposes is not required to make these improvements. ### Supervisory approaches and ongoing supervision (CPs 19–21) - Supervisory approaches are increasingly risk focused, but use of the CAMELS+ rating system and other methodology aspects mean supervisory assessments are not as forward looking as desirable. - Heavy reliance on a few basic simple ratios, while appropriate, may discourage more judgment-based assessment of inherent risk and quality of banks’ risk management and governance. - Need to maintain benefits of simple indicators while reinforcing compliance with CBRC guidance that requires use of more sophisticated approaches than some banks are using. - More attention may be needed on mid-size and smaller banks to ensure upgrades in risk management and governance. - CBRC has necessary tools for on-site and off-site supervision and an extensive system to capture frequent and periodic information from banks. - Disclosure by banks or CBRC of important safety and soundness information, such as capital and liquidity position, is less than in many other markets and should be examined and improved. ### Accounting and disclosure (CP 22) - China has developed an accounting system that has substantially converged with IFRS. - A recent World Bank study commended China’s efforts though identified certain areas for improvement. - Continued attention is needed on developing the private accounting and audit profession to ensure financial statements are professionally prepared and audited. - Recommendation: CBRC should be empowered to reject and rescind the appointment of an external auditor deemed unfit to perform a reliable and independent audit. ### Corrective and remedial powers (CP 23) - CBRC has the authority and demonstrated willingness to act to resolve problems. - Historical approach to dealing with problem banks has been on a going-concern basis. - Capability to close institutions may need enhancement going forward. ### Consolidated and cross-border supervision (CPs 24–25) - Consolidated supervision of banks and their direct subsidiaries and branches on the mainland or offshore is of high quality. - Existing laws may permit more complex structures where consolidated supervision may not be possible; CBRC has sometimes used indirect and informal means to address such situations. - Recommendation (linked to CP 4): Amend laws to formally require CBRC approvals of ultimate beneficial ownership and indirect changes in control to address these issues. - Reliance by one supervisor on the work of others in mixed corporate groups (bank/insurance/fund management/pilots) may not always work well in practice and has yet to be tested. - In home-host relationships, CBRC has a wide network of formal and informal arrangements and has used these effectively as both a home and host supervisor. ### Table 14: Summary compliance highlights (selected) - Objectives, independence, powers, transparency, and cooperation: - CBRC has clear safety and soundness goals in legislation but has recently also emphasized loan growth in certain sectors; CBRC should continuously emphasize balancing growth with prudence. - Budgeting arrangements, external headcount approval requirements and authority for SC overrides of CBRC rules and decisions could compromise CBRC effectiveness and operational independence. - CBRC needs continuous staff upgrading, more specialist expertise, greater flexibility in budgeting and salaries, and government support. - Permissible activities: - Permissible activities are well defined; emphasis on preventing unauthorized deposit taking. - Banks’ transactions with trust companies have increased significantly, reflecting a search for yield and sale of loans to meet regulatory ratios. - Licensing and transfer of ownership: - CBRC devotes significant resources to licensing and approvals; comprehensive prior authorization for activities, services and products. - CBRC is inhibited in formal legal ability to identify ultimate beneficial owners or controlling shareholders when approving transfers of significant ownership and employs indirect/informal approaches. - Risk management and capital: - CBRC has adopted a generally conservative approach to Basel I with few exceptions; expectations of capital buffers above minimum should be further articulated. - Enterprise-wide risk approaches and relating capital to risk are at an early stage in banks and the supervisor; Basel II will enhance this for major banks over time. - Large exposures and related parties: - CBRC emphasizes identifying large exposures via a dedicated off-site system but should consider developing a more comprehensive framework for assessing risk across connected/related parties. - Related-party regime does not take into account common ownership by local governments, which may be a risk factor for some locally owned banks. *Source: IMF staff assessment as presented in the provided content.* ### 12. Country and transfer risks Country and transfer risks are gaining in materiality for Chinese banks. ### 12. Country and transfer risks Country and transfer risks are gaining in materiality for Chinese banks. ### Country and transfer risk - Country and transfer risks are gaining in materiality for Chinese banks. - While the major banks with the bulk of the exposure have systems in place, this is still work in progress for the others. - CBRC has recently consolidated its supervisory expectations in this regard and is monitoring progress in implementation. - CP 12 Recommended Action: "Ensure implementation of country and transfer risk management guidance (issued in June 2010) in all major banks. Have banks submit an action plan to deal with deficiencies by year-end 2010. Perform a supervisory review of policies and practice for these banks within the next 18 months." ### Market risks - The extent and complexity of market risk is low given market structure and absence of approval for complex products, and banks strategies being more client-driven than proprietary. - While existing risk management approaches are reasonable for the current environment, there are weaknesses in execution and a material upgrade will be needed if any further interest rate or exchange rate liberalization occurs or if banks adopt more aggressive strategies. - CP 13 Recommended Action: "Develop and implement an effective strategy to increase specialist resources in this area. Repeat the 2006 cross-system review of market risk management at regular intervals as a means of assessing progress, benchmarking and pushing for continuous improvement. Review appropriateness of threshold for exemption from market risk capital determination." ### Liquidity risk - Use of simple regulatory rules such as maximum loan/deposit ratio and minimum current assets ratio, as well as reserve requirements, mean banks are highly liquid. - Banks should be encouraged to adopt more sophisticated liquidity risk management methods to prepare for further market liberalization. - CP 14 Recommended Action: "Put additional supervisory focus on this area as a means of reinforcing implementation of the guidance issued in 2009. Signal to banks at senior levels the desire for more sophisticated liquidity risk management. Put high priority on performing an assessment of all major banks against the new guidance." ### Operational risk - Banks and the supervisor have considerable history of detailed high-quality internal control processes (focused on reducing fraud) and attention to IT risks. - The current challenge is to move beyond that to a more-complete measurement and management of operational risk. - Progress is occurring but this varies across larger banks. - Guidance that covers all elements of the CP is recent and upgrading of specialist skills in CBRC will be required. - Practice of banks doing RCSA across businesses or developing key risk indicators (KRI) for various business lines needs further development. - CP 15 Recommended Action: "Ensure all major banks have a plan to develop at least RCSA and KRI across their businesses. Enhance expertise of CBRC resources to permit cross-system review of major banks progress against 2007 guidance. Priority is less than for liquidity and IRRBB. Guard against pressure for premature moves to AMA." ### Interest rate risk in the banking book (IRRBB) - This is a risk that is meaningful for a wide variety of banks of all sizes. - The need for active management will likely grow as and when further interest rate liberalization occurs. - Currently many banks are using static gap analysis based on contractual maturities to measure and manage this risk. - It is desirable to move to more dynamic analysis based on projected cash flows, non-parallel shifts in interest rates and incorporating assumptions about how the behavior of various categories of assets and liabilities might be affected in these scenarios. - There is room for CBRC to enhance its analysis of possible outliers. - CP 15 (related emphasis): priority for IRRBB improvement noted alongside liquidity and operational risk. ### Internal control and audit - Internal control awareness has been heightened and the CBRC has strong supervisory focus in this area. - Publicly listed banks will face the challenge of implementing "C-SOX" which requires external auditors to opine on the adequacy of their self assessments of internal controls. - CP 22 Recommended Action: "Develop an auditor independence requirement to enhance the credibility of the auditing profession. Prioritize implementation of policy recommendations identified in the October 2009 World Bank ROSC Report on Accounting and Auditing focusing on improving the audit quality of the smaller to mid-sized accounting firms and stronger oversight of the accounting profession. Empower CBRC to reject or rescind the appointment of an external auditor who is deemed unfit to perform a reliable and independent audit by them. Enhance the transparency of the banking system by publishing aggregate banking data, key financial ratios, and peer group averages quarterly. The frequency of audit oversight inspections should be increased." ### Abuse of financial services / AML - The supervisory responsibilities for addressing the abuse of financial services in (and by) banks are divided between the PBC and the CBRC. - There are opportunities for improving cooperation and information sharing between the two as they carry out this shared responsibility. - CBRC is making material strides in dealing with fraudulent practices in banks but some work remains to be done. - A few Anti-Money Laundering (AML) related recommendations relevant for banks as identified in the 2006 FATF assessment are to be addressed. - CP 18 Recommended Action: "Improve coordination and information sharing between CBRC and PBC through more regular and frequent information including those arising from AML inspection findings; and large and doubtful transaction reports. Develop an information sharing protocol between CBRC and PBC. Continue progress on dealing with fraudulent transactions in and by banks. Make it legally binding on banks to identify beneficial customers." ### Supervisory approach and techniques - While the supervisory approaches are increasingly risk-focused and incorporate good practices, supervisors should consider focusing on incorporating more examiner judgment in ratings and lessen reliance on quantitative formulaic approaches. - To further the risk-based approaches in place, CBRC should reconsider its focus on examination of branches which are largely compliance focused. Resources could then be allocated to other higher priority supervisory activities. - CP 1.2 Recommended Action (relevant authority/independence points): "Give CBRC authority for staffing and budgeting within broadly-set targets. Consider moving to model where industry fees directly fund CBRC to enhance independence. Develop a SC supported plan to upgrade CBRC staff expertise including more budget flexibility and allowing CBRC more flexibility in remuneration to better attract and retain specialist resources. Address potential independence issues." ### Supervisory reporting and transparency - There is an extensive system to capture frequent and periodic information from banks and CBRC should consider making banks’ quarterly financial information available to the public to foster greater transparency in the banking industry. - CP 22 Recommended Action (transparency point): "Enhance the transparency of the banking system by publishing aggregate banking data, key financial ratios, and peer group averages quarterly." ### Corrective and remedial powers of supervisors - CBRC has the ability to act to take corrective action if prudential rules are not observed and data on enforcement actions suggest that it also has the willingness to act in this regard. - Bank closing experience has been very limited though there have been large-scale mergers as part of banking system consolidation in which CBRC has been involved. ### Consolidated supervision - Consolidated regulation and supervision of groups composed of banks and their mainland or offshore subsidiaries and branches is of high quality. - Laws and rules permit more complex structures where CBRC would be challenged to meet the key elements of the principle. - With cross ownership by banks of fund management companies and insurers (pilots exist) reliance on firewalls and institutional regulation by each regulator of their part of the group may not be sufficient. - CP 24 Recommended Action: "Amend legislation to give CBRC authority to force banks in all cases to be held in corporate structures that permit consolidated supervision. Use new authority regarding beneficial ownership and indirect control (CP 4) to ensure corporate structures permit consolidated supervision. Give CBRC authority to examine fund management and insurance affiliates of banks if concerns regarding risk and risk management capabilities exist." ### Home-host relationships - CBRC has laid emphasis on developing and maintaining a wide network of formal and informal arrangements with overseas supervisory authorities and has used these effectively as both a home and a host. - It has also launched a supervisory college for one large international bank and will shortly launch a second one. ### Selected other CP recommendations (excerpt) - CP 1.1 Responsibilities and Objectives: Ensure upcoming revised 12th five year plan developed by the SC for the financial sector emphasizes importance of safety and soundness including early intervention by the regulator... Consider amending CBRC objectives to emphasize early intervention. Reduce focus on NPLs and increase focus on more forward-looking monitoring and measurement of risk. - CP 4 Transfer of Significant Ownership: "The law should clearly require evaluations of ultimate beneficial owners and shareholders exercising indirect control in all cases of acquisition and transfers of significant ownership in banks." - CP 6 Capital Adequacy: "Reconsider the few areas where capital rules are less conservative than Basel I. Consider ways to draw out implementation of Basel II to ensure success, such as a longer parallel run period. Secure more specialist resources on an ongoing basis to effectively supervise Basel II banks. Enhance disclosure of capital position of banks." - CP 7 Comprehensive Risk Management: "Persevere in current direction to improve bank compliance with CBRC guidance. Ensure adequate focus on risk management capabilities of the banks, not just the Basel II banks. Encourage banks to have more risk-related measures in their annual board-approved strategy setting. Perform cross-bank targeted review of risk management practices with focus on enterprise-wide approach, benchmark banks and provide feedback on areas for improvement. Encourage use of more enterprise wide scenario stresses such as how a slowdown would affect all risk areas. Encourage more relating of capital banks hold to their risks. Consider targeted review of this across major banks, benchmark, and provide feedback. Consider more detailed guidance on relating capital to risk for non-Basel II banks." - CP 8 Credit Risk: "Further develop more forward-looking assessment of credit risk in CBRC risk rating system. Encourage banks to use more of their own risk metrics in setting their annual credit risk strategies. Make sure all major banks have implemented CBRC credit risk guidance." - CP 9 Problem Assets: "Establish a less burdensome mechanism to facilitate the loan write-off process." - CP 10, 11 Large Exposures and Related Party Lending: "Bring common ownership of enterprises by local governments into the definition and discipline of large exposures and related party transactions." ### Authorities’ Response (paragraphs preserved) - 123. "The Chinese authorities welcome and support the BCP assessment as an opportunity for reflection and improvement for banking regulation and supervision according to international standards. The assessment team has undertaken excellent work, demonstrating high quality professionalism, dedication and the ability to cut through complex issues in a constrained timeframe. The authorities appreciate the opportunity to provide the following comments on the assessment." - 124. "The CBRC, with strong support from the Chinese government, has actively pursued its statutory mandate for safety and soundness of the banking sector through promulgating a prudential framework benchmarked to international standards and continuously improving supervisory effectiveness. This effort is facilitated by substantial enhancement in corporate governance and risk management in the Chinese banking industry through three decades of reform and opening up. These achievements and progress have been largely recognized in the assessment report. The assessment demonstrates that the banking supervision in China is broadly in compliance with the BCP." - 125. "There are a number of issues in the assessment for which the authorities would like to provide further clarification. The assessment identifies the potential ability for the SC to override CBRC rules as a potential threat to CBRC’s operational independence. The CBRC does not see this as an independence concern that would compromise its effectiveness. According to the Law on Banking Regulation and Supervision, the CBRC shall, in accordance with applicable laws and administrative regulations, formulate and promulgate supervisory rules and guidelines for banking institutions. And according to the Legislation Law, only under the circumstances of violating laws and regulations, or existence of inconsistencies between rules issued by different ministries or commissions, the SC may alter or annul “inappropriate” rules issued by the ministries or commissions. Therefore, the CBRC can perform its rule-making authority independently unless its rules and guidelines contravene relevant laws or administrative regulations. Such an arrangement serves as a check and balance on the CBRC and other government agencies to exercise authority in accordance with law. This also helps maintaining the integrity and consistency of the legal framework in China. In practice, the SC has never altered or annulled the rules and guidelines issued by the CBRC." - 126. "The assessment also indicates that the CBRC’s current budgeting and headcount arrangements could lead to potential independence issues and hamper supervisory effectiveness. Since its establishment, the CBRC has received unrelenting support from the SC and relevant ministries in undertaking banking regulation and supervision. The CBRC has upgraded the efficiency and quality of its staff through continuous recruiting, training and development efforts, while the efficiency of supervision has also been enhanced through effective application of IT. However, the CBRC acknowledges that, like many banking supervisory agencies around the world, it faces challenges in attracting, developing and retaining supervisory talent in an increasingly competitive and complex industry environment. By working closely with relevant government agencies, the CBRC aims to further increase supervisory resources where appropriate, upgrade staff skills and retain high-quality front-line supervisors, in order to fulfill its mandate for safety and soundness in a fast changing industry environment." - 127. "The CPs revised in 2006 place a greater emphasis on risk management, and the methodology requires assessors to consider the practices of banks as well as supervisory agencies. The CBRC, since its establishment, has made great efforts to improve its risk-based supervision capacity, while requiring banks to enhance their corporate governance and risk management capabilities. To this date, the main business of Chinese banks is still traditional deposit-taking and commercial and retail lending. It is only in recent years that a few banks have been allowed to enter into non-bank financial businesses on a trial basis and these operations remain very small. As a result, China's banking sector is much simpler than those of developed markets, where the risk environment is much more challenging due to greater complexity and interconnectedness. The assessment acknowledges that the CBRC has played a major role in the significant and impressive progress that banks have made in improving their risk management, while identifying a number of areas for further improvement. The authorities' view differs from the assessment in the degree to which banks’ risk management is commensurate with the current risk environment they operate in. However, the authorities concur that continued improvements in banks’ risk management are needed, as financial reform deepens and liberalization creates greater interconnectedness and complexities in the Chinese financial system. For example, looking ahead, comprehensive enterprise-wide risk management that takes account of interactions among risks and effectively relates capital to risks will need to be further strengthened at the Chinese banks. Meanwhile, the CBRC will also continue to enhance its capability in evaluating banks’ risk profiles and risk management processes together with the increase in size and complexity of the Chinese banking sector." - 128. "The assessment has proven to be valuable and rewarding in generating insights and suggestions that will contribute towards the improvement of banking supervision in China. The CBRC appreciates the recommendations made in the assessment, and will take actions on those that are considered appropriate and applicable. Some of them are already being implemented and others taken into account in the CBRC's medium- and long-term plans to improve supervisory effectiveness. The CBRC will also continue to push forward the reform and opening-up of the Chinese banking sector, which has proven a key driver in enhancing the safety and soundness of Chinese banks. In the meantime, the CBRC will continue to actively engage in the activities of the FSB and the BCBS to develop and reform international banking supervisory standards, so as to contribute towards the enhancement of the resilience of the global banking system." *Source: _cr11321 - 12. Country and transfer risks Country and transfer risks are gaining in materiality for Chinese banks.* ### 129. Insurance companies in China are closely supervised and generally subjected to ### 129. Insurance companies in China are closely supervised and generally subjected to ### Supervisory framework and approach - The CIRC employs a rules based framework and has achieved a high level of regulatory compliance from supervised companies. - High observance with the core principles is visible where a rules based approach and control can be exercised. - Insufficient regulation exists on market exit and portfolio transfers. - Supervision should be strengthened on: - the adequacy of reserve levels, - the insurer’s observance of solvency requirements, - the strictness with which CIRC ensures compliance with capital requirements. - A shift from rules based to principles based supervision is likely to become necessary if resources are to meet growing demands; however, in the immediate future rules based approach seems most appropriate. ### Assessment context and methodology - This assessment of compliance with International Association of Insurance Supervisors (IAIS) Insurance Core Principles (ICP) was carried out as part of the 2010 FSAP. - The assessment is based on the 2003 version of the IAIS Insurance Core Principles and Methodology and took into account relevant IAIS standards and guidance in addition to the ICPs. - The CIRC conducts its duties through its headquarters in Beijing and 35 regional branches, the insurance bureaus. - Insurance regulations issued by the CIRC are guided by high level regulations issued by the SC (including on compulsory motor insurance) and the basic law issued by the People’s Congress. - In addition to formal regulations, CIRC has issued a range of directives, guidance notes etc under its mandate to develop the SC’s commercial and social policy objectives for the insurance market. - The assessment is based upon information made available to the assessor in preparation for and during the June 2010 FSAP mission. CIRC contributed a self-assessment and further information in response to requests before and during the mission. - Requested documentation, including relevant laws and a number of key regulations were supplied in English. However many of the 42 key CIRC regulations and supporting directives and explanations were only available in Chinese. - The assessment was informed by discussions with regulators and market participants, including staff from the CIRC Headquarters (HQ), two large regional insurance bureaus, insurance companies and intermediaries, and with the accounting and actuarial professions. ### Institutional and market structure—overview - The Chinese insurance market is the six largest in the world. - Market participants at end-2009: - 59 life insurers, - 52 non-life (Property and Casualty (P&C) or property) insurers, - 9 reinsurers, including one specialist credit insurer, and four specialist agricultural insurers (one of which is a mutual). - The four specialist heath insurers are classified as part of the personal (life, etc.) insurance sector. - Non-life insurers may now also write short term medical coverage. - Eight insurance groups have been formed under holding company structures and 10 insurers have established asset management companies. - Life insurance premium income in 2009 was US$109.2 billion, a penetration of 2.3 percent of GDP. - In 2009 non life insurance generated US$ 53.9 billion of premium, a penetration of 1.1 percent of GDP. - The P&C sector is dominated by motor insurance, which accounted for 70 percent of gross written premium. - China’s life insurance market concentration: - The top 10 insurance companies account for nearly 90 percent of gross premium. - With the exception of American International Assurance Company (AIA), life insurance business is not open to foreign funded companies except through joint ventures where the foreign shareholder may have up to 50 percent of the equity. - The non-life business is also highly concentrated and continues to be dominated by the leading P&C Insurance Group the People’s Insurance Company of China (PICC). ### Business mix and trends - Life insurance business mix changes over the last half of the decade: - Traditional guaranteed return business has dropped from 42 percent to 23 percent of life policies and is being replaced by Universal Life and Investment linked business. - Participating business throughout the decade has held approximately 55 percent of the market. - Non-life business mix has remained largely static: - Motor and commercial property account for 80 percent of non-life premium. - Liability, Marine Aviation and Transit (MAT) and accident jointly account for another 11 percent. - Agricultural and medical insurance lines show a clear upward trend in share of premium. - Household insurance accounts for only 1 percent of non-life premium. - Observed market differences: - China is not seeing a boost in insurance sales from the development of the mortgage markets; this appears in part due to banks not being prepared to monitor and enforce policy continuance. ### Main findings - Preconditions for effective supervision are generally met. - Where principles are not fully observed, two general reasons apply: - CIRC or other empowered official agencies have intentionally decided that full implementation of the respective core principle would not fully take into account the current development phase of the Chinese insurance market or would be in conflict with constitutional arrangements. This observation may be applicable to principles on: supervisory authority, supervisory objectives, investments, derivatives and AML. - CIRC has—in contrast to its overall comprehensive regulations—insufficient rules for some important areas of supervision. China takes a fairly pragmatic approach to regulation and will often wait for the actual emergence of business cases demanding new rules before acting. It is responsive rather than proactive and has thus missed important areas. This observation is applicable to principles on: change in control and portfolio transfer, exiting the market and insurance activity. *Source: IMF staff assessment (2010 FSAP mission materials).* ### 138. There also areas, where CIRC has strong and explicit regulation in place but its ### _cr11321 - 138. There also areas, where CIRC has strong and explicit regulation in place but its ### Overall assessment - CIRC has implemented a comprehensive supervisory framework with strong emphasis on corporate governance and risk management systems for all insurance companies. - The preconditions for effective supervision are largely met, but enforcement weaknesses and the continuing battle against corruption and bribery create reputational risks for CIRC. - The supervisory system is strong and well organized but requires additional resources in core supervisory departments to meet responsibilities in a large and rapidly growing market. ### Supervisory capacity and resources - CIRC is responsible for a wide range of tasks in a very large and diversified market and needs to be prepared for continuing rapid growth in scale and scope. - Qualified staffing in some departments may not be adequate to carry out responsibilities in a growing and changing market. - Staffing shortfalls identified in off-site monitoring, inspection, international cooperation, accounting and auditing, and insurance bureau key units. - Recommendation repeated: separate developmental/commercial/social mandates from CIRC to avoid conflicts with supervisory objectives and consider establishing a development agency for the financial sector. ### Supervision practice and reporting - Ongoing supervision of insurance companies and supervision of markets and consumers are tight and display a strong level of control; most principles in these sections are fully observed. - Some supervisory reporting requirements are very comprehensive and reported frequently; monthly submissions are substantive and may be reduced (certain technical performance data could be required quarterly). - CIRC has established a comprehensive classification system to allocate supervisory resources according to risk profile; classification criteria could be enhanced to reflect technical performance of life business through embedded value accounting and better reflect impact and probability of risks. - On-site inspections cycle extends to five years; on-site inspections should verify off-site assumptions and the operational understanding of insurers. ### Prudential requirements, liabilities, and solvency - Application of prudential requirements needs substantial strengthening, especially liabilities and solvency regimes. - Deficiencies exist in regulation regarding quantitative investment requirements; further regulation signaled. - CIRC should review its arrangement with PBC on fighting Money-Laundering; shared responsibilities are not reflected in activities solely carried out by PBC and lack of adequate reporting back to CIRC is a reputational risk. - Specific solvency observations: - The solvency regime is rather static and insufficiently risk based. - China is investigating directions between Solvency II and refined RBC approaches; given CIRC’s rules-based approach, a move towards Solvency II might not be recommendable. - A refinement of the current solvency regime is recommended, including re-measurement of liabilities for solvency purposes. - CIRC has currently five companies operating with solvency margins below 100 percent. - Eight companies operating below 100 percent solvency ratios is noted as signaling market tolerance of breaches. - As a supervisory principle, no licensed entity should be allowed to write new business while solvency levels are not above 100 percent. - If shareholders cannot provide capital injections within very limited timeframes, the company should be declared insolvent and placed under supervisor administration. - Recognition of loadings for bank deposits with inadequately capitalized banks is paradoxical; companies should be required to withdraw deposits to secure policyholders’ interests. - CIRC should prevent insurers from taking loans and pledging assets covering capital requirements or technical provisions. ### Investments, derivatives, and risk management - Chinese insurers face a narrow range of investment categories, exposing them to domestic interest rate and credit risks; investment income shows strong volatility. - CIRC should issue regulations to allow for macro and portfolio hedging and assume investment management can engage in hedging activities. - Distinct regulations should govern quality of assets covering technical provisions and capital requirements; related party transactions for those categories should not be permitted. - At assessment time, insurers generally were not allowed derivatives; selected exceptions granted to six domestic insurers for interest rate swaps as part of a pilot study. CIRC has issued a rule on stock index futures and is considering implementation procedures. - Implementation of risk management functions requires substantial efforts from companies and CIRC; progress not easily measured off-site. CIRC should require adequate audited reports for companies with substantial market share or specific exposures. ### Consumer protection, disclosure, and conduct - Disclosure and consumer protection are adequate and have recently been improved; recommendation to introduce disclosure of complaints per company to enhance discipline and move complaint function from the insurance association to a more independent source. - Corruption and bribery remain a concern, particularly in distribution, claims handling, and general trustworthiness of the legal system; stronger anti-corruption efforts and increased staffing for fraud and AML are recommended. ### Licensing, portfolio transfers, and market exit - Licensing should facilitate changes in insurers’ strategy and ability to underwrite business; separation of company formation and insurance licensing should be clearer. - CIRC must be able to prohibit a company from writing new policies while allowing it to administer current liabilities and contracts. - CIRC must develop regulation to facilitate portfolio transfers with attention to transfer of liabilities, adequacy of reserves and technical provisions, recipient suitability, license, and internal control. - Transfers should not be dependent on policyholder acceptance but require timely notification; life business transfers should separate existing life policy business from transferred business in the recipient company. - Specific regulation for voluntary exit via run-off (non-life) or portfolio transfer/merger still needs to be produced and is relatively urgent given market conditions including the single insurer rule; portfolio transfers should be subject to actuarial clearance and supervisory approval but not policyholder approval. ### Supervision of groups and systemic considerations - Role of insurance groups will become more significant; CIRC must develop regulation to facilitate group supervision, including centralized risk management functions and group solvency requirements allowing for diversification. - Product approval and off-site monitoring must lead to early recognition of shortfalls and immediate rectification plans with short response times. ### Anti-money-laundering (AML) - Current split of AML responsibility between PBC and CIRC and lack of CIRC active involvement creates significant reputational risk; PBC’s system is not complete. - Clear accountability is needed: decide where the AML function will be housed and ensure effective execution; if AML is not with CIRC, CIRC must be adequately informed to supervise the sector properly. - Thresholds for reporting suspicious transactions should be more in line with income levels. *Source: IMF staff assessment text provided in content unit _cr11321 - 138.* ### 139. The assessment team found several improvement opportunities, summarized in ### 139. The assessment team found several improvement opportunities, summarized in ### Recommended action plan to improve observance of the Insurance Core Principles (ICP) - ICP 2 – Supervisory objectives - Financial stability, consumer protection and fair competition could be translated into operational goals and form the basis for a mission statement of CIRC. That statement could also help new staff to engage more quickly with the authority’s tasks. - CIRC’s second objective and related responsibilities for the development of the domestic market (as implemented) are rather unique for a mainstream supervisor. It is recommended the two mandates be separated and a suitable agency be identified to take ownership of the developmental, commercial and social objectives. This would help to ensure the supervisor has a clear objective and is able to undertake its role without conflict. - ICP 3 – Supervisory authority - The staffing levels of CIRC are not adequate. In particular, the areas of off-site monitoring, inspection, international cooperation, accounting and auditing and the staffing levels of key units in the insurance bureaus should be substantially strengthened through increased suitable staffing. - ICP 6 – Licensing - The licensing process should not be restricted to control the market entry of insurers but must also facilitate changes of insurers’ strategy and ability to underwrite business. CIRC must ensure that a company will be prohibited from writing new policies but still is liable and able to administer its current liabilities and contracts. - ICP 8 – Changes in control and portfolio transfers - CIRC must develop a suitable regulation to facilitate the transfer of portfolios. Specific attention must be given to the transfer of liabilities, the adequacy of reserves and technical provisions, the ability of the recipient of the portfolio to meet requirements on suitability, license and internal control. - A transfer should not be dependent upon the acceptance of policyholders or beneficiaries but timely notification of the intended transfer should be provided to them. - A transfer of life insurance business should require the separation of the existing life policy business from the transferred business in the recipient’s company. - ICP 14 – Preventative and corrective measures - Corrective actions in line with Section 6 of the insurance law need to be applied more vigorously to insurers breaching solvency. - ICP 16 – Winding-up or exit from the market - CIRC should develop specific regulation under which an exit from the market can be facilitated via portfolio transfer or merger and which allows for run off of non life business. - ICP 20 – Liabilities - Product approval and off-site monitoring must lead to early recognition of shortfalls and must lead to rectification plans with immediate effect and short response times. CIRC should also prevent insurers from writing new business for as long as reserve levels are inadequate. CIRC has to prevent cross-subsidizing of policies. - The introduction of new accounting standards should have been applied with precautionary measures. Impacts from re-measurement should have been deferred to other comprehensive income as part of equity and should not have been available to shareholders as dividends for at least three years. - ICP 23 – Capital adequacy and solvency - CIRC has to facilitate the rectification of solvency margins for five companies operating with solvency margins below 100 percent. As a supervisory principle, no licensed entity should be allowed to write new business for as long as the solvency levels are not above 100 percent. - If management or shareholders cannot with in very limited timeframes arrange for capital injections, the company should be declared insolvent and be directed under the administration of the supervisor. - The recognition of loadings for bank deposits with inadequately capitalized banks is paradoxical. The adequate measure would be to require companies to immediately withdraw the deposits, in order to secure policyholders and companies interests. - ICP 28 – Anti-money laundering, combating the financing of terrorism - A clear accountability is needed to respond in a timely manner to the specifics of AML. The rather opaque involvement of CIRC in conjunction with the lack of influence and involvement on inspections and sanctions is not satisfactory. A decision is needed as to where the AML function will be housed and then to ensure it is carried out effectively. - If it is not with the CIRC, then it is essential that CIRC be adequately informed so as to properly supervise the sector. ### Authorities’ response (paragraphs 140–146) - Paragraph 140 - The authorities appreciate the FSAP assessors’ recognition of what the CIRC has achieved in supervisory enforcement, categorized supervision, market analysis, regulatory cooperation, information sharing, and consumer protection. - Paragraph 141 - The assessors have also acknowledged the CIRC’s efforts and progress made in corporate governance, internal control, group supervision, solvency regulation, risk management, and off-site supervision. - Paragraph 142 - The assessors understand that, in the few areas where full observance has not yet been achieved, the CIRC has taken appropriate regulatory measures and approaches based on China's own conditions including its unique market environment and development stage. The regulatory philosophy we follow is consistent with IAIS’s core principles for insurance regulation. We focus on prudential supervision, emphasize risk prevention, make vigorous efforts to maintain the market order and to protect consumer interests, thus we have effectively maintained the stability of the market. - Paragraph 143 - In response to the assessor’s comment on solvency supervision, the CIRC attaches great importance to this task. Drawing upon the solvency supervisory standards of the European Union (EU) and the U.S., we have established a solvency supervisory system tailored to China’s realities. The current system reflects the status quo of China as an emerging market and facilitates the stability of our insurance market. The fact that China’s insurance industry remained resilient to the global financial crisis proves the risk-control ability of our solvency supervisory system. - Specifically, the current system takes into account the underwriting risk, investment risk, interest rate risk, credit risk and asset liability matching risk of insurance companies. The system has the basic features of a risk-based solvency supervisory system and provides a good foundation for the transition to a comprehensively risk-based system. Currently the CIRC is studying the solvency supervisory systems in the world and dedicated to further improve its own system. - Paragraph 144 - With respect to AML, China has its unique mechanism. As provided by China’s Anti-Money Laundering Law, the PBC leads the work of AML and other authorities should actively assist it in its work. The division of responsibilities among relevant authorities is clear. The CIRC bears its share of responsibility and carries it out in its daily supervision. - In practice, insurance institutions observe the AML rules put in place by both the PBC and the CIRC. They have established complete internal controls and other relevant measures for this purpose, and are actively carrying out the AML obligations. In order to supervise the risks of insurance companies, the CIRC carries out inspections on their internal controls, which include AML controls, and exchanges information with the PBC (the AML Bureau) through adequate channels. - Paragraph 145 - To address the emerging issues and changes as market develops, the CIRC has been improving its rules and regulations and striving to enhance effective supervision. Since the newly revised Insurance Law was promulgated on October 1, 2009, the CIRC has formulated and introduced new rules and revised old rules covering personnel qualification, information disclosure, asset management, equity management and other aspects. Efforts have been made to further enhance industry order, strengthen corporate governance and internal control, promote risk management capabilities of insurance companies, and fundamentally safeguard the legitimate interests of the stakeholders. - Paragraph 146 - The authorities appreciate the recommendations of the assessors and will carefully study these recommendations and take them into consideration in regulatory practices and the formulation of rules and regulations. ### Context: Annex III — IOSCO assessment summary and market structure highlights (paragraphs 147–160) - Assessment scope and inputs - The assessment was performed in 2010 as part of the FSAP of China and used the IOSCO Objectives and Principles of Securities Regulation (May 2003) and the Methodology for Assessing Implementation of the IOSCO Objectives and Principles of Securities Regulation (February 2008). - It was assisted by a self-assessment prepared by the CSRC, public information on the CSRC website and other entities, and a review of relevant Chinese laws and regulations. - Institutional roles and structure - The CSRC performs centralized supervision and regulation of the securities and futures markets on the Chinese mainland under the general authority of the SC; the Chairman is appointed by the SC and holds Minister rank equivalent to the Chairmen of the CBRC and CIRC. - CSRC headquarters set rules, market development plans, key reviews and approvals, and guide enforcement; 36 regional offices are responsible for front-line supervision within their jurisdictions. - SROs include the stock and futures exchanges, SD&C, Securities Association of China (SAC), China Futures Association (CFA), and NAFMII (established in 2007) for inter-bank lending and bond market oversight. - Market and infrastructure highlights - SSE established in 1990; at the end of 2009 SSE had a total of 870 listed companies, 1,351 listed stocks with US$ 2.78 trillion market capitalization, and US$ 5.22 trillion stock turnover; it has 107 securities firm members and seven domestic and overseas special members. - Shenzhen Stock Exchange founded in 1990 with Main Board, SME Board, Growth Enterprise Board (GEB) and the stock transfer agent system. - There are three commodities futures exchanges and one financial futures exchange: SHFE, DCE, ZCE, and CFFEX. - SD&C founded in 2001 to establish rules for clearing and settlement and is required as a securities registration and clearing institution under Article 157 of the Securities Law. - Market developments and reforms - Two primary types of CIS business: securities investment funds managed by fund managers, and collective asset management business conducted by securities companies. - At end-2009 wealth management products of banks totaled US$ 147.6 billion, of which, investment grade products accounted for more than US$ 96.4 billion. - Reforms included converting non-tradable shares to a market-based pricing system and earlier overhaul introducing third party custodian requirements and risk-adjusted capital requirements for securities firms. - Preconditions for effective regulation - China has adopted accounting and auditing standards converging with IFRS and IAS. The accounting and audit profession is developing in competence and capacity. - Multiple law-making levels: laws by the NPC or its Standing Committee (e.g., Securities Law and Fund Law); Administrative Regulations by the SC; and CSRC rules and regulations, which may be described as “Tentative” or “Trial” but are enforceable. *Source: _cr11321 - 139. The assessment team found several improvement opportunities, summarized in* ### 161. In some cases the strict letter of the law has been buttressed by opinions issued ### _cr11321 - 161. In some cases the strict letter of the law has been buttressed by opinions issued ### Supreme People’s Court opinions and client asset protection - The Supreme Court has issued opinions establishing the legality and enforceability of Article 139 of the Securities Law and similar provisions which establish that in the insolvency of a securities firm funds held on behalf of a client shall not be treated as part of the liquidation but remain the property of the client. - Example: The Circular of the Supreme People’s Court on Relevant Issues Concerning the Freeze and Transfer of Funds in the Clearing Accounts of Stock or Futures Exchanges (1997) affirms this principle. - Case example: In the bankruptcy case of Minfa Securities, the insolvency administrator proposed that around US$ 11.29 million worth of clients’ transaction settlement assets it had secured should be regarded as property in the liquidation. - The Supreme People’s Court ruled that such funds did not belong to the liquidation and should be used to cover the shortfall in clients’ transaction settlement funds. ### Main Findings — Overview - The Chinese securities and futures industry and their regulation has undergone considerable development since the establishment of the CSRC less than 20 years ago. - Reforms cited as having enhanced market transparency, broadened product range, and improved intermediary financial soundness include: - non-tradable shares reforms, - introduction of stock index futures trading in 2010, - overhaul of third party custodian and risk-based net capital requirements for securities firms. - These reforms drew on experience from other markets, including the United States and Hong Kong, and are viewed as evidence of an active and strategic regulatory approach. - Few areas remain where the regulatory framework needs further work to fully meet IOSCO standards; some improvements relate to the legal and accounting environment. ### The Regulator (CSRC) - The CSRC’s responsibilities are set out in three primary pieces of legislation: the Securities Law, the Fund Law, and the Regulations on the Administration of Futures Trading. - Sectoral regulatory approach: - CBRC regulates banking; CIRC regulates insurance. - When banks or insurers engage in securities-type activities (e.g., establishing and distributing wealth management products), CBRC and CIRC have corresponding regulatory authority. - Observations and recommendations: - Some entities (e.g., hedge funds and private equity funds) are either not regulated or lightly regulated; to avoid regulatory arbitrage, products performing similar functions should be regulated similarly. - Given rapid growth—especially of private equity funds—and potential retail use, authorities should consider placing hedge funds and private equity funds under CSRC authority, though IOSCO Principles at the assessment date did not require their regulation. - The CSRC can develop rules within its legal authority and operates in practice as an independent agency, but as a SC administrative organ it must follow civil service staffing and budgetary procedures that may not keep pace with market developments. - Greater flexibility in staffing and budgetary procedures would help the CSRC discharge its functions. - The CSRC’s budget is not sufficient to enable it to exercise its powers and responsibilities, given rapid market growth and the nature of other market discipline mechanisms at this stage of China’s capital market development. - Significant further efforts are required to address retail investors’ understanding of the market and risk despite considerable attention to investor education. ### Self-Regulatory Organizations (SROs) - China places significant reliance on SROs (exchanges, clearing and settlement institutions, industry associations) to perform regulatory functions under CSRC authority and supervision. - With growth in listed companies, retail investors, and regulated entities, SROs will need to allocate continued attention and resources to regulatory functions. - While the CSRC exercises significant oversight and communicates regularly with SROs, it should consider instituting a formal program of regular comprehensive inspections of the exchanges. ### Enforcement - The CSRC has comprehensive powers for inspection, investigation, surveillance and enforcement, including a power to freeze assets by administrative order to safeguard them during investigations. - Laws and regulations provide private rights of action for compensation and other remedies in the event of non-compliance causing investor damage. - However, the commercial courts and market discipline provided by institutional investors and other participants are not as significant in China as in other jurisdictions. - This combination undermines the capacity of private legal action to have a meaningful practical impact on compliance. - Given very high retail participation, the CSRC and authorities bear a greater share of the burden of ensuring compliance than in other markets. - Arrangements for surveillance of abnormal trading are extensive and substantial enforcement actions have been taken to deter market manipulation and insider trading. - There is a need for continued attention and resources to enforce laws against illegal investment activity (including Ponzi schemes and bucket shops). ### Cooperation - The CSRC can share public and non-public information with domestic and foreign counterparts without other external process for regulatory and supervisory purposes. - Formal information sharing arrangements exist with the CBRC, CIRC, and many foreign securities and futures regulators. - The CSRC and other domestic regulators should further consider the efficacy of cooperative arrangements, especially to ensure products or activities with similar functions are regulated similarly to avoid regulatory arbitrage. - The CSRC is a signatory to the IOSCO Multilateral Memorandum of Understanding on Exchange of Information (MMOU) and actively makes and responds to requests for information and assistance with foreign regulators. ### Issuers - The regulatory regime contains detailed CSRC and exchange requirements and follow-up mechanisms for disclosure of comprehensive financial results and risks of listed companies and other investment offers. - Recommendation: The CSRC should promulgate a clearer requirement that advertising refer potential investors to the prospectus, similar to the requirement for CIS. - The regime adequately addresses shareholders’ rights and equitable treatment, including merger-related issues. - Areas for review: - Timeframes for provision of annual and semi-annual financial statements appear long by standards in other major markets and should be reviewed. - Thresholds for reporting changes in substantial shareholdings appear long and should be reviewed. - Accounting and auditing: - The regulatory regime has adopted a clear set of accounting and auditing standards converging with IFRS and of high, internationally acceptable quality. - Continued attention is needed to develop the private accounting and audit profession. - The level of fines for providing false or misleading financial statements should be reconsidered to ensure professional preparation and audit of financial statements. ### Collective Investment Schemes (CIS) - Clear regulatory requirements exist for operating or marketing a CIS, providing reasonable entry requirements, ongoing eligibility and conduct rules, and conflict-of-interest management requirements. - The regime adequately addresses legal form and structure of CIS. - Client asset protection: - Segregation and protection of client assets is assured through a mandatory system of third party custodianship. - Disclosure and valuation: - Comprehensive disclosure requirements enable prospective investors to evaluate suitability and prospects. - Adequate provisions govern valuation requirements, audit requirements, and specific pricing requirements for subscriptions and redemptions. - Areas for review: - Professional qualifications and experience requirements for fund managers should be reviewed as the industry develops. - Given high retail participation, all information should be provided in clear and simple language; the CSRC needs to monitor this closely. - The CSRC should be wary of unlicensed CIS activity (e.g., Ponzi schemes) and give attention to detecting and deterring it. ### Market Intermediaries - Market intermediaries must be licensed with the CSRC and are subject to initial and ongoing capital, experience, and qualification requirements. - Recommendation: The CSRC should consider amending rules on investment consultants to require detailed disclosure to clients of personal backgrounds, career records, working experience, compliance record, investment strategies, and fee structures to support development of independent financial advising for a retail-participant market. - Prudential framework: - The regulatory regime provides appropriate prudential controls related to business-specific risks. - Initial registered capital requirements and ongoing risk-based net capital requirements provide significant prudential buffers. - As the risk-based net capital system is relatively new, the CSRC should continue to monitor it to ensure it captures all relevant risks. - Operational controls: - Market intermediaries are required to have internal risk management functions and controls to protect client interests. - The CSRC could consider extending technical aspects of the regime to cover existing parts of the industry, for example: - Applying the concept of suitability beyond stock index futures trading in light of broad retail participation. - Considering some form of third party custodianship for management of client margins currently held by futures companies. - Failure-handling: - The regime makes adequate provision for dealing with intermediary failure, building on experience with significant securities company failures earlier this decade. - Recommendation: Authorities should consider altering the regulatory threshold that requires a failure to “severely threaten the order” of the market before action in the absence of rectification, to ensure the CSRC can act promptly before problems grow too large. *Source: Extract from the provided IMF content unit.* ### 170. Secondary Markets: The Chinese regulatory regime makes adequate provision for ### 170. Secondary Markets: The Chinese regulatory regime makes adequate provision for ### Summary finding - The Chinese regulatory regime makes adequate provision for authorization and oversight of entities which wish to operate a stock or futures exchange, covering the exchanges themselves, admission of products to trading, trading information, and execution procedures. - Market authorities have provisions to monitor the risk of large and open positions that pose a risk to the market or clearing. - Procedures exist to isolate defaults so problems do not affect other market participants and to apportion losses appropriately. - The CSRC and exchanges have implemented systems for ongoing surveillance and supervision of trading and have devoted considerable human and technological resources to detecting and deterring insider trading and market manipulation. - Given market size, rapid growth, and strong interest in new listings, the number of abnormal trades detected and on which action is taken seems low; extra and continuing efforts to detect and deter unfair trading practices are recommended. - While CSRC staff maintain regular dialogue with stock exchanges, instituting a formal program of regular comprehensive on-site inspections of the exchanges (as conducted for other exchanges) should be considered. ### Key IOSCO Principles — Selected findings and concerns - Principle 1: Responsibilities of the regulator (CSRC) are clearly set out in three primary laws: the Securities Law, the Fund Law, and the Regulations on the Administration of Futures Trading; CSRC develops rules within legal authority and consultation transparency is adequate. - Principle 2: CSRC operates in practice as an independent agency; the Chairman is appointed by the State Council; CSRC budget is insufficient relative to market growth. - Principle 3: CSRC powers are sufficient, but budget and salary levels constrain retention of staff with industry experience. - Principle 4: CSRC adopts clear and consistent regulatory processes; investor education needs more effort to improve retail investor understanding of market and risk. - Principle 5: CSRC staff observe high professional standards and are subject to legislative provisions and a written code of conduct. - Principle 6–7: SROs (exchanges, clearing and settlement institutions, industry associations) perform regulatory functions under CSRC supervision; oversight and resources must keep pace with market growth; CSRC should consider formal regular comprehensive on-site inspections of exchanges. - Principle 8–9: CSRC has comprehensive inspection, investigation, surveillance, and enforcement powers, including administrative asset-freeze powers; thresholds for formal investigation powers should be amended to grant more discretion. - Principle 10: CSRC oversees active inspection, surveillance, and investigation systems; encourage investors with problems to raise concerns with CSRC to bolster market intelligence and confidence; continued attention needed to illegal investment activity (including Ponzi schemes and bucket shops). - Principle 11–13: CSRC can share public and non-public information domestically and internationally; CSRC is a signatory to the IOSCO MMOU and actively exchanges information with foreign regulators. - Principle 14: Detailed disclosure requirements exist for listed companies; CSRC should consider clearer prohibition on advertising unless it refers potential investors to the prospectus (similar to CIS); timeframes for annual and semi-annual financial statements appear long by other major markets and should be reviewed; develop private accounting and audit profession and reconsider level of fines for false or misleading financial statements. - Principle 15: Regime adequately addresses rights and equitable treatment of shareholders; practical private enforcement through courts constrained by cost and court capacity; reporting obligation for changes in substantial shareholding (currently for changes of 5 percent) should be reviewed. - Principle 16: Accounting and auditing standards are clear and well advanced in converging with IFRS and are of high and internationally acceptable quality; need to develop size and experience of accounting and audit profession. - Principle 17–20: Clear regulatory requirements for CIS operation and marketing; review professional qualifications and experience requirements for fund managers; guard against unlicensed CIS activity (Ponzi schemes); ensure clear delegation oversight and robust disclosure and valuation practices for CIS. - Principle 21–23: Market intermediaries must be licensed and meet capital, experience, and qualification requirements; consider requiring securities and futures investment consultants to disclose detailed personal and professional background; extend suitability concept more broadly; monitor “Know-your-client” regulations; consider third party custodianship for client margins held by futures companies. - Principle 24: Adequate procedures for dealing with failure of a market intermediary; consider altering threshold that failure must “severely threaten the order” of the market so CSRC can act earlier. - Principle 25–27: Authorization, oversight, and ongoing regulatory supervision of trading systems and exchanges are adequate; membership and trading rules are subject to CSRC approval; regulations require provision of pre- and post-trade information on a timely and equitable basis; CSRC should consider annual inspections and granting more autonomy to exchanges in selecting chief executive. - Principle 28: Significant resources devoted to detecting and deterring insider trading and market manipulation; given market growth and interest in new listings, CSRC should consider extra and continuing efforts to detect and deter unfair trading practices. - Principle 29: Authorities monitor large and open positions and have default procedures to isolate problems and apportion loss. - Principle 30: Not assessed. Refer to the separate CPSS/IOSCO assessment of payment, clearing and settlement systems. ### Specific policy recommendations (extracted) - Institute a formal program for regular comprehensive on-site inspections of the exchanges. - Consider extra and continuing efforts to detect and deter unfair trading practices (including increased surveillance resources). - Amend thresholds for formal investigation powers to give the CSRC more discretion on when to use such powers. - Encourage investors to raise concerns with the CSRC to improve market intelligence and investor confidence. - Reconsider timeframes for annual and semi-annual financial statements to align with other major markets. - Continue development of the private accounting and audit profession; reconsider fines for false or misleading financial statements. - Review reporting obligation threshold for changes in substantial shareholding (currently for changes of 5 percent). - Review requirements for professional qualifications and experience of fund managers; strengthen oversight of delegated functions by fund managers, custodians, or securities companies. - Monitor the new “Know-your-client” regulations to ensure they improve investor decision-making. - Consider whether third party custodianship should apply to the management of client margins currently held by futures companies. - Alter regulatory threshold that failure must “severely threaten the order” of the market to allow earlier CSRC intervention. - Consider providing more autonomy to stock exchanges in choosing their chief executive. *Source: IMF staff assessment as provided in the chapter titled "170. Secondary Markets: The Chinese regulatory regime makes adequate provision for" from the supplied document.* ### 171. The assessment team found several improvement opportunities, summarized in ### 171. The assessment team found several improvement opportunities, summarized in ### Recommended Action Plan to Improve Implementation of the IOSCO Principles (Table 19): key recommendations by principle - Principle 1 - Where banks or insurance companies engage in securities type activities, such as establishing and distributing wealth management products, they should be regulated in the same manner as wealth management products regulated by the CSRC, to avoid regulatory arbitrage. - A review of the requirements applying to wealth management products across banking, insurance and securities should be conducted to ensure consistent approaches and to avoid gaps or unjustified differential treatment. - Principles 2 and 3 - The operational budget of the CSRC should be adjusted according to the size of the regulated population, and some freedom should be provided to allow the CSRC to structure itself and pay salaries which enable it to retain staff with appropriate qualifications and industry experience. - The provisions concerning the potential liability of staff should be clarified to ensure that staff does not bear liability for the bona fide discharge of their functions and duties. - Principle 4 - The CSRC, SIPF, and SROs should increase their efforts to educate investors about the market and risk. - Principle 7 - Given the growth of the Chinese capital markets and in particular in listed companies and regulated entities, the SROs will need to give continued attention and resources to their regulatory functions. - The CSRC should consider instituting a formal program whereby it conducts regular comprehensive on-site inspections of the exchanges. - Principle 9 - It would be useful and provide greater legal certainty to the CSRC in its enforcement role if the threshold for exercise of its formal statutory investigation powers were amended to provide greater discretion on when it may bring those powers to bear. - Principle 10 - The CSRC should consider means of encouraging investors who have a problem to raise their concerns with the CSRC, both to bolster the market intelligence available from this source and to boost investor confidence in the regulatory framework. - The CSRC needs to devote continued attention and resources to enforcing the laws with respect to illegal investment activity (including Ponzi schemes and bucket shops). - Principle 12 - The CSRC and other domestic regulators should give more consideration to the efficacy of their cooperative arrangements, especially with respect to ensuring that products or activities that have a similar function are regulated similarly to avoid the potential for regulatory arbitrage. - Principle 14 - The CSRC should consider promulgating a clearer prohibition on advertising unless it refers potential investors to the prospectus. - The level of fines for the provision of false or misleading financial statements should be reconsidered. - The statutory timeframes for the provision of annual and semi-annual reports by listed companies should be reviewed. - Principle 15 - The obligation to report changes in substantial shareholdings (currently only for changes of over 5 percent) should be reviewed, in keeping with the standards in other major markets. - Principle 16 - Continued attention should be given to the development of the private accounting and audit profession in China, to ensure that financial statement are professionally prepared and audited. - Principle 17 - The provisions related to the professional qualifications and experience of fund managers should be reviewed as the industry develops. - The CSRC should be wary of the potential for unlicensed CIS activity, such as Ponzi schemes, to arise in the Chinese market and give attention to detecting and deterring it. - The provisions relating to delegations, and in particular that the fund manager, custodian or securities company maintain adequate oversight of the performance of a delegate, should be made clearer. - Principle 21 - The CSRC should consider amending its rules on investment consultants to require such consultants to disclose in detail to clients their personal backgrounds and career records, working experience, compliance record, investment strategies and fee structure. - Principle 22 - As the system of risk-based net capital is relatively new, the CSRC should continue to monitor it carefully to ensure that it captures all relevant risks. - Principle 23 - The concept of suitability included in the requirements for trading in stock index futures should be more generally applied to trading in both futures and securities. - The CSRC should consider whether some form of third party custodianship should apply to the management of client margins currently held by futures companies. - The recently introduced “Know-your-client” regulations for securities companies should be carefully monitored to ensure that they are resulting in investors making better informed investment decisions. - Principle 24 - The authorities should consider altering the threshold in the relevant regulations for intervention in the failure of a market intermediary, that the failure “severely threaten the order” of the market, to ensure that the CSRC can act promptly before the problem becomes too large. - Principle 25 - Annual inspections of the stock exchanges should be instituted, as they are for futures exchanges. - The CSRC should consider providing more autonomy to the stock exchanges in choosing its chief executive. - Principle 28 - The CSRC should consider some extra and continuing efforts to detect and deter unfair trading practices, including: - Educating company officers, officers of securities and futures companies and related parties that insider trading and other market manipulation is a criminal offence; - Educating prosecutors and judges about the impact that insider trading has on investor confidence in the market; - Redoubling efforts at investigating suspicious trading around events likely to involve it, like initial public offerings (IPOs) and merger announcements, and lowering the thresholds for investigating or making enquiries; - Considering whether special rules should be developed to suspend or quarantine the proceeds of suspicious trades, including considering lowering the threshold of the level of suspicion (for freezing or quarantining actions) or altering the definition of abusive or suspicious trades to facilitate taking civil or disciplinary action; - Considering measures related to product design, especially in relation to futures products, to make them sufficiently broad-based that it is difficult for insider trading or market manipulation to be successful. ### Authorities’ Response: themes and actions (paragraphs 172–181) - General reception (paragraphs 172–174) - CSRC expresses appreciation for the FSAP Assessors, the World Bank and the International Monetary Fund, and recognizes the Report reflects implementation of the IOSCO objectives and principles by China’s securities and futures regulatory system. - The Report notes reforms including the nontradable shares reforms, the introduction of stock index futures trading in 2010, and the overhaul of third party custodian and risk-based net capital requirements for securities firms, and finds these reforms have enhanced transparency, broadened products, and improved financial soundness of intermediaries. - The Report acknowledges China’s regulatory framework largely meets IOSCO standards and that Chinese accounting and auditing standards are well advanced in converging with the IFRS and IAS. - Acceptance and incorporation of recommendations (paragraph 174) - CSRC recognizes many recommendations are worthy of attention and some have already been incorporated into work plans. - Regarding the regulator (paragraphs 175) - CSRC agrees with recommendations to strengthen regulatory coordination among the CSRC, the CBRC, and the CIRC; to place unregulated markets and products under regulation; to allow greater flexibility for the Regulator in staffing and budget; and to clarify provisions to ensure staff do not bear liability for bona fide discharge of duties. - China’s regulatory authorities will take further measures to enhance efficacy of the CBRC-CSRC-CIRC MOU, will take measures to cover previously unregulated institutions and products (e.g., private equity funds), and will consult with relevant government agencies, legislative and judicial authorities regarding staff liability and resource matters. - Regarding SROs (paragraph 176) - CSRC agrees SROs need continued attention and resources and that CSRC, SIPF, and SROs should increase investor education on market and risk. - CSRC will enhance its regulation of and communication with SROs and will seriously consider conducting regular comprehensive onsite inspections of the stock exchanges. - Disagreements or concerns (paragraph 177) - CSRC notes some Findings and Recommended Actions are misunderstood or erroneous, attributing these to lack of understanding of China’s market, failure to acknowledge remedies already in place, or lack of trust in existing mechanisms. - Regarding enforcement (paragraph 178) - CSRC states the Report does not sufficiently reflect CSRC’s efforts in cracking down on illegal investment and insider-trading. - In 2006, the Steering Group on Cracking Down upon Illegal Securities Activities was jointly established by the CSRC and Ministry of Public Security. - CSRC monitors public news media including the internet to detect clues of securities violations. - In 2001, CSRC enacted the Notice on Implementing an Incentive Mechanism for the Reporting of Illegal and Fraudulent Securities and Futures Trading, encouraging whistleblowing. - Pursuant to China’s securities laws, any securities or futures violation that exceeds RMB 300 thousand constitutes a crime, and shall be referred by the CSRC to public security authorities. - CSRC concludes illegal investment activities akin to Ponzi schemes and boiler rooms have been effectively detected and punished. - Regarding intermediaries and net capital supervision (paragraphs 179–180) - The Report recommends capital and prudential requirements reflecting intermediaries’ risks and continued monitoring of the risk-based net capital system. - CSRC believes its supervision of net capital is sufficient and appropriate. - The risk-based net capital system features off-site supervision, on-site inspection, and timely regulatory measures; CSRC has continuously monitored and assessed the system via IT monitoring platforms since 2007 and requires regular stress-tests. - CSRC reports improvements in market infrastructure and significant progress in the futures market; the monitoring system of secured custody of futures margins fits futures trading characteristics and has been important for market stability. - Regarding accounting and auditing standards (paragraph 181) - CSRC disagrees with the Rating result of IOSCO Principle 16. - CSRC has established a qualification license system allowing only accounting firms with the qualification license to audit listed companies and other market players. - CSRC conducts all-round regulation including onsite inspection of the accounting firms with relevant qualifications (currently 53 firms), listed companies and other major market players. - CSRC judges the size and professional capability of accountants and auditors are enough to satisfy capital market needs. ### Conclusion and forward-looking challenges (paragraphs 182) - CSRC accepts the FSAP Assessment as an opportunity to reflect and improve. - Identified challenges include: - further building and improving the market legal framework and enhancing enforcement and deterrence to better protect investors’ lawful rights; - strengthening regulatory coordination and function-based regulation for various wealth management products to minimize regulatory gaps; - regulating once unregulated markets and products while striking balance between financial innovation and regulation; - preventing and resolving systemic risks, strengthening oversight of cross-border capital flow and early warnings of risks from abroad; - cultivating sophisticated investors and encouraging institutional investors. - CSRC acknowledges an ongoing commitment and a long path ahead as regulators of China’s capital market. *Source: Excerpts from paragraphs 171–182 and Table 19 of the document.* ### 183. The assessment was conducted in June 2010. In addition to the 2001 CPSS-CPSIPS ### Assessment of China's Payment and Settlement Systems (June 2010) ### Methodology and Information Sources - The assessment was conducted in June 2010. - Methodology followed: - the 2001 CPSS-CPSIPS Report, and - the Guidance Note for Assessing Observance of CPSIPS prepared by the IMF and the World Bank in collaboration with the Committee for Payment and Settlement System (CPSS) in August 2001. - Information used: - all relevant laws, rules and procedures governing the systems, - China Payment System Development Reports, 2007, 2008, and 2009 (prepared by the PBC Payment and Settlement Department), - abundant material available inside and outside the central bank, - extensive discussions with regulators (PBC, MOF, CSRC, CBRC, and SAFE) and stakeholders including: Bank of China (BoC), Industrial Commercial Bank of China (ICBC), China Construction Bank (CCB), Agricultural Bank of China (ABC), Bank of Beijing (BOB), China Development Bank (CDB), Bank of Communication, Shanghai Pudong Development Bank, Standard Chartered Bank, HSBC, Bank of East Asia (BOEA), JP Morgan-Chase, Shandong United Rural Cooperative, funds management companies, China Union Pay (CUP), China Foreign Exchange Trade Center (CFETC), China Central Depository & Clearing Co., Ltd. (CCDC) and China Securities and Clearing Corporation Limited (SD&C). - A PBC self-assessment against the CPSS Core Principles (CPs) and central bank responsibilities was provided prior to the mission. ### Institutional and Market Structure - CNAPS implementation: - CNAPS consists of the HVPS and the Bulk Electronic Payment System (BEPS). - The HVPS operates in a tiered (multi-entry point) way with a national processing center (NPC) and 32 local processing centers (LCPs). - HVPS is interconnected to many trading, payments, and securities settlement systems (SSS) to allow for central bank money settlement. - Clearing infrastructures: - Numerous cheque clearing houses administered by PBC local offices or delegated to banks. - China Union Pay (CUP) handles clearance of card transactions; balances settled in the HVPS. - Automated clearinghouses (ACHs) and other systems handle clearance and settlement for various payment instruments. - Systemic importance and volumes: - HVPS: - handled transactions for a value of CY 804 trillion in 2009, approximately 24 times the GDP value. - Assessed against the ten CPSIPS of the CPSS and the four central bank responsibilities in applying the CPSIPS. - BEPS: - not currently systemically important, but its importance for efficient interbank settlement is growing. - Cheque clearinghouses: - gross value of cheques issued in 2009 reached CY 248 trillion in 2009, about 7.4 times the GDP. - 350 million cheques are interbank cheques valued at about CY 62.5 trillion (majority of cheques are “on us”). - ACHs: - handled CY 69 trillion in 2009, about two times the GDP. - Payment instrument usage: - Cash (M0) to GDP declined from 14.8 percent of GDP in 2000 to 11.2 percent in 2009. - Bank cards issuance at end-2009: approximately 2.07 billion cards issued, of which 1.88 billion were debit cards. - Bank cards accounted for over 90 percent of total non-cash volume in 2009. - FX and foreign-currency systems: - Domestic FX transactions mostly executed at the CFETC: - majority settle bilaterally; 26 participants use a net clearing model and CFETC acts as CCP at end-2010. - CY leg settlement through HVPS; foreign-currency leg with domestic settlement banks where participants hold FX accounts. - Mission not provided complete data; PBC had not conducted an assessment of this payment system—PBC urged to assess compliance with international standards as soon as possible. - FCPS: - Launched April 2008 to handle clearing and settlement of domestic foreign currency–denominated transactions. - FCPS is an RTGS system handling payment transactions in seven foreign currencies. - Values settled in FCPS do not show systemic importance. ### Payment Systems Oversight - Legal and institutional basis: - PBC oversight and regulatory powers over retail payments, interbank payments, securities settlements and related functions are articulated in Article 4 of the “Peoples Bank of China law.” - CSRC has overlapping oversight powers on securities settlements derived from Article 179 of the “Securities law.” - A formal memorandum of understanding (MoU) defines general cooperation among PBC, MOF and other authorities; no specific MoU exists defining modus operandi for payment and settlement systems. - PBC oversight activities and tools: - PBC oversees all payment arrangements in the country and has extended oversight to nonbank payment service providers. - PBC has not issued a comprehensive document covering objectives, scope, instruments and institutional arrangements of its oversight function. - Payment Management Information System (PMIS) gathers payment and settlement information from HVPS and BEPS, provides standard analytical reports, ad-hoc analysis, and enables real-time monitoring of participants’ liquidity positions. - Institutional developments: - PBC has not formally established a national payments council; legal authority exists to establish a self-regulated China payments and clearing association; a project to create the China National Payment and Clearing Association is underway. - PBC is working on projects including: launch of a “second generation” CNAPS, reform of key legal and regulatory framework aspects, and initiatives to increase retail payment penetration (especially rural areas and innovative channels). ### Main Findings and Recommended Actions - Overall assessment: - Payment systems in China operate in a safe way, but several improvement opportunities were identified. - Key recommended actions (by CPSS Core Principles and Central Bank Responsibilities): - CP 1 (Legal foundation): - Accelerate legislative reform to complete legal and regulatory framework for payment and securities settlement, including: - enactment of a payment system law to give full legal protection to settlement finality and netting arrangements; - introduction of the Interpretation of Enterprise Bankruptcy Law or revision of the Enterprise Bankruptcy Law to exempt the payment system sector from the “zero-hour rule”; - upgrade payment system rules and procedures to the level of PBC regulation. - CPs 2 and 3 (Understanding and management of risks): - Inform participants about measures taken to mitigate legal risk associated with settlement finality and projects under way to eliminate it. - Further monitor credit risk and liquidity risk by improving rules and building the second-generation payment system; relevant actions include: - provide participants with more comprehensive queuing and account monitoring functions, “package” liquidity real-time inquiry functions and large-value payment system queuing matching; - apply more active mark-to-market mechanisms for the collateral used in the intra-day liquidity facility; - as liquidity conditions evolve, maintain flexibility in conditions applied to intra-day liquidity facilities and consider removal of charging for collateralized credit. - CPs 4, 5, and 6 (Settlement): - (No specific bulleted actions listed in the table excerpt for these CPs.) - CP 7 (Security and Operational Reliability, Contingency Arrangements): - Second-generation payment system should: - improve real-time operation monitoring, carrying out comprehensive and automatic monitoring of IT resources; - improve risk warning capability to analyze potential risks and give timely warnings; - realize automatic handling of system failures to the maximum degree; - reduce system maintenance workload and increase operation monitoring efficiency and maintenance level. - Build backup system with production recovery capability, business switching capability and data searching capability across production center, remote backup center and data backup center in same city to ensure continuous processing and integrity of information and data in emergencies. - CP 8 (Efficiency and Practicality): - Consider adjustments to increase efficiency and practicality: 1) multiple access point feature might impact efficient liquidity management and adds to participation cost; 2) high-value electronic transactions might still be perceived as relatively more expensive vis-à-vis large-value cheque transactions (commercial banks gradually switching customers to other electronic options); 3) operating hours could be extended to reflect growing importance of the system. - CP 9 (Criteria for Participation): - PBC plans to revise Administrative Measures for Accessing to and Exiting the Payment System by Banking Financial Institutions to specify and detail access examination procedures, including: - testing relevant personnel on knowledge about the payment systems; - onsite check of the payment settlement processing environment; - summoning top management for prudent talks to increase operability of access review and approval. - CP 10 (Governance): - Continue to involve more system participants in the “second generation” project and create a formal users’ group to facilitate cooperation and system performance. - Regular rehearsal of crisis procedures for all types of emergencies across PBC departments and with system participants is recommended. - Over time, PBC should strive to achieve full observance of other CPs. - Central Bank Responsibilities A–D: - PBC should publish a detailed oversight policy document covering policy stance, scope of oversight (including promotion of competition and consumer protection), major policies and instruments (risk control, access, governance, transparency, pricing, reliability, business continuity, efficiency), criteria for systemic importance (with a list of systems to be monitored), and institutional arrangements/cooperation. - Priority actions: - achieve full compliance of the HVPS with CPSIPS; - conduct a thorough evaluation of risks associated with cheque clearing and proactively remove large-value payment items from cheque clearinghouses as a matter of urgency; - clarify roles of Payment and Settlement Department and internal audit in oversight of PBC-operated payment systems; - adopt more proactive oversight of CFETS and ACHs, including assessments against international standards; - refine domestic cooperative framework by activating and implementing MoUs on payment and settlement issues, establishing a structured oversight working framework with relevant authorities, and creating the China National Payment Association; - continue international cooperation with relevant central banks and international organizations and apply CPSS cross-border cooperative framework. ### Authorities' Response - The Chinese authorities: - welcome and support the CPSS assessment as an opportunity to improve China’s payment and settlement system according to international standards. - praised the assessment team’s quality, professionalism and ability to address complex issues under time constraints. - noted developments over the past decade including: - construction of a payment network comprising central bank inter-bank payment systems, banking institutions’ internal payment systems, securities settlement system, FX settlement system, bankcards payment system, and other retail payment systems run by private sectors; - widespread adoption of non-cash payments, electronic handling of commercial drafts, rapid growth in bankcard penetration, and dramatic development of online, mobile and telephone payments; - diversification of payment providers (central bank, banking institutions, nonbanking institutions, securities settlement institutions) and market-driven payment services; - expansion of modern payment means into rural areas and orderly development of pilot cross-border RMB trade settlement; - improvements in bank settlement account management, promulgation of regulations on bank settlement accounts, establishment of bank settlement account management system, nationwide identity authentication system with Police Bureau to implement “know your customer” scheme; - strengthened payment system oversight with safety and efficiency as priorities, improved supervision techniques, and realization of DVP mode in the bond market. *Source: IMF assessment text (excerpts covering paragraphs 183–198).* ### 199. The Large Value Payment System (LVPS) run by the PBC has been designated as the ### _cr11321 - 199. The Large Value Payment System (LVPS) run by the PBC has been designated as the ### LVPS assessment and immediate actions - The Large Value Payment System (LVPS) run by the PBC was designated as the systemically important payment system and assessed against the CPs. - Assessment conclusion: the system observes (observed or broadly observed) all the CPs except CP I (legal basis). - The PBC pays high attention to the assessment results and appreciates recommendations of the IMF and the WB. - Implemented change: one point entry in CNAPS1—e.g., the treasury centralized booking system and China postal savings bank’s internal payment system have been connected to CNAPS1 from one point and settled their transactions with one account. ### Planned measures to strengthen payment systems (policy priorities) - CP I Legal Foundation - PBC recognizes shortcomings in the legal framework. - PBC has decided to draft a payment system act to avoid the effects of the “zero hour rule” and give legal recognition of netting arrangements and settlement finality. - The legislative process will take time and may involve many authorities. - CP VIII Practicality and Efficiency - PBC is launching the 2nd generation of CNAPS (CNAPS2) to increase efficiency and practicality. - CNAPS2 will be designed to extend the opening hours of settlement to meet the needs of users in different areas and various financial markets. - CP X Governance - PBC will improve management, upgrade the payment system and conduct a regular drill of emergency procedures aiming to achieve full observance of the CPs. ### Central bank oversight responsibilities and institutional initiatives - PBC commitments - Fully agrees with recommendations and will take measures to ensure full observance of all CPs. - Will clarify in detail its policy stance on payment system oversight in a publicly available document. - Will extend oversight over all payments and securities settlement systems, including systemically important systems and retail payment systems. - Will assess the safety and efficiency of CFETS and the ACHs with relevant international standards. - Is about to establish the China National Payment Association. - Will strengthen cooperation with relevant authorities, foreign central banks and international organizations. ### Assessment of securities settlement systems and CCPs — scope and approach - Assessment basis: Recommendations of CPSS-IOSCO for RSSS and RCCP; assessment conducted in September 2010. - Information sources: laws, rules, procedures, CSRC Annual Reports 2008 and 2009, CDC Annual Report of China’s Bond Market 2009, PBC FSAP questionnaire responses, and discussions with PBC, CSRC, SSE, SHFE, DCE, ZCE, CFFEX, CCDC, SD&C, SAC, CFA, market participants and self-assessments by CCDC, SHFE, and CSRC Department of Market Supervision. - Assessment focus: processes and functions (including OTC trades), not institutions. ### Institutional and market structure highlights (selected facts) - Securities markets organized around: bond market, corporate securities market, futures market. - Bond market composition: interbank bond market, exchange bond market, bank counter market. - Interbank bond market accounts for more than 97 percent of total bond trading volume. - Stock exchanges: - SSE established in 1990; as of 2009 ranks as the 3rd exchange worldwide in share trading with RMB 34 trillion. - SZSE established in 1990; as of 2009 ranks as the 6th exchange worldwide in share trading with RMB 18 trillion. - Commodities exchanges: SHFE, DCE, ZCE. - SHFE ranks as the 10th derivatives exchange worldwide (number of contracts traded) and the second largest commodity exchange. - CFFEX established in 2006 as a joint venture of SSE, SZSE, SHFE, DCE, and ZCE; volume and value remain relatively modest. - CCDC - Acts as SSS and CSD for bonds; only institution entrusted by MOF as depository for government securities. - Established in 1996 as a Government entity; regulated and overseen by PBC and MOF; CBRC involved in appointment of Executive Managers. - Settles bond transactions (spot, repo, forward) on a gross basis; CCDC management, under PBC guidance, is considering introducing a netting facility. - Securities held at end-investor level in most cases (98 percent). - Book entry system interconnected with interbank trading system (CFETS); cash settlement in central bank HVPS. - Settlement timing: T+0 for most transactions (82.9 percent of total value settled in 2009). - Settlement modalities: DvP, Payment after Delivery (PaD), Delivery after Payment (DaP), Free of Payment (FoP). - SD&C - Acts as CCP, SSS, and CSD for instruments traded on SSE and SZSE. - Established in 2001; jointly owned 50 percent by SSE and 50 percent by SZSE. - Settlement based on front-end availability of securities and funds; securities held at investor level; funds held via third party custodian banks with SD&C as settlement agent. - Futures exchanges - Each has clearing and settlement departments acting as CCPs. - Settlements: cash (daily mark to market) and physical (delivery). - Pre-margining system and other risk controls: price limits, limits to speculative positions and large holders, compulsory closed-out, warning indicators, settlement reserves. - Cash settlement via accounts of five commercial “settlement” banks (custodians for margins; exchanges conduct settlement functions). - China Futures Margin Monitoring Center established in 2006 as non-profit under sponsorship of three futures exchanges. ### Main findings on safety and improvement opportunities - General finding: securities settlement systems in China are operated in a safe way. - Improvement opportunities identified (summarized in Tables 21–23), covering legal risk, pre-settlement risk, settlement risk, governance, communication standards, disclosure, oversight, and cross-border link risk analysis. ### Selected recommended actions (high-level, by topic) - Legal risk (RSSS—OTC Bonds Market—CCDC) - Review legal and regulatory framework to provide a solid legal basis at the Law level (not only Ministry-level procedures) for clearance and settlement of interbank money market, OTC bond market and CCDC. - Analyze and improve efficiency of collateral disposal. - Address potential conflict of laws in cross-border settlement as markets interact more with foreign markets. - Pre-settlement risk - Ensure confirmation of trades between direct market participants as soon as possible after execution, no later than trade date (T+0); indirect participants preferably T+0 but no later than T+1. - Ensure all OTC transactions are confirmed on T+0. - PBC should finalize assessment on whether a CCP is justified for the market typology; if introduced, CCP must rigorously control assumed risks. - CCDC should consider improving securities lending and borrowing mechanisms beyond current bilateral arrangements; improve accounting practices and tax rules to facilitate securities lending and borrowing. - Settlement risk - CCDC encouraged to further increase DvP use to reach 100 percent settlement on DvP basis as soon as possible. - Protection of settlement finality should be included in the legal framework. - Governance, transparency and cross-border standards - Clear separation between oversight function of PBC, supervisory tasks of CBRC and MOF, and PBC operational responsibility. - CCDC should improve use of international communication procedures and standards to facilitate cross-border trades. - CCDC should disclose answers to CPSS/IOSCO disclosure framework questionnaire or key assessment questions. - PBC should clarify its roles with respect to CCDC, distinguishing oversight/supervisory role from participation in governance. - Address lack of comprehensive standardized procedures to analyze risks in cross-border links. - SD&C specific recommendations (RSSS—Stock Exchange) - SD&C to evaluate strengthening robustness as a CCP (monitoring exposures, stress tests, availability of financial resources). - CSRC and SD&C should publicize SD&C clearance and settlement arrangements to address perceptions about DvP compliance. - SD&C should perform comprehensive assessment of credit risk exposures, including possibility of multiple failures. - Achieve full compliance of payment systems used to transfer funds with the CPSIPS to ensure no settlement risks stem from liquidity and credit risk in payment systems. - SD&C should develop an action plan to comply with all RSSSs; governance must be accountable. - SD&C, exchanges and market participants should evaluate and adopt relevant international communication procedures and standards. - SD&C should disclose CPSS/IOSCO disclosure framework responses. - Authorities should structure technical cooperation more formally and create an appropriate forum to discuss payment and settlement matters. - Prepare a standardized framework to assess risks associated with cross-border links as internationalization progresses. - SHFE (RCCP) specific recommendations - Statutory law should contain provisions on derivative trading: enforceability of trades, finality, netting, novation, investor protection and collateral protection. - Legal basis for accepting warehouse receipts as collateral for margin is unclear; this threatens CCP stability. - SHFE urged to undertake self-assessment with new CPSS-IOSCO standards under preparation (to be released in 2011) and consider organizing a workshop with local and international practitioners. - SHFE should publish the disclosure framework for the CPSS-IOSCO RCCP. - CSRC and PBC should establish a cooperative oversight framework for CCPs given concentration of risks and potential effect on financial stability. *Source: IMF staff assessment text as provided in the content unit.* ### 212. The PBC and CSRC appreciate the significant undertaking associated with the FSAP ### _cr11321 - 212. The PBC and CSRC appreciate the significant undertaking associated with the FSAP ### Overview of the FSAP assessment and reactions (paragraphs 212–213) - The PBC and CSRC appreciate the comprehensive FSAP review by the IMF and the World Bank assessing the SD&C, CCDC, the SHFE against the CPSS-IOSCO RSSS and for Central Counterparties (RCCP). (paragraph 212) - They pay tribute to the efforts of all parties and the professionalism of the assessors, and recognize the assessment’s positive and far-reaching influence on the stability and effective regulation and oversight of SIPS, clearing and settlement systems. (paragraph 212) - The assessment is described as objectively reflecting the status of the settlement system in China’s security market, bond market and futures market, and the compliance of the SD&C and CCDC with the RSSS, and the compliance of the SHFE with the RCCP. (paragraph 213) - The PBC and CSRC will share and analyze the assessment’s comments and recommendations with SD&C, CCDC and SHFE, consider absorbing and adopting them in the future, and coordinate to ensure SSS in China operate in a secure, efficient and transparent environment. (paragraph 213) ### CSRC reservations on SHFE compliance with the RCCP (Recommendations 1 and 4) (paragraph 214) - CSRC holds reservations about parts of the assessment of SHFE on its compliance with the RCCP, specifically Recommendation 1 and Recommendation 4. (paragraph 214) - On the issue of legal basis: - Chinese legislative system: laws promulgated by the National People’s Congress (NPC), administrative regulations issued by the SC. Administrative regulations are “an important part of China's legal system, providing legal basis for not only administrative regulation, but also the settlement of disputes and cases by judicial authorities.” (paragraph 214) - The Regulations on the Administration of Futures Trading, an administrative regulation governing futures trading, is identified as the legal basis for China's futures market. (paragraph 214) - CSRC statement: “We do not believe legal gaps exist in China’s futures settlement system.” (paragraph 214) - On the legal recognition of the use of dematerialized warehouse receipts as margin contributions: - The use of standardized warehouse receipts as margin contributions is “clearly stipulated in the Regulations on the Administration of Futures Trading, the Measures for the Administration of Futures Exchanges and the relevant business rules of futures exchanges.” (paragraph 214) - The Property Law “contains clearly-stated provisions on pledge right.” (paragraph 214) - In practice, the SHFE designates delivery warehouses to serve as the registration authority for the pledge of dematerialized warehouse receipts; “There have never been any controversies or disputes in this regard.” (paragraph 214) ### PBC reservations on CCDC compliance with the RSSS (Recommendations 1 and 8) (paragraph 215) - PBC holds reservations about parts of the assessment of CCDC on its compliance with the RSSS, specifically Recommendation 1 and Recommendation 8. (paragraph 215) - Key legal and operational points cited by PBC: - “Since bond is a kind of security, the Securities Law applies to interbank bond market. Also the finality has legal certainty.” (paragraph 215) - Regulations issued by PBC indicate: “bond transaction settlement cannot be revoked once completed,” and “the cash and bonds with the status of waiting for transfer in the settlement process and the collateral regarding to the settlement can only be used for completing the settlement and shall not be enforced compulsorily for other purposes.” (paragraph 215) - The PBC notes: “The spirit and principles of the Securities Law apply to domestic securities market in China, including inter-bank bond market; despite that the Securities Law contains specific provisions more on the exchange market.” (paragraph 215) - Regulations promulgated by PBC are characterized as “the special provisions in Chinese legislation system on securities,” and under the Law on Legislation, “regulations issued by PBC belong to broadly defined laws and have legal enforceability.” (paragraph 215) - PBC’s conclusion: owing to these provisions, the inter-bank bond market “has been operating smoothly and safely these years since its establishment.” (paragraph 215) ### Follow-up and commitments (paragraph 216) - The PBC, together with CCDC, will seriously analyze the opinions and suggestions raised in the Assessment Report and continue improving the depositary and settlement system of China’s inter-bank bond market. (paragraph 216) *Source: _cr11321 - 212. The PBC and CSRC appreciate the significant undertaking associated with the FSAP* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2011/_cr11321.pdf_