Foreign Banks in China

1. Introduction With the globalization of investment markets, foreign banks are seeking opportunity to incorporate in China. Because during global economic crisis, most enterprises are facing the low profit problem but China seems to be an exception. China still kept a high rate development for these years. Moreover, China is becoming one of the cores of the world’s economy. However, the rising prices and market volatility seems to force China in to an extreme challenge. And the regulatory policy of the government a pressure needs to be face for the banks all over the world. There are several types of banks in China.

First one is the bank operated directly by the central government People’s Bank of China (PBOC), which is the note-issuing bank. The second type is the stated-owned commercial bank, such as, the BOC, ICBC, CBA, ABC; the four major banks are dominating the overall China market. Generally, the four banks account for more than 80% of the total business loans and deposits of the Chinese urban market. The third types are policy banks, which refer to Agricultural Development Banks of China, specialize in policy loans including state reservation and purchase of agriculture by-products and development of agriculture.

And China Development Bank specializes in providing financial support to important construction projects of the country. The Export-Import Bank of China, providing financial support for the import and export trades in the state. The fourth type of bank in China is joint-stock and other commercial banks. From late 1980s, various provinces and cities have been permitted to set up joint-stock banks and other commercial banks through capital rose locally and abroad. The last type is foreign banks, there are 53 branches of foreign banks operating in China get the permission from People’s Bank of China to conduct RMB business.

Their business sectors are gradually boarded after China became a member of World Trade Organization (WTO). For a long term, foreign retail bank entry China banking sector was strictly regulated by the policy and entry requirement. In addition, there were several rules and regulation to restrict foreign retail banks activities in mainland China. For example, only Shanghai and Shenzhen were open to foreign retail bank until 2001 and the foreign retail banks were only allowed to conduct business with foreign company and individual in these two cities.

Following the commencement of China’s 1978 economic reform program, foreign banks were allowed to build presence in mainland that offered consultant services only for foreign firms operated business in mainland China. They were allowed to enter the local to set up representative offices by four forms of entry: foreign bank branch; wholly owned foreign banks; joint venture and foreign strategic investment. And since late 1980s with the economic reform program the foreign brand branches enjoyed a faster growth. For instance, the first branch was built in 1981 in Shenzhen.

By the end of 2006, 74 foreign bank branches of 22 countries had set up 209 branches and 79 sub-branches in 25 cities. ( Towards a more accurate measure of foreign bank entry and its impact on domestic banking performance: The case of China) according to a survey conducted by KPMG in 2012, the foreign banks enjoyed the most profitable year in China during 2011. Profit after tax raised 115% to RMB16. 73 billion in 2011compared to RMB7. 78 billion in 2010. Total asset increased by 24% to RMB2. 15 trillion at the end of 2011. Market share of foreign banks reached 1. 93% from 1. 83%.

2.1 Information background HSBC, HSBC (China) limited company, was founded on 29th, March, 2007 and open officially on 2nd , April ,2007, the headquarter was set in Shanghai, it’s the branch office of Hong Kong Shanghai HSBC limited company. ( HSBC Annual Report,2012) On March 23rd 2012, HSBC has rewarded as winner of the Best Foreign Retail Bank in China for the 2011 year during the 11th International Excellence in Retail Financial Service Awards Event. HSBC present the strength in the foreign retail banking in China market has led itself a virtual shoo-in for this honor. (HSBC in China, 2012).

In China, HSBC own one of the largest service networks among all the foreign banks in mainland China with 132 outlets in 42 cities crossing 20 provinces/ municipalities. The provinces approximately cover 86% of China’s GDP and 96% trade in China. These 42 cities represent approximately 22% (294m) of China’s total population. (HSBC Annual Report, 2012) Standard, Chartered Bank, Standard, Chartered Bank set up its first business in Shanghai in 1858 and has remained in operation throughout the past 150 years. Standard, Chartered Bank is one of the first foreign retail banks to start incorporating in China.

(Standard, Chartered Annual Report, 2012). On 9th, January,2013 the Standard Chartered Bank( China) Limited announced to its 100 branch in Chinese Mainland. (Standard Chartered Bank Opens the 100th Outlet in China,2013). The Bank has been named the Best Foreign Retail Bank in China at the Asian Banker’s Excellence in Retail Financial Service 2008 Award Ceremony (Standard Chartered-leading the way in Asia, Africa and the Middle East,2013). Citibank, One of the world’s leading global banks, is the consumer banking branch of financial services giant Citigroup.

The bank founded in 1812, as the City Bank of New York, later First Bank of New York. So far, Citigroup is the third largest bank holding company in the US by total assets, following Bank of America and JPMorgan Chase. The company has retail banking business in more than 160 countries and regions in the world. In China, thirteen corporate bank branches were launched (Beijing, Changsha, Chengdu, Chongqing, Dalian, Guangzhou, Guiyang, Hangzhou, Nanjing, Shanghai, Shenzhen, Tianjin, Wuxi). Citigroup would be the first non-Asian foreign bank to launch credit cards service in China.

Citibank (China) offer the credit cards to its’ Chinese customers in late 2012. Before this, Citi had offered a ‘co-branded’ credit card with Shanghai Pudong Development Bank (SPDB) in 2003. 1. 2Aim of the Report The report seeks to investigate in the foreign banks in China since China has joined WTO and the operating environment and business strategy has changed. HSBC, Standard, Chartered Bank and Citibank are chosen out to be the representative of the foreign retail bank. The aim of this report is to analyse the operating environment and competitive arena of the foreign banks industry in China.

In addition, the report would find out whether the characteristic and the competitive advantage of the foreign competitors can help them to get a strong position in China or not, and what is its future development. 1. 3Structure of the Report The content of the report is mainly insists of 5 parts. The first part is the introduction of the background information and the three main foreign banks in China. The second part is based on PEST Analysis to find out the remote environment of foreign l banks in China.

The third part would analysis its’ operating environment and identify the important various contributing factors through Porter’s Five Force Analysis. In the following part, a conclusion of the previous analysis would be presented. The evaluation of PEST Analysis and Porter’s Five Forces Analysis would be displayed in the final part. In this part, a future development of foreign banks in China would also be showed. PEST Analysis 2. 1 Political environment 2. 1. 1 China joined WTO China has been a member of WTO since 11 December 2001. .. (< China’s WTO Accession and Long-Term Profitability of Chinese Firms>, Neng Jiang& Paul .

A. Kattuman, 2012). After the accession in WTO, limitation for foreign banks is gradually relaxed by the end of 2001. Within the five years after China joint WTO, the type of clients and location restrictions are substantially lifted. From December 2006, foreign banks enjoy no more differential limitation to entry and could enjoy the same policy as local banks First of all, foreign banks are permitted to enter China to set up representative offices by four forms of entry: foreign bank branch; wholly owned foreign banks; joint ventures; and foreign strategic investment.

Of these types of banks, foreign brand branches take up the largest percentage and widest coverage in mainland China. As a result a great amount of foreign banks entered China market and the existed foreign banks have an expansion plan for their business. The total number of foreign banking entities doubled and total banking assets tripled from 2003 to 2007. (table) In addition, like the domestic banks, foreign banks’ major business in China are taking deposits and making loans. A significant characters of foreign banking is that they collected more loans than they extend deposits.

(figure) Foreign banks’ ability to collect deposits, especially Reiminbi (RMB), was mainly restricted by government . This situation started changing after the WTO accession, especially after 2003 (Fig. ). There has been a rapid rise in loans followed by an increasing in deposits, showing a higher rate expansion of business with relaxed restrictions. What’s more since 2005, loans have substantially passed foreign liabilities with the difference being financed by dramatically raising local deposits as well as loans from the domestic market. Overall, foreign banks engaged more deeply into the local market.

As a result, incorporated foreign banks are subject to the same regulation within China as domestic banks at present and are able to compete directly with them in China. 2. 1. 2 Government regulation The regulatory requirements are various according to different status. For foreign bank branch offices their RMB business to Chinese citizens needs to be subjected to China Bank Regulatory Commission (CBRC) approval, they cannot provide RMB business to Chinese citizens except for acceptance of deposits in over 1 million RMB. While the locally incorporated WFOE or Joint Venture can provide RMB business to Chinese citizens.

As to minimum capital, the foreign bank branch office can operating fund of RMB 200 million, whereas the locally incorporated WFOE or Join Venture can registered capital of RMB 1billion in freely convertible currency. But there is no restriction o f loan to deposit ratio for foreign bank branch office, while the locally incorporated WFOE or Joint Venture must be less than 75 percent (a grace period to 21 DEC,2011 is provided). The Chinese government recently published a number of significant institutional changes, in order to improve domestic banks for the fierce competition.

These changes would enable foreign banks a remarkable supervised and market-driven environment for operations in mainland China. With the improved financial regulation and supervision to maintain a stable and secure environment for commercial banks to operate and the interest rate of bank depositors are secure. (KPMG,2008) The new supervise regulation allows the central bank to focus on the formulation and implement of monetary policy, wheras the newly founded commission focuses on effective bank supervision and revising and enforcing regulations aimed at facility licensing.

However, the regulation is continually expand and become complex for foreign banks. Each year the government will publish new perspectives to the scope of the regulation (KPMG,2012). Although the foreign banks have to face the difficult regulatory environment in a long term, they realized the necessary of financial reform and looking forward to the internationalization of RMB and the gradual liberalization of interest rates. 2. 1. 3 Regulation supervisor The PBOC and CBRC have already revise their regulation times to ensure the standards for foreign and local banks and create an equal compete environment.

These regulators are aim to improve the current policies, foreign banks must abide by additional regulations, which include local laws, department rules and regulations, operational guidance documents and notice documents. Among these, China’s regulators monitor focus on five essential fields: stability, independence, compliance, risk and operational management. After foreign banks’ entry to China, the CBRC also monitor their independence from their parent company. With the support of the parent bank, the locally incororperated must make sure it’s operation is independent.

in this case, foreign banks have to develop their own system including risk identification, risk supervision and risk evaluation functions. Therefore, the banks must make sure their risk management employees are qualified to handle the risk without relying on the risk management functions. 2. 2 Economic Environment 2. 2. 1 Global Environment Crisis Since the financial crisis in 2008, the global economy is recovering within these four years. According to the bank’s June 2012 Global economic prospects update, the global economy is expected to reach a 2. 5% expansion in 2012 and 3% in 2013.

Developing countries economy growth will slow down to 5. 3% while developed countries will only expand at the rate of 1. 4 %( 2011, the World Bank group). Following the dramatic fall of the global economy, the growth of China economy fell from 13% in 2007 to 6. 8% in 2008. However, the government response to the crash immediately by shaping a 4 trillion China Yuan (RMB) stimulus package in November 2008. Meanwhile ,the central bank, the People’s Bank of China(POBC), lower the growth rate of credit and interest rate deeply and the boost of board money.

(2010, Yu. Y)But only 4-year is not enough to see whether the economy has recovered. However, with the stimulus package to save the economy the investment rate tend to be higher than the economy crisis. According to Zhongjing Net database, China’s investment rate has grown from 46% in 2007 to 49% in 2008 and the trend of growth is quite sustainable from the pre economy crisis period. As a developing country China’s investment rate is dramatically higher than its neighbor, Korea and Japan compared to their peak growth period.

Generally, it seems there is no need to worry about China’s ability to recovery from the economy crisis. 2. 2. 2 Internationalization of RMB and liberation of interest rate With China become the second largest economic in the world over the past years by its’ GDP. The internationalization of RMB (RenMinBi) has started in the process. Although there are some The liberation of interest rate convinces that it will place them in a priory position. A more open market enables them to be more competitive against the domestic banks.

Nevertheless the timing is still uncertainty as well as the level of the liberation even if most of the banks believe it will be in processing soon and the reactions of the four big banks are still unknown. And the bank’s scale could make a big difference to the foreign banks’ response to interest rate liberalization (PWC,2012). With the internationalization of RMB in the future and the interest rate reform will bring more opportunities to foreign banks in China as it will cause a structure reform in banking industry.

It will definitely help them to show their expertise in debt capital markets, financial products, interest rate and currency swaps business. 2. 2. 3 GDP According to the statistics by National Bureau of Statistics of China, the development of China economy has kept rapidly and stalely since last century. (figure) Chinese GNI per capita PPP 7,520 US dollar in 2010, increase to 8,390 US dollar in 2011. The GDP growth rate in 2010 and 2011 was 10% and 9% respectively. (www. worldbank. org)There is a positive correlation between per capita GDP and loan amount of personal credit, according to a research on economics development theory.

Hence, the positive correlation implies there is massive potential for the growth of capital market. *Source: World Development Indicators 2. 3 Social-Cultural Environment 2. 3. 1 Acceptance of Credit increase ( Credit card business analysis of Bank of China- Is BOC credit card competitive? ) The first credit card in China was issued by Bank Of China (BOC) in 1985, one of the most well-known state owned- bank. At that time, owning a credit card was regarded as a symbol of social status. (Qiu,T,and Chun. P,2010) Because only people who are rich, powerful, decent are qualified to own a credit card.

However, with the growth of middle-class population, more people adopt the usage of new financial instruments such as credit card, insurances, purchasing stock as an investment instead of depositing money to gain interest. People find it more convenient to pay by credit card instead of cash. Today, the foreign banks become competitive competitor to the domestic banks in this credit card business. 2. 3. 3 Change in financial habits Because the undeveloped social secure system Chinese people has a great emphasize on saving the money. Chinese people have a great different in financial habits with western people.

For western people they would prefer pay a debt for their purchase, while traditional Chinese people would rather save enough money for their purchase. (Comparison of Chinese and American Consumption Tradition, 2005) However, the western concept of “consuming first, paid back later” has gradually accepted in China, especially the raising middle-class population. These people are well-educated and more likely to invest in financial products than saving the money in banks. Even it’s more risky to invest in financial products, such as, purchase stock, but the rate of return is obviously higher than the interest of saving.

“Now it’s already many years into the initial introduction, the urban Chinese consumers are getting more and more confident in using credit cards as a primary payment tool. In big cities like Beijing and Shanghai, the usage rate has reached 44. 5% this year. In middle-sized cities the number is also high at 35%. On average, more than 20% are new users from last year. ”(Meng, 2010). In addition, people may have the emergency demand for a big amount of cash sometimes, therefore the personal loan should have a potential growth. With this context, there is far more potential for foreign banks to development their business in China.

2. 4 Technological Environment 2. 4. 1 Automatic Teller Machine (ATM) ATM is a stand-alone machine set inside or outside of banks to serve consumer since 1990’s. With the installed network system, ATM can served consumers efficiently anywhere. Moreover, the information of consumer’s account can be updated with the real-time system, which is time saving and secure. In the past, ATM can only be used by the deposit card of its own banks, but with the development of technology the system is access able to other financial organizations such as VISA, Master Card, American Express,etc.

In order to better serve the consumers, if they don’t have the deposit card of that bank, they can still overdraw money through their credit cards anywhere when they need money. And the relative information will be sent through the system back to credit card information center. Recently, the ATM has developed a new function which called “Viewpointe Archive Services” innovated by IBM. This new function enable bank to handle cheque more efficiently. Through this service it save the banks a lot of resource and more convenient to consumers. At present, the ATM machine has played a significant role in people’s daily life.

Other than withdraw money, people can check their account balance, transform money between different accounts, some certain ATM can deposit money and even deposit cheque. But because of the average education level in China is not high; banks may need to recruit extra guidance for the ATM inside the outlets. 2. 4. 2 Customer relationship management (CRM) It’s a system about organizations to maintain the relationship with consumer; it helps the front line staff to make direct interaction with customer through e-mail, internet and automatic call. These are the high efficient way to reduce the operating cost for banks.

The banks should have database or data warehouse to store the massive information. Additional software are also needed such SPSS or SAS to do a further analysis. In particular, the front line staffs need to use the software for example Siebel System to support the consumer agent. In China, such system is lacking for the domestic banks. However, the foreign banks have experience in profiling their customer data. (Qiu,T,and Chun. P,2010) 3 Porter’s Five Forces Analysis The operating environment includes the suppliers to and buyers of the business in the focus competitive arena.

There are also considerations of the in-fighting between the businesses inside the competitive arena, with their rivalry. ( Paul,F,2000) Porter’s famous five forces model of operating environment is a perfect model to illustrate the bargaining power of suppliers, the bargaining power of the buyers, the threat of new entrants and the threat from substitutes. (figure) Each of the five forces will be analyzed in turns in this report. 3. 1 Power of suppliers (depositor) For commercial banks customers can be regarded as suppliers, for they make a deposit in the bank, which is part of the capital source.

Therefore, the depositors will make a comparison between banks before making decisions. To think about just save the money in banks or invest on other financial products such as debenture, purchasing stock. ( Yingjia L and Long Z,2012) With the improvement of life standard and education level, the suppliers have more channels to get the information they need , and have various demand for financial products. On the other hand, the competition tends to be more intensive between domestic banks and foreign banks. For example, the competition of credit card business is intense among the banks.

VISA, Master Card and American Express occupies the most market share in credit card business in the world (Meng, 2010). Nevertheless, there are some other organizations also issue credit card. And people will also consider the reputation of the banks, for instance, HSBC, Chartered standard and Citi bank are more familiar to the Chinese consumers. In the recent survey of Pwc these three banks has a outstanding performance. The foreign banks with more experience with high-profit customers and have a mature system to innovate new financial products.

While the domestic banks have limited experience on developing financial product and cannot offer that much choice to customer as their competitors. HSBC’s customer accounts and net customer loans and advances has keep a growth at 13% and 22% respectively in China, which is the biggest profit contributor in Asia outside Hong Kong SAR. (HSBC Annual Report,2012) Standard chartered ,income was raised by 30% to 296million US dollars, indicates strong growth in deposit and personal volumes, as well as the improved mortgage margins and sustainable growth in SEM (Standarded Chartered Annual Report,2012). 3.

2 Power of buyer (borrower) As a high concentration of buyer industry, almost everyone cannot live without get in touch with bank. Almost every people need to use service of banks, such as deposit money, receive salary and make a loan, insurance and currency exchange . In this context, concentration refers to the buyer is monopsony-many suppliers and only one customers, more specific, the customer can choose the bank they prefer but the banks cannot choose their customer. (Finlay. P, 2000) For most of the Chinese, they get used to the stated-owned banks, especially the big four stated-owned bank, BOC, ABC, ICBC, CBA.

At present, Internet has played a significant role in people’s life, people can easily get the information they want through Internet. In another word, they have full information. Information can be regarded as power that the information is not only about the characteristics of the customer itself, but also information about the banks. Hence, they can make a comparison between the price and the service conveniently. Especially, the interest rate and service charge are various from local banks and foreign banks, normally, foreign banks charge higher service charge than local banks due to the high operation cost .

and customers are quite sensitive to these, for it indicated them to draw out all or a great amount of capital from bank to bank or other institution. 3. 3Potential entrants In the post WTO era, many countries joined WTO and with Internet effect m the barrier between banks become weaker. The local or foreign financial institution or even non-financial institution are trying to get into bank industry, such as the famous IT companies like, Microsoft(China),Sony have the plan to entry the e-banking business in China .

The A Li Ba Ba group which is a famous B2B company has developed its’ online payment system and gain a great success in China. The operation cost for these new entrants can be low, because they only need to pay little money to build a website or integrate with non-financial organization such as consultant agency. As the low operation cost, these organization won’t charge the consumer high switching cost to attract them. 3. 4 Threat of substituted Substitute play a significant role in bank industry, for consumers can easily to consider the offer that the banks provide better value service and money.

(Finlay. P,2000) Depositor and investor would switch as long as the costs and related risks are not beyond acceptance. With the development of the capital market and the more disposable income of Chinese people, they have a great demand for new way to invest and new financial products. Not only the financial institutions enjoy the equal compete places but also the non-financial institutions can get in the competition to take place some service of traditional banks. For example, A Li Ba Ba Group is famous for its Ali pay service in e-banking market and has become the market leader in e-bank market.

Especially with the rapid development of e-business, the advantage of e banking is outstanding. There are four reasons for most people to use e-bank, firstly, the paperless work through computer or smartphone has reduced the cost and more continents. Secondly, the high efficiency and fast feedback, all the e-bank services are 24 hour operating, consumer can use it whenever they want. Next, low operation cost. Last but not least, easy to use. Consumer just needs to log in and following the instruction until finish.

3.5 Intensity of Rivalry One of the obvious advantages of foreign banks in China is that they have wider products offer. And the structured products and interest rate and currency swaps are also essential areas for their development in China. On the retail section, investment products were always occupied the first place probably recognizing the transformation will turn up. Therefore, many foreign banks will focus on organic growth but acquisitions in different parts of the financial sector maintain a crucial part of banks’ strategies.

Rivalry between domestic banks and foreign banks Local competitors: The major four specialized banks (i. e. , BOC, CCB, ABC, and ICBC) have dominated the overall banking market in China in regard to assets and branch network. Bank Of China (BOC), which specialized the foreign trade business. China Construction Bank (CCB), which specialized in construction of infrastructure. Agriculture Bank of China (ABC), whose target consumer are from the rural area in China. Industrial and Commercial Bank of China (ICBC).

| Net interest income| Non-interest income| Operating expense| Operating profit before provision| Name of the bank| 2011| 2010| 2011| 2010| 2011| 2010| 2011| 2010| HSBC Bank (China)| 6,333| 3,315| 1,802| 1,307| 4,181| 3,680| 3,954| 942| Standard Chartered Bank (China)| 4,839| 3,672| 701| 834| 4,111| 3,843| 1,429| 663| Citibank (China)| 2,689| 1,305| 1,698| 1,650| 2,480| 1,878| 1,907| 1,077| Conclusion: It could be implied from the PEST analysis that the remote environment in China is potentially beneficial to the foreign banks to develop their business in China.

Policies in China became loosen since China joined WTO even there is some challenge for their expansion. Economy in China is ideal for foreign banks to invest because the stable GDP growth and great demand for investment. The social environment in China implies the present is the best era for foreign banks to develop. And the advantage in CRM makes foreign bank enjoy a priority position in the competition compare with the domestic banks. In the Porter’s Five Forces Analysis, it shows that the operating environment for foreign banks in China is encouraging.

As the barriers to entry become lower, it leads to the competition become fierce. The power of suppliers is become weaker, whereas the power of buyers becomes stronger. The threat of potential substitutes is growing up. In addition, the rivalry is not really intensive between the domestic banks and foreign banks , for they have different segmentation. To summary, both of the remote environment and operating environment are beneficial to the foreign banks in China. Suggestion: The foreign banks should develop diversity financial product and service to meet the various needs of customers.

For foreign banks, with the improvement of people’ life standard and raising disposable income they will have different levels of demand in investment. There is great potential growth in financial products and high-profile customers. The economy in the second or third tier cites or towns have great potential to develop but the capital market is not well-developed. Foreign banks can find the new opportunity to expansion their business. The securing capital is still in risk even the access to financing has developed substantially in the past few years for small and medium sized enterprises.

In China, many SME are relying on profit-based funding or non-bank financial institutions. And most of the profit-driven companies are SME hence they contributed over 60% of the GDP. (KPMG,2012) In order to accelerate the expansion in China, foreign banks must take the SME in to account to overcome the disadvantage network and resources. Development of financial product should adapt to the domestic market better, localize the marketing strategy as well as service and employ local employees as manager to.

Because the need for important market adaptation argues that China is a different market compare with other Asian markets such as Philippines or Singapore. With these three dimensions, it is easier for foreign banks to build their brands in China and eliminate the bond between the foreign banks and customers. Reference: Meng, Jianmin, a manager who has worked in the credit card department of Bank of China