| China's
clampdown |
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China is in the sway of a regulatory
and compliance clampdown which is set to stiffen standards
for banks operating in the region. At the same time, it will
give foreign investors placing their money in China and Hong
Kong greater confidence in the region's integrity and in the
standards of its financial compliance.
Evidence for the clampdown is the
country's urgent efforts to produce a law covering money laundering
and terrorist financing. This is set for publication this Summer
and will enable China to qualify for membership of the Financial
Action Task Force. This international agency establishes guidelines
for compliance with anti-money laundering and anti-terrorist
financing standards. Sources at the Paris-based FATF said that
the timing of China's membership of the organization had yet
to be decided but the 'best guess' was February 2006. China
has observer status at the FATF and is a member, along with
Russia, of the Eurasian group of regulators.
China has also recently disclosed
that is planning to beef up its range of fraud offences. Liu
Mingkang, the chairman of the China Banking Regulatory Commission
recently said that 'the cost of doing evil things is too low
in China.' He envisaged substantial changes in the law government
the regulation of local banks.
The integrity of China's financial
system has long concerned foreign bankers and investors, says
Peter Gallo, a Hong-Kong based financial and compliance consultant.
'The Chinese government admit they are losing $1m every five
minutes in bank fraud, tax evasion and capital flight through
Hong Kong. That amount to $25 billion over the course of a
year and 85% of that is derived from corruption. This is a
strategically sensitive problem in China, because it is undermining
the ability of the central government to run the country effectively
and efficiently. But it also creates instability for international
investors seeking to do business here.' |
| The imposition of international standards
will be crucial to China's success in its struggle with financial
crime. Gallo: 'It is a strategic win-win situation as far as
the government and the industry is concerned. The change process
that the banking sector is currently going through in China
will continue, and that the number of executives dismissed
from senior positions and prosecuted will continue to rise.' |
| Chinese regulators have already put
a scythe through some corrupt lawyers of the banking system.
The Chief Executive of the Bank of China, Hong Kong, (BOCHK)
was replaced in late May 2003 after the investigation into
suspicious loan arrangements made in Shanghai. More recently,
the BOCHK suspended two Deputy Chief Executives and a former
General Manager following investigations by mainland authorities
into the alleged misappropriation of bank funds. BOCHK is headquartered
in Hong Kong and is one of Hong Kong's best-regulated banks.
Its governance is particularly sensitive as it is quoted on
the local exchange and has a subsidiary role as the issuer
of banknotes on behalf of the local government. |
The need to clean up fraud and corruption
within the local banking system is heightened by China's accession
to membership of the World Trade Organization. This will require
the country to admit international banks into the local market
from 2007. Observers says that local wealthy Chinese will be
tempted to transfer deposits from local, largely state-owned
institutions into foreign banks which have signed up to international
standards of compliance. The international banks spearheading
the battle for a foothold in the mainland Chinese market are
Hong Kong and Shanghai Bank and Royal Bank of Scotland.
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| Compliance will be a key factor in
Chinese banks' competitiveness, says Nigel Morris-Cotterill,
a banking consultant based in Kuala Lumpur. He said that he
has warned the president of China's second largest bank, that
he needed to smarten up his bank's compliance performance if
it expected to win the battle for local Chinese wealth. 'If
you fall short of the highest international standards, your
business will be increasingly difficult. When foreign banks
set up here, you will find that your high quality business
will flow to foreign banks... If the local banks are not subject
to the same system of compliance as the international banks,
they will be put at a considerable disadvantage in obtaining
good business.' |
| Local banks have responded to this
international threat into a most dramatic way, says Morris-Cotterrill.
''Compliance is racing ahead, and has been over the last three
years.' He says that the regulatory departments are 'making
huge strides' with top management imposing its will on local
bank officials who may have strayed or been suspected of corruption.
'The pace of change is much faster and more radical than anything
a Western financial organization could contemplate.' This change
does not appear to have stretched to training in anti-money
laundering systems. Peter Gallo says that 'most institutions
give employees just one hour's teaching a year into the basic
laws and consider that sufficient. In fact, it is quite inadequate.' |
| Gallo argues that Chinese regulators
may seek to use anti-money laundering rules, now being developed
in new legislation, to obstruct foreign banks' efforts to pitch
for local business. 'The retail banking sector is still so
inefficient that local banks will be eaten alive by international
banks. So they will look for a third party excuse to limit
the inroads made by international banks. They could impose
anti-money laundering regulations in such a way that it becomes
almost impossible to open a new bank account in one of the
foreign banks in China. The local banks already have 300 million
bank account holders, so they will be protected. But the new
banks coming in will be badly hit. The Government wants to
stop the migration from state bank to foreign bank.' |
| Although the WTO rules require the
Chinese government to have a system in place to handle requests
from international banks for a licence to operate on the mainland,
local regulators hold discretion over the issuing of licences.
International banks will examine carefully criteria used by
the authorities in the issuing of banking licences. |
| The siren voice of protectionism was
heard when a local government official recently indicated that
the government might introduce some measures to protect their
state-owned banks. He called publicly for measures to limit
'excessive competition' from foreign lenders. Foreign bank
holdings are already limited to two equity stakes in local
banks. |
| The purge on bank corruption is likely
to intensify in Hong Kong in particular in a wake of mainland
banking scandals. Funds were disguised through a myriad of
Hong Kong bank accounts and Hong Kong based offshore companies
before they were transferred to major onshore centres. Over
the course of the last year, investigations revealed that tens
of millions of dollars had been stolen from a host of Chinese
banks. The perpetrators were largely managers working for the
banks, who were using their knowledge of the banks systems.
Liu Mingkang said that the scandals were a reflection of the
historic burden of a poor legal system, something that the
China Banking Regulatory Commission was trying to redress.
'There is a big gap, indeed no connection between the civil
system and the rest of the legal system. We keep discussing
with judicial houses about to change the law and give greater
penalties.' |
| Tighter controls on financial crime
have already started to deter crooks and corrupt officials
from using the local banking system, says Morris-Cotterill.
'A foreign company will commission the joint venture company
to negotiate contracts and make payments within China. But
the profits will be retained within the joint venture company
which is outside China. It acts as an intermediary and enables
the corrupt parties to avoid putting money through the Chinese
banking system.' |
While international banks will fight
hard for a share of China's burgeoning domestic wealth, Cotterill-Morris
advises them to examine carefully the money's provenance. 'This
is a market that everyone is rushing into. Foreign banks must
be careful in case they race ahead of prudence and get their
fingers badly burnt. There is a large quantity of dirty Chinese
money, presently in local banks, which will seek the homes
in Western banks. They will take it at their peril.'
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