Higher global standards key for 'Big Four' banks to sustain financial stability

China's largest banks will be able to raise more capital through new tools to implement higher global standards of regulating systemically important financial institutions and sustain financial stability, analysts said.

To meet the new standards that Chinese financial regulators launched in October, the "Big Four "State-owned commercial banks－Bank of China, Industrial and Commercial Bank of China, China Construction Bank and Agricultural Bank of China－may need to raise 4.3 trillion yuan ($673.8 billion) as a capital buffer to cushion shocks by 2025, the latest prediction from Fitch Bohua Credit Ratings Ltd said.

The four banks were labeled as "global systematically important banks", or G-SIBs, by the global financial regulatory body Basel Committee on Banking Supervision. That is because they are so large in assets, complex or interconnected that their distress or failure would cause serious harm to the financial system and the economy. They are deemed too big to be allowed to fail.

Last month, regulators from the People's Bank of China, the China Banking and Insurance Regulatory Commission and the Ministry of Finance officially launched the rules of the minimum level of capital that G-SIBs need to have to meet the so-called total loss absorbing capacity, or TLAC, a move which follows global standards.

It is a special regulatory indicator designed by the Financial Stability Board to ensure the world's largest banks have self-relief capability to address risks. That is a huge capital gap which requires banks to adopt new fundraising tools and not rely too much on traditional debt instruments, analysts said.

"Facing the increasingly urgent time limit for reaching the standards and the large-scale gap of funds, it is not wise for financial institutions to issue a large amount of bonds in the domestic market," said Wang Gang, a researcher at the institute of financial law and financial regulation under the Chinese Academy of Social Sciences.

Raising too much funds by issuing traditional bonds will result in a rise of bond issuance prices, increase costs of holding the debt and push up the overall interest rates of bank loans, said Wang.

The researcher and a group of scholars suggested issuing new qualified TLAC-eligible tools to supplement the funding gap. The measures also include transferring existing debt instruments, such as negotiable certificates of deposit and commercial bills, and issuing foreign currency-denominated TLAC bonds in offshore markets.

Some experts suggested the TLAC instruments should attract enough long-term, stable and diversified investors with the capacity to absorb losses. They should also aim to limit contagion across the banking sector, and ensure investors are capable of becoming shareholders if TLAC debt is converted to equity.

In order to meet the requirements posted by the Basel Committee on Banking Supervision, Chinese financial regulatory bodies issued a consultation paper on Sept 30, 2020 that administrative measures for global systemically important banks, or G-SIBs, meet the special TLAC standards.

They finalized the rules on Oct 29 by confirming all G-SIBs in China should meet the minimum requirement of risk-weighted assets and the leverage ratio at 16 percent and 6 percent, respectively, at the beginning of 2025. Higher requirements for the two ratios at 18 percent and 6.75 percent should be satisfied at the beginning of 2028.

In addition, G-SIBs should also meet the regulatory requirements of capital cushion, including the reserve capital, countercyclical capital buffer and additional capital of systemically important banks. The rules will take effect on Dec 1.

There is a transition period of about three years from now to the deadline, and Chinese regulators plan to issue new relevant TLAC instruments while maintaining economic and financial stability, an official statement said.

Last week, the Basel Committee announced a finalized review on the G-SIB assessment methodology. It agreed to replace the existing three-year review cycle of the methodology with a process of ongoing monitoring and review.

Since the outbreak of the COVID-19 pandemic, the committee put on hold its regular review of the methodology used to determine the list of G-SIBs in order to free up resources at banks and supervisory authorities to focus on the impact of the disease. Usually, the review is done once every three years.

The Basel Committee is planning to report the 2021 list of G-SIBs soon. Analysts from Fitch Bohua predicted the listed Chinese banks may remain unchanged.

Bank of Communications is likely to be included in the list as the fifth Chinese bank as soon as 2022. More joint-stock banks in China may need to disclose G-SIB related indicators next year because they have achieved Basel's required scale in terms of assets, said Zhang Fan, an analyst with Fitch Bohua.

The latest version of a Basel Committee's report in October, which reflected the updated adoption status in various jurisdictions of Basel III standards, indicated China has made further progress in adopting the relevant standards despite disruptions by COVID-19.

The report showed that standards of regulating the systemically important banks are almost set in China as of the end of September, except for the leverage ratio buffer. Additional information about the TLAC situation of important banks should be disclosed, the committee said.