Careful handling required

The government should prevent the creation of too many private banks within a short period of time to limit potential risks

In the document unveiled after the Third Plenary Session of the 18th Communist Party of China Central Committee, it was once again stressed that China will open its State-monopolized financial sector wider to the outside, and qualified private capital will be given a green light to set up small and medium-sized financial institutions, with the precondition of tightened supervision.

Under a policy warm-up, 36 private banks have reportedly gained approval from the State Administration for Industry and Commerce for their names.

To allow for the establishment of private financial lenders is a demonstration of the government's determination to push forward financial reforms, and will help adjust the structure of the country's imbalanced financial market.

However, considering long-standing government concerns over the possible repercussions of financial reforms, increased policy support and ever-growing non-governmental enthusiasm do not change the fact the government should open its State-owned financial sector in a gradual manner, as how to defuse possible risks and how to orientate private banks are the two biggest challenges to opening the financial sector to private capital.

In the absence of a national deposit insurance system and well-conceived regulations on bank bankruptcies, it is a major concern to the country's financial authorities that any rush to withdraw cash from less-powerful private banks or any bankruptcy will have a domino effect and trigger the widespread collapse of the whole banking credit system.

The mainland can learn from Taiwan's experience. Public banks dominated Taiwan's banking sector before the 1990s. But the Taiwan authorities revised the banking regulations in 1989, lowering the threshold for the entry of private banks. Although very harsh conditions were set for the establishment of private banks, that did not dampen the enthusiasm of private capital. In 1991 alone, a total of 16 private banks were approved. However, this rapid openness to private capital caused a dramatic decline in profit margins, which subsequently led to the worsening of private bank assets and a continuous rise in their financial risks.