Incoterms_® and Commercial Contracts

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1. Introduction

With the establishment of the People’s Republic of China (PRC) on October 1, 1949, the existing Chinese banks and cooperative financial institutions created in the rural areas were integrated into the People’s Bank of China (PBOC) and foreign banks in China were nationalized.

All domestic banking activities were controlled by the PBOC, which collected funds from State-owned enterprises (SOEs) and allocated investment according to government policy, mainly through the SOEs.

Furthermore, the PBOC acted as the country’s central bank.

The Bank of China was assigned the mission of dealing in foreign exchange. Financial sector reform began in China in 1979 with the end of the monopoly of the PBOC and the reattribution of its commercial functions to four State-owned commercial banks (SOCBs).¹ In 1986, the missions of the PBOC were refocused on the conduct of monetary policy.

Fundamental reforms were adopted in 1995 with the enactment of the Commercial Banking Law² and the amendment to the PBOC Law, and then again after December 2001, with the entry of China into the World Trade Organization.

The commercial banking sector in China now includes various categories of banks.

There are four SOCBs, formed under the State Council’s Decision on Financial System Reform issued in December 1993.³ The Law on Commercial Banks, which became effective in 1995, permitted commercial banks, including the SOCBs, to operate under market criteria. The SOCBs are extremely large, with extensive regional networks throughout China. Their influence over the banking sector has been declining, however, in recent years. The SOCBs remain under State control, although foreign strategic investors are now permitted, as described below, to acquire minority positions. Some SOCBs are currently being transformed into jointstock companies. Their financial performance has been poor and they hold a large share of China’s non-performing loans.⁴

In 1994, three “policy” banks were launched to assume the mission of promoting development, which had hitherto been carried out by the SOCBs. They are the Agricultural Development Bank of China, the Development Bank of China, and the Export Import Bank of China. Their funds come mainly from government deposits and guaranteed bond issues and their lending is respectively focused on agricultural modernization, infrastructure and facilities financing and import-export financing.

The first joint-stock banks were formed in the 1980s. Currently there are 12 such banks in China of which five are listed on domestic stock exchanges. These banks are partly owned by the State and partly by SOEs, private enterprises, and individual investors. Subject to closer scrutiny by shareholders, they usually apply better disclosure and governance practices, especially those listed on a stock exchange. As a result, they have fewer non-performing loans, they are better capitalized, and their provisions more ample than those of the SOCBs.

City commercial banks are owned by municipal governments with participations from SOEs, private enterprises, and individual investors. There are 112 city commercial banks in China with widely ranging standards of governance and performance.

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The first rural commercial banks were opened in 1994 to take over some of the activities of the rural credit cooperatives. Otherwise, they mainly provide financing for commercial projects in rural areas.

The urban credit cooperatives are gradually being consolidated to form city commercial banks.

There are 38,000 rural credit cooperatives. They mainly provide funding for agricultural households.⁵ They are considered the weakest entities in the banking sector as they are burdened with large amounts of non-performing loans and are afflicted with poor governance.

This increasingly diverse banking sector still manifests two common features.

The banking sector remains the most important source of credit, while equity and bond markets remain underdeveloped by international standards and the fledging insurance sector attracts a relatively small share of savings.

Another remarkable feature of the financial sector is the high degree of government ownership. All the banks and insurance companies are majority or fully owned by the State. Foreign participation in the financial sector remains insignificant. Thus, in contrast with the industrial sector, where efforts have been made to develop and strengthen private enterprises, including through deregulation of activities and through improved access to credit, the financial services sector displays a high level of public ownership and control.

Banking activity lies at the intersection of different domains of regulation:

• that covering banks (including their foreign business operations) established in China that receive deposits from the general public, i.e. commercial banks (including SOCBs), urban and rural credit cooperatives and policy banks;
• non-bank financial institutions (including their foreign business operations) established in China (such as financial asset management companies, trust and investment corporations and other financial institutions);
• the foreign establishments of Chinese banks and financial institutions; and
• offshore banking and financial institutions carrying on activities in China (for example, over the internet).

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2. The institutional framework

Regulation of the banking system is carried out by various institutions.

The PBOC is responsible for overall financial stability.

The China Banking Regulatory Commission (CBRC) currently supervises nearly all of the 34,000 banking and non-banking financial legal entities, accounting for over 90% of the total assets of financial institutions in China.⁶

The Ministry of Finance exercises authority over the activities of the SOCBs.

Industrial associations, such as the National Association of the Banking Industry and the National Association of Finance Companies, are intended to impose professional discipline and promote business cooperation and innovation.

2.1. The People’s Bank of China

The PBOC is the central bank in China and, as in Western countries, it is at the apex of the financial system and plays a key role in financial regulation.

Since 1986, the PBOC has been officially anointed as the bank through which the State controls and manages monetary policy, accredits specialized banks, promotes urban and rural credit cooperatives and authorizes the establishment of foreign banks on mainland China.

However, only since the Banking Law was enacted on March 18, 1995, has the PBOC acquired the full panoply of functions of a central bank.

2.1.1. Main functions

In general terms, the PBOC’s macroeconomic functions include the formulation and implementation of monetary policy and the maintenance of financial liquidity. More specifically, they include:⁷

• the formulation and implementation of monetary policies in accordance with the law;
• the issue of renminbi and control over their circulation;
• the examination, approval, supervision and administration of banking institutions;
• the supervision and regulation of the financial markets;
• the promulgation of ordinances and rules concerning financial activities and administration;
• the holding, administration and management of the State’s foreign exchange reserves and gold reserves;
• the management of the State treasury;
• the maintenance of normal operating conditions for paying and settling accounts;
• collecting statistics, conducting research, analysis and forecasting for the banking industry; and
• engaging in international banking operations in its capacity as central bank of China.

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The PBOC influences credit expansion by its requirements for the issues of commercial loans.⁸ It formulates jointly with the CBRC rules regarding payment and settlement procedures,⁹ it supervises financial institutions with regard to deposits, foreign exchange control and money laundering activities¹⁰ and it requests the intervention of the CBRC with respect to the activities of financial institutions in matters involving monetary policy and financial stability.¹¹

2.1.2. Administration

The PBOC is administered by a governor nominated by the State Council and confirmed by the National People’s Congress (NPC). Deputy governors assist the governor in his/her functions.

The PBOC’s Monetary Policy Committee provides advice in these matters.¹²

The creation of the CBRC has entailed a restructuring of the PBOC. On the one hand, functions previously exercised by several departments of the PBOC are now the domain of the CBRC. On the other hand, the Banking Law reform in 2003 required the PBOC to create various departments, such as the financial markets department, the financial stability bureau, the credit reference administration bureau and the anti-money laundering bureau.

2.2. The China Banking Regulatory Commission

In April 2003, the State Council established the CBRC to assume some of the supervisory and regulatory functions then performed by the PBOC.

2.2.1. Organization

The CBRC is divided into 15 departments with jurisdiction and responsibility over different operators and activities including:

• the supervision and administration of SOCBs and asset management companies (Banking Supervision Department I);
• the supervision and administration of joint-stock commercial banks and municipal commercial banks (Banking Supervision Department II);
• the supervision of foreign banks, policy banks and postal savings institutions (Banking Supervision Department III);
• the supervision of non-bank financial institutions (Non-bank Financial Institutions Department); and
• the supervision of rural credit cooperatives and rural commercial banks (the Cooperative Finance Supervision Department).

The CBRC has opened offices at the provincial and local levels.

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2.2.2. Scope of activities

The CBRC has been assigned a key role in the regulation of the Chinese banking system. Its main functions include:

• formulating supervisory rules and regulations for the sector;
• conducting on-site examinations and off-site surveillance;
• sanctioning non-compliance;
• conducting qualification tests on senior bank management;
• providing proposals to resolve problems in deposit-taking institutions in consultation with the relevant regulators; and
• administering the supervisory boards of the major State-owned banks.¹³

In addition, the CBRC has taken on various other missions such as:

• protecting consumers and depositors through prudential supervision of the sector;
• maintaining stability in the banking system;
• enhancing the competitiveness of banks;
• encouraging competition;
• educating the public on the role of finance; and
• eradicating financial crime.¹⁴

2.2.3. Inspections

The CBRC has the authority to carry out on-site inspections, however due to its limited resources these inspections are rather infrequent. Special inspections are carried out with respect to institutions subject to high risks, institutions with problems of crucial importance identified during routine inspections as well as illegal behaviour, false disclosures of financial

information and severe deficiencies in risk management or internal controls.

The CBRC is currently improving risk supervision through overseeing of consolidated financial statements, risk analysis, and “tripartite” and “prudential” discussions. The CBRC may, inter alia, require financial institutions to provide regular written reports on certain problems, impose special requirements with regard to risk supervision indices and capital requirements, and changes of senior management within a certain period of time.

The CBRC has set up a rating system and an early warning mechanism on the basis of which the frequency and the scope of on-site inspections and other supervisory actions are determined. For example, as regards foreign legal persons, supervision is based on five elements (capital, assets, management, earnings, and liquidity) on which the CBRC rates their risk on a scale of one to five¹⁵ and to which four other factors are added in connection with their branches in China (risk management, operational controls, compliance, and asset quality).

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2.2.4. Hearings

Before the CBRC administers a serious administrative sanction, such as a large fine, an order to cease production and business, the revocation of a licence to carry on business or the cancellation of the qualifications of directors and senior managerial personnel (including lifetime bans), the incriminated party must be informed and a hearing held.

Hearings must be held in public, except where State or commercial secrets or issues of privacy are involved.¹⁶

From their receipt of a notice of the CBRC’s intention to impose an administrative sanction, financial institutions have ten days within which to file a defence.¹⁷ Decisions to impose administrative sanctions are administrative acts subject to the recourses generally provided in Chinese administrative law. In particular, dissatisfied parties may seek administrative reconsideration of the impugned decisions or they may challenge their legality before the people’s courts.¹⁸ Only those financial institutions that have suffered actual damage because of unjustified administrative punishments have a recourse.¹⁹

2.2.5. Administrative sanctions

According to the Banking Supervision Law,²⁰ the CBRC has the right to impose administrative sanctions for any acts committed in violation of laws and regulations within its jurisdiction. In serious cases, where a crime has been committed, the CBRC denounces the conduct to the procuratorate.

The CBRC imposes administrative sanctions in accordance with laws and regulations as well as the principles of fairness, justice and openness to the public.²¹

Administrative sanctions include:

• warnings;
• fines;
• confiscation of illegal earnings;
• orders to stop production and business;
• revocation of financial permits and authorizations; and
• cancellation of the qualifications of directors and senior managerial personnel.²²

Unless otherwise provided by law, no administrative sanction may be applied for illegal acts not discovered within two years of their occurrence.²³

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3. Commercial banks

Commercial banks may carry on the following activities in China:

• acceptance of deposits from the public;
• granting of short-term, medium-term and long-term loans;
• settlement of both domestic and overseas accounts;
• discounting of negotiable instruments;
• issue of financial bonds;
• acting as agents in the issue, negotiation and sale of government bonds;
• acting as agents in the purchase and sale of government bonds;
• inter-bank lending and borrowing;
• buying and selling foreign exchange for their own accounts or as agents;
• issues of letters of credit and guarantees;
• acting as agents in the processing of insurance receipts and payments;
• provision of safe boxes; and
• other businesses approved by the CBRC.²⁴

The business scope of commercial banks must be defined in their articles of association and reported to the CBRC for approval.

3.1. Establishment25

To qualify to carry on commercial banking activities, candidates must satisfy the following conditions:

• they must have articles of association compliant with the Company Law as amended on October 27, 2005;
• their fully paid-up capital must reach the legal minimum requirements;²⁶
• their senior management personnel must be qualified in terms of professional knowledge and experience;
• they must have an organization and management system in place; and
• they must dispose of suitable premises and facilities.

Applications must include:

• a feasibility study;
• draft articles of association;
• credentials of proposed senior staff;
• a registered capital verification certificate;
• a stock ledger;
• a certificate of creditworthiness of the shareholders holding more than 10% of the registered capital;
• an outline of management principles and plans; and
• a description of their premises, security measures, and other facilities.²⁷

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Upon approval of the application, the CBRC issues a business licence that must be submitted to the State Administration for Industry and Commerce (SAIC) to obtain a business registration certificate and then commence business.²⁸

3.2. Organization²⁹

Wholly State-owned commercial banks establish a board of supervisors comprised of representatives of the CBRC and concerned government departments, representatives of the bank’s employees and experts in the profession.

The board oversees the quality of loans, the ratio of assets to liabilities and the present and potential values of State assets. It monitors the conduct of the bank’s senior management personnel to prevent and, where appropriate, denounce violations of laws and administrative regulations that harm the bank’s interests.

Subject to approval by the CBRC, commercial banks may set up branches within China and beyond its borders.

The aggregate sum of operating capital allocated to all of a bank’s branches may not exceed 60% of the parent bank’s total capital.³⁰

3.3. Operating norms

A commercial bank is required to respect concepts such as the free will of depositors, the freedom of withdrawal of deposits, the payment of interest to depositors and the confidentiality of information about depositors’ accounts.³¹

Within the upper and lower limits set by the CBRC, commercial banks determine their interest rates independently.³²

Commercial banks must place on account with the PBOC such reserves as the latter requires and they must maintain standby reserves in accordance with its stipulations.³³

Commercial banks guarantee the payment upon demand of the principal and interest due on every deposit.³⁴

3.4. Lending activity

Loan contracts must be concluded in writing and they must be signed by the bank and by the borrower. They should clearly define the category, purpose, amount, interest rate, repayment period and mode of repayment of the loan, liabilities for violations of the contract and other stipulations the parties deem necessary.³⁵

In granting loans, commercial banks have specific obligations such as to monitor the use of the loan by the borrower, to assure themselves of the borrowers’ ability to repay the principal and interest and to meet other conditions applicable to such payments.

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Commercial banks are required to clearly separate the approval process by various internal authorities and the actual lending. Commercial banks are not allowed to make unsecured loans to people related to the bank such as its directors, supervisors, management personnel and loan officers. In making secured loans to such parties, the bank must ensure that their conditions are not more favourable than those granted to other borrowers.³⁶

Commercial banks must verify the repayment ability of loan guarantors, the ownership of secured property and the value of mortgages thereon, as well the practical possibilities of enforcing claims against the borrowers.

Commercial banks must respect the following ratios:

• the capital adequacy ratio must not be less than 8%;
• the ratio of loans to deposits must not exceed 75%;
• the ratio between the balance of circulating assets and the balance of circulating liabilities must not be lower than 25%;
• the ratio between the total loans of any one borrower and the balance of capital of the commercial bank must not exceed 10%; and
• such other ratios as are determined by the CBRC.³⁷

3.5. Finance and accounting

Commercial banks are required to establish an integrated financial accounting system including the preparation of accounting statements, the maintenance of loan application files, the recording of loan agreements, cash management procedures and security systems.

In addition, commercial banks are required to publish their business and auditing reports for the previous year within three months of the end of each year.³⁸ They are also required to record and report on their business activities and financial affairs, to prepare annual financial affairs reports and to send their reports to the CBRC and Ministry of Finance in a timely manner.

The CBRC may at any time and without prior notice audit a commercial bank’s deposits, loans, account settling and bad debts.³⁹ During inspections, commercial banks must provide on demand financial and accounting data, business contracts and other information about their business and their management.

3.6. Assumptions of control by the CBRC

The CBRC may assume control of a commercial bank “whenever a crisis of confidence has or is likely to have a serious effect on the interests of its depositors”.⁴⁰

The intervention terminates when:

• the term set by the assumption of the control decision expires or its extension expires;
• the commercial bank concerned has restored its normal business capacities before the term of the take-over expires; or
• the commercial bank is merged or declared bankrupt before the end of the term of the take-over.

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4. Online banking

The first regulation on electronic banking was set out in the Administration of Online Banking Services Tentative Procedures of June 29, 2001. Due to the rapid development of electronic banking services, these measures became outdated for purposes of assuring proper risk supervision and management of online banking activity. Accordingly, on October 26, 2005, the PBOC promulgated its Guidelines on Electronic Payments which entered into effect immediately. The CBRC has also issued standards for electronic banking services: the Measures Governing Electronic Banking of January 26, 2006, with effect as of March 1, 2006, and the Guidelines on Evaluating Electronic Banks’ Security of January 26, 2006 effective on March 1, 2006.

The main objective pursued by the Chinese authorities through these provisions is to ensure the security of transactions.

4.1. The PBOC Electronic Payments Guidelines

The Guidelines set down rules to prevent risks and to create a secure environment for making electronic payments.

According to the Guidelines, payments are defined as electronic when units or individuals send directly, or authorize other persons to send, payment instructions through electronic terminals to realize the transfer. Electronic payments include those made over the internet, by telephone, at point-of-sale (POS) terminals, automated teller machines (ATM) transactions and other forms of electronic payments.

The Guidelines on Electronic Payments apply to all electronic payment services executed by banks in China. ⁴¹

Banks intending to conduct electronic payment activities are required to disclose the following information to the PBOC:

• the address and method of contact within the bank with respect to their online activities;
• the terms of the provision to customers of online banking services;
• the form, operational procedures and charges for electronic payment services;
• the measures of risk management in connection with each form of electronic payment activity, including identification of the risks, explanations of choices not to adopt security measures and security risks that cannot be eliminated;
• the nature of risks arising from the use of electronic payments by customers;
• warning information urging customers to use properly the deposit and withdrawal tools of electronic payment and to act cautiously in authorizing other persons to use them (for example cards, passwords, keys); and
• methods of mistake and dispute processing.⁴²

The Guidelines on Electronic Payments provide that banks must adopt suitable authentication methods (for example passwords, keys, digital certificates, electronic signatures) in accordance with the stipulations of Electronic Signature Law⁴³ and related laws.⁴⁴

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The Guidelines impose limits on the amount of electronic payments. For internet payments by individual customers, the limits are RMB 1,000 for a single transaction and RMB 5,000 per day. These limits do not apply to transactions employing security methods, such as digital certificates, electronic signatures and other security authentication methods.

For electronic payments by unit customers, the limit is RMB 50,000 for a single transaction (except if it is in accordance with a special agreement between the customer and the bank).⁴⁵

The Guidelines on Electronic Payments also require that banks keep electronic payment transactions’ data for five years. They may be stored on paper or magnetic supports.

4.2. CBRC standards governing online banking

On January 26, 2006, the CBRC promulgated its own standards for electronic banking. Its Tentative Procedures of 2001 had focused on the supervision of online banking activities and did not involve other electronic banking activities. The CBRC’s Measures Governing Electronic Banking fill this gap and apply to all electronic banking activities, including banking activities via computers or the internet (online banking activities), banking activities via audio equipment such as telephones or telecommunication networks (telephone banking activities), banking activities via mobile phones or wireless networks (mobile banking activities), and other banking activities via the use of electronic service equipment and networks, in which customers complete their financial transactions by self-service means (for example, ATMs).⁴⁶

The Measures apply to banking institutions and foreign-funded financial institutions established in accordance with PRC laws.⁴⁷ Other financial institutions (such as financial asset management companies, trust and investment companies, finance companies and financial lease companies) intending to undertake electronic finance activities must comply with the relevant provisions on financial institutions before they may provide the electronic banking services stipulated in the Measures.⁴⁸

The CBRC may impose stricter requirements for approval to offer electronic services than those stipulated in the Tentative Procedures. Eligible financial institutions are required to meet the following conditions:

• they must maintain a sound risk management system and internal controls, and their main information management system and business handling system must not have met with any major breakdown within the previous year;
• they must possess an overall development strategy, a development plan and an electronic banking safety strategy and they must have established an organizational system and an institutional system for managing the risks arising in connection with their electronic banking activities;
• they must possess and maintain hardware, software, and technical expertise to support an electronic banking system; and
• their facilities and systems must meet the supervisory requirements.⁴⁹

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The Measures list additional conditions for electronic banking activities conducted over the internet or other open networks or wireless networks, such as online banking or mobile banking.⁵⁰

The Measures define two systems for applying to provide electronic banking services.

The report system is adopted by the CBRC for electronic banking activities over domestic or regional telecommunication networks or cable networks and the special networks built up by banks for self-service facilities.

Approvals are required for electronic banking activities conducted over the internet or other open networks or wireless networks.

National financial institutions apply to the CBRC for initiating electronic banking activities or for adding or modifying any type of electronic banking services that are subject to examination and approval. Regional financial institutions apply to the local office of the CBRC. When applying to initiate electronic banking business or to add or modify a type of electronic banking subject to examination and approval, foreign financial institutions file their applications with the CBRC through their head office or principal reporting bank inside the territory of China.⁵¹

Finally, according to the Guidelines on Evaluating Electronic Banks’ Security, financial institutions that offer electronic banking services must perform a safety evaluation of their electronic banking activities at least every two years. They can use external professional evaluation agencies or independent internal organs to conduct such evaluations.⁵²

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5. Trust and Investment Companies (TICs)

The concept of trust is relatively new in China. Though banks formed trust departments in the early 1980s and although local and provincial government and State agencies used trusts as investment vehicles to promote development, it was only in the 1999 Contract Law⁵³ and in the Trust Law⁵⁴ adopted in 2001 that legal issues relating to trusts in China were addressed.

According to the Administrative Rules on Trust and Investment Companies issued by the PBOC on May 9, 2002 (the TIC Rules), TICs must engage mainly in trust business.⁵⁵ Trust refers to the entrusting of a legal person’s property to the trustee to be managed and disposed of by the trustee for the benefit of the beneficiary of the trust or for other specific objectives.⁵⁶ TICs must respect the principles of honesty, credibility, prudence and efficiency.

5.1. Establishment, modification and termination of TICs

TICs may be established in the form of either limited liability companies or companies by shares.⁵⁷ Their establishment is subject to the approval of the CBRC, which issues approved applicants with a licence to create a trust and investment institution.⁵⁸ To qualify as a TIC, a company must satisfy the following conditions:

• its articles of association must comply with the Company Law⁵⁹ and the regulations of the CBRC;
• its shareholders must be eligible;
• it must have a registered capital of at least RMB 300 million;⁶⁰
• it must have qualified senior staff for management and trust business;
• it must have an integrated business structure, including as regards internal rules of trust operation and risk-control; and
• it must possess business premises, security systems and other business-related facilities as required.⁶¹

5.2. Business scope

TICs are theoretically entitled to carry on the following activities both in local and foreign currencies:

• funds management;
• management, utilization and disposal of real estate, movables and intellectual property rights;
• restructuring of enterprises’ assets;
• subject to the approval of concerned departments of the State Council, underwriting of treasury bonds, financial institution bonds and corporate bonds;
• project financing,
• providing guarantees against their own assets;
• financial services such as corporate financial management, financial consulting;
• custodial services; and
• credit certification and investigation.⁶²

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A TIC “may design its business products according to objectives of the trust and the nature of the trust property”.⁶³ To these ends, it may conclude contracts of sale, of lease, of loan, etc.⁶⁴

A TIC’s fixed assets dedicated to its own use may not exceed 80% of their net amount.⁶⁵

Trustees may not abuse their status to seek or receive illegitimate gains. They may not provide guarantees of the values of trust property or guarantee minimum returns. They may not use trust property to provide guarantees nor may they lend trust funds.⁶⁶

Trusts of property must be for a minimum term of one year and the minimum amount to open any single trust fund is RMB 50,000.⁶⁷

Except as provided by regulations or by the trust agreement, TICs must respect the confidentiality of information about the owner of the property placed in trust, the beneficiary and the trust’s affairs.⁶⁸

For their trust management, TICs receive commissions and service charges as agreed between the parties.⁶⁹

TICs are liable for losses due to their management errors and breaches of trust objectives.

TICs may not claim or accept any remuneration in anticipation of performance of their own trust duties.⁷⁰

TICs must create a reserve against potential losses of the trust property under their management and must impute to such reserve 5% of their annual after-tax profits until the reserves reach an amount equal to 20% of their registered capital. Funds in the reserve may only be deposited in domestic commercial banks with “sound operations and strong performance or invested in treasury bonds”.⁷¹

5.3. Supervision and self-regulation

The trust business departments of TICs must be operated independently from other departments. Staff engaged in trust management may not hold concurrent positions and are forbidden to share information on the trust business with other departments.⁷²

When senior managers leave their positions, an audit of their situations must be carried out and a report must be transmitted to the CBRC.⁷³

The CBRC is entitled to take over a TIC if necessary.

5.4. TICs’ disclosure requirements

The CBRC has adopted standards for information disclosure by TICs.⁷⁴ The Information Disclosure Measures apply to all trust and investment companies established according to law inside the PRC. The CBRC is the authority for regulation and supervision of information disclosure of TICs.⁷⁵

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TICs are required to disclose information reflecting their operational conditions to both the public and CBRC, such as financial and accounting reports, corporate governance practices, business operations, risk management practices, transactions with related parties and as any major events, in a faithful, accurate, timely and comprehensive manner.⁷⁶

The information to be disclosed includes:

• an annual report introducing the TIC, its corporate governance procedures, its operational conditions, its accounting statements and explanatory notes; and
• provisional reports on major events affecting its financial position or operational results, or affecting beneficiaries’ interests or those of other interested parties.⁷⁷

TICs are required to publish their annual reports within four months of the end of each year. Where this is not possible, TICs must apply to the CBRC at least 15 days before the deadline to request an extension.⁷⁸ TICs must give public notice of this information in at least one of the national newspapers⁷⁹ designated by the CBRC.⁸⁰

The TIC Information Disclosure Measures provide that boards of directors are responsible for ensuring respect by their TICs of their disclosure duties. Board members warrant that the information disclosed is faithful, accurate and complete, and that the reports contain no false or misleading statements or major emissions.⁸¹ Where TICs are suspected of having committed serious infractions, their criminal liabilities may be investigated.⁸²

The Information Disclosure Measures have been implemented gradually since January 1, 2005.⁸³

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6. Other financial institutions

A serious deficiency of the Chinese financial system has been its lack of diversity and failure to develop non-bank financial institutions. The existing non-bank financial institutions subject to regulation are enterprise group finance companies, financial leasing companies and automobile financing institutions.

6.1. Enterprise Group Finance Companies (EGFCs)

The Measures for the Administration of Enterprise Group Finance Companies issued by the CBRC on July 27, 2004 apply to non-bank financial institutions and foreignfunded investment groups providing financial management services to their member companies.⁸⁴ These groups refer to associations of enterprises registered in China and comprised of parent companies, their subsidiaries, companies in which they hold equity and other enterprises with which they are affiliated and which act in concert according to their articles of association. To qualify under the Measures, parent companies must hold a minimum of 51% of the shares in their subsidiaries, and at least 20% of the shares of affiliates must be held solely by the parent company or jointly with its subsidiaries.⁸⁵

EGFCs are under the supervision and administration of the CBRC.⁸⁶

6.1.1. Establishment

The minimum registered capital of an EGFC is RMB 300 million. They must have centralized management and their operations must reach a significant scale. Their articles of association must comply with the Company Law, their directors and senior managers must be qualified,⁸⁷ in particular in the fields of risk management and funds management. They must implement effective internal controls and apply the principles of sound corporate governance.

With the approval of the CBRC, EGFCs may establish branches in locations where they have a significant number of members and a large amount of business.⁸⁸

Companies intending to establish a finance company must agree that, in the event of emergency or payment difficulties, they will increase their capital as required to solve the difficulties and a provision to this effect must be included in the subsidiary’s articles of association.

6.1.2. Application procedures

The constitution of an EGFC is subject to the approval of the CBRC. EGFCs may only commence business after registration with the SAIC and issue of their business licences.⁸⁹

Where an EGFC changes its name, its activities, its registered capital or the composition of its shareholding group, it must obtain the CBRC’s approval.⁹⁰

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6.1.3. Business scope

EGFCs may only carry on the following businesses:

• financial advice, credit verification, and all related consulting and agency services;
• collections and payments;
• approved insurance agency services;
• guarantees to its member entities;
• loans and investments between member entities;
• acceptance and discount of bills for member entities;
• settlement between member entities;
• accepting deposits from its member entities;
• granting loans and financial leases to member entities; and
• inter-bank borrowing.

With special approval from the CBRC, EGFCs may issue bonds, underwrite members’ bond issues, invest in financial institutions and securities and provide consumption credit and write financial leases.

6.1.4. Operational standards

EGFCs must respect specific ratios. Their capital may not represent less than 10% of their total debts. They may not borrow more than their total amount of registered capital. They may not issue guarantees in excess of their capital. The ratio of short-term investments to equity may not exceed 40%. The ratio of long-term investments to equity may not exceed 30%. The ratio of self-owned fixed assets to equity may not exceed 20%.⁹¹

EGFC accounts must be audited annually and the report must be approved by the chairman of the board and submitted to the CBRC before April 15 of each year. EGFCs must implement internal control systems and they must create a risk management department and an auditing department accountable to the board of directors. Annual reports on their risk control and auditing systems must be communicated to their boards of directors and to the CBRC.⁹²

The CBRC is entitled to require EGFCs to respond to questions and communicate documents on their business and financial situations and it may carry out inspections on their premises. It may question their employees and examine and reproduce documents.

When an EGFC does not respect its obligations, the CBRC may issue an order for it to suspend the incriminated business or, in the event of a payment crisis or a risk thereof, it may assume control over its management. ⁹³

When an EGFC provides to a single shareholder a loan in excess of 50% of the finance company’s registered capital or of the shareholder’s capital contribution to the finance company, the loan must be reported to the CBRC.

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6.2. Automobile financing companies

The government has attached special importance to the development of the market for private cars and to this end a specific set of measures has been enacted. For instance, non-bank credit has been authorized through the use of auto finance companies, which are special purpose vehicles designed for the supply of credit to purchase cars.

In 1998, the PBOC issued the Administrative Rules for Automotive Consumer Loans permitting State-owned commercial banks to provide auto financing. In 1999, the PBOC issued its Guidelines on Consumer Credit to Individuals, which authorized Chinese commercial banks to provide consumer loans. On October 1, 2004, the Administrative Rules for Automotive Consumer Loans were replaced by the Administrative Rules for Automotive Loans.⁹⁴

Automobile finance companies (AFC) are regulated by the CBRC and are authorised to provide loans to individual borrowers, institutional borrowers and car dealers.

On January 24, 2008, the CBRC issued the Administrative Measures for Auto Finance Companies (AFCs), which authorize auto finance companies to provide loans to auto buyers and sellers in China. Interestingly for foreign corporations, AFCs may also now carry on auto leasing activities (excluding leasebacks) and sell or buy car loan and auto financing leasing businesses to or from financial institutions. The minimum registered capital of an AFC is RMB 500 million paid in. An AFC is required to have total assets of at least RMB 8 billion and an annual turnover of at least RMB 5 billion.

Investors in an AFC must have been profitable in the three years preceding the application and the main investor must contribute at least 30% of the total capital.

AFCs must implement risk control measures and establish borrowers’ credit rating systems and early warning systems for potential risks.

On October 23, 2003, the CBRC issued the Administrative Rules Governing Auto Financing Company, which opened the auto financing sector to foreign participation, either through JVs or WFOEs.

6.3. Financial leasing companies

The CBRC regulates financial leasing companies.⁹⁵

Non-banking financial organizations may qualify to carry on the business of financial leasing as its main activity by obtaining the approval of the CBRC. They must have registered capital of a minimum of RMB 500 million. If they carry on foreign exchange business, they must have additional capital in foreign exchange of at least USD 50 million.⁹⁶

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With the approval of the CBRC, a financial leasing company may engage in the following businesses in both renminbi and foreign currency:

• financing leases;⁹⁷
• business leasing operations;
• accepting lease funds entrusted by legal persons or organizations;
• accepting lease guarantee money from a lessee;
• providing floating capital loans over leased property to lessees;
• investing in securities and investing in financial organizations;
• subject to the approval of the PBOC, issuing bonds;
• borrowing money from financial institutions;
• borrowing foreign exchange;
• selling the remaining value of depreciated leased goods and products;
• economic consultations; and
• insurance agency services.⁹⁸

Financial leasing companies must implement internal controls subject to supervision by the CBRC that is authorized to carry out site inspections and audits.⁹⁹

Financial leasing companies must respect specific asset and liability ratios under the supervision of the CBRC:

• the total value of their capital must equal at least 10% of the total value of their assets at risk;
• the amount of financing to a single lessee may not exceed 15% of the total amount of their capital;
• floating asset loans provided to a lessee must not exceed 60% of the value of the corresponding lease contracts;
• long-term investment must not exceed 30% of their total capital;
• lease assets must not correspond to less than 60% of their total assets;
• the amounts owed on call loans may not exceed 100% of their total capital;
  and
• the residual amount of foreign guarantees must not exceed 200% of their total capital.¹⁰⁰

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7. Foreign financial institutions in China

A main attraction of China for foreign banks is the renminbi business with Chinese enterprises and individuals. This explains why foreign banks have recently preferred to invest in China by taking strategic stakes in domestic banks rather than opening their own establishments.

Indeed, the scope of activity of foreign financial institutions has been quite restrictive and has clearly been a barrier to the expansion of their business in China.

7.1. Foreign equity investment in Chinese financial institutions

The CBRC has adopted specific regulations as regards equity participation by foreign investors in Chinese-owned financial institutions.¹⁰¹ The largest or sole foreign shareholder must be a commercial bank (or a finance company in the case of a joint equity finance company).

Although foreign equity in the banking sector is restricted, China’s General Agreement on Trade in Services (GATS) commitment means that it will gradually open to foreign competition. As of today, equity held by a single overseas financial institution in a Chinese financial institution may not exceed 20%.¹⁰²

The CBRC decides whether to approve the foreign participation within three months from receipt of a complete application. If the application is approved, the foreign investor must pay the acquisition price to the domestic financial institution within 60 days. Where the registered capital or equity structure of a domestic financial institution have been changed as a result of the foreign investment, the former must respect the applicable specific procedures.

Foreign financial institutions making investments in domestic financial institutions must secure the cooperation of other shareholders to propose their director candidates to the board of directors.

Under Chinese law, most resolutions only require simple majority votes by shareholders’ meetings and boards of directors. Consequently, minority shareholders have little influence in the decision-making process. To mitigate these disadvantages, the minority may seek that higher quorum requirements be imposed or promote expansion of the list of matters requiring super-majority votes. Alternatively, the foreign investor might provide for ways to increase its shareholding through recourse to options. Foreign banks may also try to impose their right to obtain a large number of directors as a condition of their investment.¹⁰³

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7.1.1. Qualifications to invest in a domestic financial institution

Minimum registered capital and operating capital requirements of wholly foreign-funded banks or joint equity banks and for foreign funded or joint equity finance companies are described in the Administrative Rules Governing Equity Investment in Chinese Financial Institutions by Overseas Financial Institutions, which were issued on December 8, 2003 by the CBRC upon approval by the State Council. According to these rules, a foreign financial institution wishing to invest in a Chinese financial institution must fulfil the following requirements:

• its total assets at the end of the previous year must have been of a minimum of USD 10 billion if investing in a Chinese commercial bank, and USD 1 billion if investing in a Chinese urban or rural credit cooperative or a Chinese non-bank financial institution;
• it must have had a favourable long-term credit rating for the previous two years;
• it must have been profitable during the previous two years; and
• if the overseas financial institution is a commercial bank, it must have a capital adequacy ratio of no less than 8%.

The CBRC may freely adapt these requirements or impose new ones on a foreign investor if it identifies specific risks for the financial system and industry.

Under the Rules for Implementing the Regulations Governing Foreign Financial Institutions, they must:

• possess a sound corporate governance structure;
• demonstrate a persistently positive operational performance (for example good profitability);
• produce financial reports prepared in accordance with prudent accounting principles (for example, sufficient provisioning of nonperforming loans) and that contain no reservations over the three previous years;
• have no record of major legal violations or of uncreditworthiness, such as might be manifested in cases of contract infringement;
• possess a good reputation in the banking sector and a good image;
  and
• manifest overall stability and possess an effective communication system between the home and the host supervisory authorities.

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7.1.2. Approvals

A long list of administrative approvals may be required to complete the acquisition by a foreign investor of equity in a domestic institution.

The CBRC is responsible for approving transfers of equity interests in a financial institution. As regards the acquisition by a foreign investor of State-owned shares or legal person shares of a listed company (presumably including a PRC domestic bank), additional approvals may be required from the following authorities:¹⁰⁴

• the State Economic and Trade Commission if the transfer involves industrial policy or restructuring of a listed company;
• the State-owned Assets Supervision and Administration Commission if the transfer involves management of State-owned interests;
• the State Council if the transfer involves major and important issues; and
• the China Securities Regulatory Commission if regulations on acquisition of listed companies so require or if disclosure requirements are triggered.

In addition, in the event of purchases by foreign investors of equity and assets in domestic entities,¹⁰⁵ share transfers may be subject to approval by the Ministry of Commerce (MOFCOM).

Finally, additional approval from the State Administration of Foreign Exchange (SAFE) may be required if capital account transactions are involved. For instance, registration with SAFE is required before filing any equity transfer of non-tradable State-owned shares and legal person shares in a listed domestic company.

7.2. Foreign-invested Enterprise Financial Institutions (FIEFIs)

With its accession to the WTO, China committed to liberalize FIEFIs’ access to its banking sector. From the date of accession to June 30, 2005, 227 foreign banks had obtained licences.¹⁰⁶ By the end of 2004, according to the CBRC, foreign banks could provide local currency services in 18 Chinese cities. Xian and Shenyang were opened to foreign banking one year ahead of schedule. Local currency business was opened to foreign banks in two other cities, Shantou and Ningbo, in December 2005.¹⁰⁷

The liberalization schedule has now come to an end, geographic restrictions have been lifted and foreign banks are widely authorized to carry out renminbi business. China’s banking big bang occurred on December 11, 2006 with the entry into force of the Regulations on administration of foreign invested banks (the Foreign-invested Bank Regulations).¹⁰⁸

Even if, for fiscal reasons, China keeps two different sets of laws, one for domestic commercial banks and one for foreign banks, the two regimes are becoming ever more similar. The main remaining differences lie in their access to Chinese individual clients, in their risk management and supervision duties, and as regards their capacity to issue bonds on the local market.

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Foreign banks investing in China may incorporate subsidiaries in China and establish branches. The choice of investment mode must take account of the differences in their business scopes and capital requirements.

7.2.1. Capital Requirements and legal forms

The registered capital of a wholly foreign-owned bank or Chinese-foreign equity joint venture bank must be of at least RMB 1 billion. Any branch established within the PRC must be allocated working capital of a minimum of RMB 100 million. The sum of the operating funds allocated by a wholly foreign-invested or sino-foreign equity joint venture bank to all of its branches may not exceed 60% of its total registered capital.¹⁰⁹

On the other hand, a branch of a foreign bank conducting foreign exchange business must have working capital of no less than RMB 200 million,¹¹⁰ a foreign bank branch conducting foreign exchange business and renminbi business must have working capital of no less than RMB 300 million and the renminbi-denominated proportion of its working capital must be no less than RMB 100 million.

In addition, to qualify as a wholly foreign-invested bank, its foreign parent bank or main shareholder must meet the following conditions:

• it must be a commercial bank;
• it must have established a representative office on mainland China;
• its total assets at the end of the previous year must not have been less than USD 10 billion; and
• its capital adequacy ratio must satisfy the provisions of the financial regulatory authority of the country or region where it is headquartered as well as those of the CBRC.

Foreign banks proposing to establish a branch must meet the following conditions:

• their total assets at the end of the previous year must not have been less than USD 20 billion;
• their capital adequacy ratio must satisfy the provisions of the financial regulatory authority of the country or region where they are headquartered as well as those of the CBRC; and
• if the application concerns the opening of a first branch, the applicant must have had a representative office for over two years within the PRC.

If a foreign bank proposes to establish a bank on mainland China, it may not establish any new representative offices except in China’s western regions though it may maintain existing representative offices.

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7.2.2. Business scope

With the approval of the CBRC, wholly foreign-owned banks and sinoforeign equity joint venture banks may operate any or all of the following businesses in foreign exchange and in renminbi:

• accepting deposits from the public;
• extending short-term, medium-term or long-term loans;
• acceptance and discount of negotiable instruments;
• trading in governmental bonds, financial bonds and other securities denominated in foreign currency other than shares;
• providing letter of credit services and guarantees;
• domestic or overseas settlements;
• trading in foreign exchange for its own account as well as that of others;
• acting as insurance agent;
• inter-bank lending;
• banking card business;
• providing safe deposit box services;
• providing creditworthiness investigations and consultancy services; and
• other businesses approved by the CBRC.

Upon approval of the PBOC, branches of wholly foreign-owned banks and sino-foreign invested banks may conduct foreign exchange settlements and trading.¹¹¹

Each branch of a foreign bank may, within the scope of business approved by the CBRC, operate any or all of the same services, except issuing credit cards, and may propose them for renminbi business to clients other than Chinese nationals.¹¹²

Upon approval by the PBOC, branches of foreign banks may carry on foreign exchange settlements and sales.¹¹³

7.2.3. Specific requirements with respect to renminbi business

If a foreign-invested bank intends to carry on renminbi business, it must meet the following conditions:

• it has been carrying on business within mainland China for at least the three previous years;¹¹⁴ and
• it has been profitable for the two previous years.¹¹⁵

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7.2.4. Supervision and administration

The Foreign-invested Bank Regulations refer to different ratios to be respected by foreign banks. In most cases, grace periods running until 2011 have been specified.

In particular, branches of foreign banks must maintain a ratio of current assets to current debts of no less than 25%.¹¹⁶

The renminbi and foreign currency assets of a branch of a foreign bank within the territory of mainland China may not be less than its renminbi and foreign currency liabilities.¹¹⁷

Foreign banks must hold 30% of the working capital of each branch in the form of interest-bearing assets designated by the CBRC.¹¹⁸

The renminbi share of the sum of the operating capital and reserves of the branch of a foreign bank to its non-risk free renminbi assets may not be less than 8%.¹¹⁹

Once a foreign bank opens a second branch, it must designate one of them to manage all branches on a unified basis.

Foreign-funded banks should practice independent risk management, implement a risk-based loan classification system, observe good corporate governance¹²⁰ and submit to effective auditing. Ever more detailed regulations may be expected in these regards in the future as China aims to achieve international standards of performance in its financial sector.

On November 24, 2006, the CBRC issued its Announcement on the Relevant Matters after the Promulgation of the Detailed Rules for the Implementation of the Regulations on the Administration of Foreign-invested Banks. The CBRC has issued a public notice on the Foreign-invested Bank Regulations and its implementing rules that stipulate certain grace periods. Despite its importance, this text has uncertain legal value and is subject to unilateral change by the CBRC.

Foreign banks were given until August 1, 2007 to align themselves with the rules and regulations.

Wholly foreign-funded banks and sino-foreign joint venture banks established before the promulgation of the Foreign-invested Bank Regulations (as well as the branches of foreign banks that do not meet the new registered capital or working capital requirements) may maintain their situations provided that their clients’ scope of activities remain unchanged. In this case they do not need to apply for a new licence.¹²¹

Wholly foreign-funded banks created from branches as well as wholly foreign-funded banks and the sino-foreign joint venture banks established before the promulgation of the Foreign-invested Bank Regulations are given until December 31, 2011 to achieve a ratio of loans to deposits not in excess of 75%.

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Wholly foreign-funded banks converted from a branch solely funded by the parent bank as well as wholly foreign-funded banks and sino-foreign joint venture banks established before the promulgation of the Foreigninvested Bank Regulations have until December 31, 2009 to implement a ratio of loans to the same borrower to the balance of capital not in excess of 10%.

During these grace periods, the total outstanding lending to any enterprise and its related entities by a wholly foreign-funded bank or a sino-foreign joint venture bank may not exceed 25% of their net equity. This requirement, however, does not apply to loans signed by a former branch of a foreign bank and transferred to the solely foreign-invested bank.

Wholly foreign-funded banks succeeding to a branch must set up an independent and complete computer information management system within a maximum of two years after the transformation.

Foreign banks opening wholly foreign-funded banks and sino-foreign joint venture banks are not allowed to establish representative offices but wholly foreign-invested banks converted from branches on mainland China may maintain their existing representative offices.

The general representative offices of other foreign banks must be closed before June 1, 2007, and their functions must be transferred to the branch designated by the parent bank as the managing branch.

7.3. Foreign-invested financial leasing companies

Foreign financial leasing companies are subject to the CBRC’s Administration of Foreign Investment in the Leasing Industry Procedures dated February 3, 2005, which became effective as of March 5, 2005. Under these procedures, foreign-invested financial leasing companies may carry on financial leasing by means of direct leasing, sub-leasing, lease-back, leveraged leasing, entrusted leasing and joint leasing.¹²² The total assets of the foreign investor in foreign-invested finance leasing companies must be at least USD 5 million.¹²³

Foreign-invested finance leasing companies must satisfy the following conditions:

• their registered capital may not be less than USD 10 million;
• in general, the term of operation of foreign-invested financial leasing companies in the form of limited liability companies may not exceed 30 years; and
• they must have in their employ suitable professionals and their senior management personnel must have corresponding professional qualifications and not less than three years’ experience in the business.¹²⁴

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Foreign-invested finance leasing companies may conduct the following businesses:

• financial leasing;
• leasing;
• purchases of leased property in and outside China;
• realization of residual values and maintenance of leased properties;
• lease transaction consultancy and security services; and
• other businesses approved by the examination and approval authority.¹²⁵

In general, the assets at risk of a foreign-invested finance leasing company may not exceed ten times its total net assets. Assets at risk are determined on the basis of the total assets of the enterprise less its cash, bank deposits, government bonds and entrusted lease assets.¹²⁶

Before March 31 each year, foreign-invested finance leasing companies must submit to the MOFCOM a report on the previous year’s activities as well as a financial report audited by an accounting firm.¹²⁷

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8. Criminal liabilities of financial institutions

Criminal activities in financial affairs are sanctioned under the Criminal Law as well as under the various laws governing banking and financial activities. Most recently, the Chinese authorities have embarked on a campaign to stem money laundering.

8.1. The Criminal Law

Whoever sets up a financial institution without authorization or forges, alters or transfers business licences to carry on such activities may be fined up to RMB 200,000 and sentenced to no more than three years’ imprisonment. In serious circumstances, a maximum of ten years’ imprisonment and a maximum fine of RMB 500,000 may be imposed. Guilty banks are fined.¹²⁸

The same sanctions are applicable to those who forge or alter treasury bonds or other negotiable securities issued by the Chinese State. In addition, if the amount involved is “especially large”, those responsible are sentenced to a minimum of ten years’ imprisonment, to fines of a maximum of RMB 500,000 and their property may be confiscated.¹²⁹

Banks and their personnel responsible for granting loans to related people or for granting secured loans subject to conditions better than those for similar loans to other borrowers are to be sentenced to a maximum of five years’ imprisonment, and to fines of a maximum of RMB 100,000. If the losses are serious, the minimum term of imprisonment is five years and the maximum fine is RMB 200,000.¹³⁰

State-owned companies, enterprises or institutions that violate State stipulations and deposit foreign exchange abroad without authorization or illegally transfer foreign exchange abroad, and where the circumstances are serious, are to be sentenced to fines; personnel directly responsible for the acts and those hierarchically responsible are to be sentenced to no more than five years’ imprisonment.¹³¹

8.2. The banking laws and regulations

The Commercial Bank Law defines a series of acts that are deemed to constitute crimes:

• the issue of financial bonds or the borrowing of funds from overseas without approval;
• buying and selling government bonds or foreign exchange without approval;
• the conduct of trust investment business or investments in long-term assets within the country other than for their own use;
• investments in non-banking financial institutions and enterprises;
• the issue of credit loans or guaranteed loans with better conditions than those prevailing on the market to people who have connections with the bank;
• communication of accounting reports that are false or in which important facts are not disclosed;
• refusals to submit to audits, investigations and supervision by the PBOC; and
• the lease or loan of business licences.¹³²

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8.3. Criminal liabilities specific to FIEFIs

If a FIEFI is established illegally or anyone illegally conducts financial business without the approval of the CBRC, its operations may be closed and, where appropriate, criminal pursuits are launched. If the case is not serious enough to be subject to criminal sanctions, illegal gains are confiscated and fines may be imposed up to a maximum of five times the illegal gains. Where the illegal gains are less than RMB 100,000, a fine of a minimum of RMB 100,000 and a maximum of RMB 500,000 is imposed.¹³³

If FIEFIs carry on financial businesses beyond their authorized scope, they incur criminal sanctions in serious cases. Otherwise, administrative sanctions will be applied, including confiscation of illicit gains and fines up to a maximum of five times the amount of the illegal gains.¹³⁴

If FIEFIs open new lines of business without approval, the CBRC may order cessation of such activities, it may confiscate any illegal gains and it may impose fines of a maximum of three times the illegal gains.¹³⁵

Additional fines may be applied and warnings given to FIEFIs if they refuse or hinder supervision or submit false documents, materials or written reports, fail to submit financial statements and any relevant documents or materials within the prescribed period or fail to formulate the relevant operation rules or establish and perfect the relevant management systems.¹³⁶

8.4. Money laundering

Under a new set of rules, transactions in both renminbi and foreign currency will come under closer scrutiny. Regulations from the PBOC focus on the use of financial institutions to launder funds obtained by illegal means. In January 2003, the PBOC issued three rules relating to money laundering¹³⁷ that became effective as of March 1, 2003 (the PBOC Money Laundering Regulations).¹³⁸

In order to fight money laundering, several solutions have been implemented covering various aspects of money laundering and taking into consideration the Chinese context.¹³⁹

8.4.1. Institutional solutions

The PBOC has set up several institutions to combat money laundering. In September 2001, it created an anti-money laundering working group as an immediate reaction to the attack on the World Trade Center. In July 2002, it established a payments transaction monitoring office and an anti-money laundering office to combat laundering through the financial system of the proceeds of smuggling, drug trafficking, terrorism and corruption.

The SAFE, in the exercise of its responsibilities for monitoring foreign currency transactions, targets in particular those involving money laundering. ¹⁴⁰

The PBOC’s Payments and Settlements Management Office (PSMO) oversees renminbi transactions, in particular inter-bank transfers and settlements. In each case, the SAFE and the PSMO have jointly adopted rules and procedures that apply to commercial banks.

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8.4.2. Subject financial institutions

The PBOC Money Laundering Regulations present several noteworthy aspects. First, they are circumscribed to financial institutions under the responsibility of the PBOC, that is the policy banks, the commercial banks, the credit cooperatives, the postal savings institutions, the trust and investment companies, the financial leasing companies, and the foreign financial institutions.

Securities and funds management firms and insurance companies are specifically left out of the scope of the PBOC Money Laundering Regulations. They are respectively under the supervision of the China Securities Regulatory Commission (CSRC) and the China Insurance Regulatory Commission (CIRC).

8.4.3 Controls on commercial banks

As early as the 1990s, the PBOC had set down rules and guidelines for the identification of account holders, the sources of cash deposits, the purposes of remittances, and governing record keeping.

The current regulations attribute an enforcement role to the banks.

Commercial banks must check the authenticity and the legality of the documents produced by customers requesting their services. Photocopies are to be kept on file.

They must report large or suspicious transactions (whether scriptural or cash) to the Public Security Bureau (PSB). Commercial banks must maintain records of customer accounts and transactions data for a minimum of five years.¹⁴¹

The procedures on renminbi transactions require the reporting of single transfers between legal persons, organizations, and privately owned businesses of RMB 1 million and above and of cash deposits or withdrawals, transfers between bank accounts of individuals and settlements in amounts of RMB 200,000 or more.

Furthermore, the Regulations require the establishment of policies and procedures, the creation of posts and the appointment of qualified personnel to combat money laundering activities that may be subject to PBOC inspection and audit.

The definition of “suspicious” transactions that are to be reported immediately to the PSB refers to criteria such as their amounts, frequency, source, direction and purpose.¹⁴² In practice, it appears that, according to PBOC officials’ comments, the word suspicious refers to “abnormal”. For example, even small transactions may be suspicious when they are reiterated an abnormal number of times.

Banks need only report suspicious transactions, while the determination of whether there has been wrongdoing is the domain of the PBOC.

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9. Conclusion

Remarkably, since the inception of the reform movement in 1978 and most especially since its entry into the World Trade Organization in 2001, China has been able to create an integrated and coherent regulatory framework for the financial industry.

Foreign investors have responded favourably to the tremendous efforts made by the participants in the Chinese banking sector and they have invested in large numbers in the banking and financial industry.¹⁴³ For example, by mid-2004, 62 foreign banks had established over 200 representative offices in China, and HSBC Holdings’ had purchased a 19.9% share of the Bank of Communications for USD 1.75 billion.¹⁴⁴

The liberalization of the banking system and the entry of foreign banks will force Chinese banks to improve their governance standards.

Nevertheless, the risks of the Chinese banking system are substantial. These risks are both macro and micro.¹⁴⁵ In addition to the general risks common among developing countries of overheating economies, over-reaching bureaucracies, corruption, etc., non-performing loans of Chinese banks are a highly political issue and though their precise amount remains unknown, they might generate a crisis with systemic consequences even beyond China’s borders.

Banking reforms over the last few years have failed to address the problems of the application and enforcement of the multifarious regulations applicable to the banking sector. For instance, the process of appointment of senior managers in Chinese banks by State authorities remains shrouded in mystery. “Obtaining that banks make lending decisions based solely on commercial considerations, with adequate regard to viability and riskiness of projects remains a major reform challenge”,¹⁴⁶ and may have to await political reforms.

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