China plans to scrap cap on bank lending

But fresh loans may still be limited by weak demand, banks' wariness

CHINA'S plans to scrap a rule capping lending by banks at 75 per cent of their deposits will give a lift to the mainland's banking sector, analysts said yesterday.

However, they say a wave of fresh loans is unlikely because other constraints remain, such as weak demand from borrowers and banks' wariness about lending.

China's State Council or Cabinet on Wednesday proposed removing the cap in a bid to overhaul the banking sector and bolster lending as economic growth slows. However, the amended commercial banking law will not take effect until it is endorsed by the National People's Congress at an unspecified later date.

The move is aimed at mid- to small-sized banks and is expected to benefit them the most.

The law limiting lending to 75 per cent of deposits has been in place since the mid-1990s.

China cut interest rates for the third time in six months last month in a bid to lift a flagging economy headed for its worst year in a quarter century. However, credit demand has continued to weaken.

China's central bank has also lowered the proportion of deposits banks must hold in reserve - the reserve ratio requirement - twice this year.

OCBC economist Tommy Xie said the latest move will reduce competition among banks over attracting deposits, which will help lower banks' funding costs - and may result in cheaper credit.

However, the immediate effect will be limited as other constraints remain, he said.

As a result of a booming stock market and rising wealth management product offerings, banks have lost their deposits to emerging financial products.

Meanwhile, the decline in funds pouring into China - a key source of deposit growth over the past decade - has further contributed to stagnating deposits.

Amid the economic slowdown, weak deposit growth has capped banks' appetite and their capability to approve more loans to support the economy, Mr Xie said.

"Banks may still be reluctant to lend if there is not enough high- quality demand."

Still, the move is another step on the path of financial reform and interest-rate liberalisation, said HSBC economists Qu Hongbin and Julia Wang.

"We believe the real constraint on bank lending is risk aversion, which means that the willingness to lend has diminished faster relative to the demand from borrowers," they said in a research note.

"Therefore, more aggressive monetary policy easing is still the most effective antidote to the slowdown in lending growth."

A version of this article appeared in the print edition of The Straits Times on June 26, 2015, with the headline 'China plans to scrap cap on bank lending'. Print Edition | Subscribe