Bank chief outlines bond market reform
By Chen Hua (China Daily)
Updated: 2005-10-21 08:43

The Chinese Government will enhance the legal environment and create conditions for more large businesses to issue corporate bonds, according to China's central bank Governor Zhou Xiaochuan.

When corporations can raise capital through corporate bonds rather than bank loans, commercial banks will shift their lending focus to small and medium-sized enterprises (SMEs), thus boosting the development of SMEs in China, the governor said.

China's bond market is very small, with a market value of only 6.5 trillion yuan (US$805 billion) by the end of last month, according to statistics issued by the People's Bank of China.

Moreover, there are very few corporate bond issuers as this was regarded as a threat to China's banks, which shoulder over 80 per cent of market financing through loans.

"The bond market is really lagging behind China's economic growth and more effort should be made to correct this and boost the bond market," Zhou said.

The governor said the first priority for the government in boosting China's bond market was to quit their planned economy mindset and switch to market-oriented principles.

In the past, the regulator often chose corporate bond issuers in a "planned way." And more often than not issuers were poor market performers, requiring the government to bail them out.

This practice led to severe problems in China, where there was no sound credit rating system, strict information disclosure, auditing standards and where retail investors always lacked sufficient risk hedging skills.

To avoid social unrest when the bond issuers went bankrupt and could not pay back their debts, the government always had to act as the bailsman by offering compensation to retail investors.

Qualified institutional investors (QIIs) should be the major buyers of bonds and over-the-counter trading should be the major way of trading, Zhou said.

QIIs are much better at analyzing and risk control than retail traders.

Market watchdog China Securities Regulatory Commission this year has allowed insurance companies and pension funds to be invested in the domestic securities market.

And bonds have become a main investment for insurers, according to Wei Yingling, chairman of the China Insurance Regulatory Commission.

Wei revealed that by the end of this August, Chinese insurers had 661.3 billion yuan (US$82 billion), or 51.4 per cent of their outstanding assets, invested in the bond market.

More bonds products should be tailor-made for retail investors with less financial power to shoulder risks.

China's domestic saving rate is among the world's highest. By the end of March this year, savings at all financial institutions amounted to about 27 trillion yuan (US$3.3 trillion), an annual increase of 15.6 per cent, according to statistics from the central bank. A lack of investment tools is blamed for the high savings rate.

The legal system is another big issue for the bond market, Zhou said. He said the government was trying to build a comprehensive legal and regulatory system for the bond market, especially the corporate bond market.

The law will stipulate that bond issuers make adequate, accurate and timely information disclosures. And a bankruptcy law will be launched to ensure efficient and fair procedures for corporate reorganization, liquidation and bankruptcy.

Also important, he said credit agencies should be developed.

In a disclosure-based market, investors heavily rely on professional financial analysis supplied by credit rating agencies to evaluate investment in bonds, said Wei Qun, partner of Sullivan & Cromwell, a US-based law agency.

The integrity of the credit rating agency is key to protecting investors' interests and assuring the efficiency of the market, she said.

When talking about bond issuers, Zhou said it would be better to first encourage big corporations with sound profitability to issue corporate bonds.

Big businesses have higher credit ratings than SMEs and their bonds are less risky.

Bond selling is a cheaper way to secure funding than bank loans and stock issues. But most of China's corporations, large or small, depend too much on bank loans as a result of policy limitations.

China's banks have a strong State-sector bias and the perception prevails that SMEs are not creditworthy borrowers. This is especially true for the four big State-owned banks that dominate bank finance in the country. They have a reputation of being unwilling to lend to SMEs, and their traditional customers are large State-owned and shareholding companies.

Encouraging large corporations to raise money by issuing bonds can solve this problem because banks will then have to find other, smaller firms to lend their money to.

(China Daily 10/21/2005 page9)