Risk Management in China's State Banks - International Best Practice and the Political Economy of Regulation

The modernization of the banking sector, and particularly the big four state owned commercial banks, has a top priority on the Chinese reform agenda. Three of the four state banks found foreign strategic investors as minority shareholders and domestic banks now face more competition from global players since the country's WTO commitments came fully into effect at the end of 2006. A comprehensive approach to reform aims at pushing China's state banks into the league of global leading financial institutions within a few years time. But is this aim feasible despite prevalent state dominance? To shed light on the role and impact of the state in promoting sound risk management practices this paper focuses on the political economy of law implementation. Two main conclusions are drawn: (1) the direction of action is significantly different from reform outcomes due to weak incentives to enforce respective policies and as a consequence non-performing loan accumulation continues; and (2) on a more general level banking regulation in China illustrates that a normative approach based on international best practice is insufficient to address the issue of financial stability in many emerging and developing countries because it neglects the role of the institutional embeddedness of banking reform.