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Regulation of Financial Conglomerates in China: From De Facto to De Jure

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Abstract

Financial operations and the regulation thereof have undergone drastic changes in China in the past few decades. Among these changes, the emergence and development of various financial conglomerates are quite noteworthy. At present, such financial conglomerates mainly exist in a de facto sense, due to the lack of corresponding specific laws and regulations. The regulatory structure is also immature in this respect. In particular, no meaningful coordination mechanism exists among different sectoral regulatory authorities, and the division of supervisory responsibilities in relation to financial conglomerates remains to be clarified. Different factors taken into account, it is submitted that a single mega-regulator is not desirable for the time being, while an effective coordination mechanism based on separated, functional regulation, with the central bank as the leading coordinator, is a more realistic and potentially better choice for China.

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References

  1. See Article 43 of the Law of the People’s Republic of China on Commercial Banks (Zhonghua Renmin Gongheguo Shangye Yinhang Fa, which was promulgated and took effect in 1995, herein ‘Commercial Bank Law’): ‘No commercial banks shall, within the territory of the People’s Republic of China, engage in trust investments and stock operations, or invest in real estate that is not for their own use. No commercial banks shall, within the territory of the People’s Republic of China, invest in non-banking financial institutions and enterprises…’, as well as Article 6 of the Law of the People’s Republic of China on Securities (Zhonghua Renmin Gongheguo Zhengquan Fa, which was promulgated in 1998 and took effect in 1999, herein ‘Securities Law’): ‘Securities business shall be engaged in and administered separately from the banking business, trust business and insurance business; securities companies shall be established separately from banks, trust companies and insurance companies.’

  2. The revised Article 43 of the Commercial Bank Law now reads as follows: ‘No commercial banks shall, within the territory of the People’s Republic of China, engage in trust investments and securities operations, or invest in real estate that is not for their own use or in non-banking financial institutions and enterprises, unless otherwise provided for by the State.’ [emphasis added] The revised Article 6 of the Securities Law now reads as follows: ‘Securities business shall be engaged in and administered separately from the banking business, trust business and insurance business, and securities companies shall be established separately from banks, trust companies and insurance companies, unless otherwise provided for by the State.’ [emphasis added]

  3. Arguably, the language of the original separation requirement before 2003 did not rule out cross-sectoral investment completely, as further discussed in section 5.1.1. Nevertheless, the revision, by adding the proviso, has offered financial institutions more possibilities.

  4. See Article 9 of the Law of the People’s Republic of China on the People’s Bank of China (Zhonghua Renmin Gongheguo Zhongguo Renmin Yinhang Fa, which was promulgated and took effect in 1995, and was revised in 2003, herein ‘Central Bank Law’), which requires the State Council to establish a coordination mechanism for financial supervision and administration and formulate the specific rules thereof.

  5. See generally José de Luna Martínez and Thomas A. Rose, ‘International Survey of Integrated Financial Sector Supervision’, World Bank Policy Research Working Paper 3096 (July 2003).

  6. See, for example, IOSCO, Principles for the Supervision of Financial Conglomerates (London, IOSCO 1992), at p. 3; Joint Forum on Financial Conglomerates (herein ‘Joint Forum’), Supervision of Financial Conglomerates (1999), at p. 69, available at: <http://www.bis.org/publ/bcbs47.pdf>, last visited on 3 December 2010; European Commission, Directive 2002/87/EC (Financial Conglomerate Directive), Art. 2(14), available at: <http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=OJ:L:2003:035:0001:0001:EN:PDF>, last visited on 3 December 2010.

  7. For a more detailed discussion of the difference between a pure holding company and an operational holding company, see Wang Wenyu, Konggu Gongsi Yu Jinrong Konggu Gongsifa [Holding Company and Financial Holding Company Law] (China University of Political Science and Law Press 2003), at pp. 14–15.

  8. Including Australia, Canada, Denmark, Estonia, Hungary, Iceland, Korea, Latvia, Luxembourg, Malta, Norway, Singapore, Sweden and the United Kingdom. Mexico also took part in this survey but did not provide market share information.

  9. See Martínez and Rose, supra n. 5, at p. 10.

  10. Including the Industrial and Commercial Bank of China (ICBC), China Construction Bank (CCB), Bank of China (BOC) and Agricultural Bank of China (ABC).

  11. According to the Interim Rules on the Regulation of Financial Trust and Investment Institutions (Jinrong Xintuo Touzi Jigou Guanli Zanxing Guiding) promulgated by the People’s Bank in 1986, TICs may engage in such operations as trust deposit, trust lending, securities issuance, fixed assets investment, working funds lending, guarantee provision and economic consultation. However, in reality, TICs, by establishing securities companies, insurance companies or even industrial-commercial companies, and by absorbing public deposit beyond their scope of business, engaged comprehensively in banking, securities, insurance and industrial-commercial activities. They were indeed ‘financial supermarkets’ or universal banks in essence. See Yang Yong, Jinrong Jituan Falü Wenti Yanjiu [Legal Issues of Financial Conglomerates] (Peking University Press 2004), at p. 225.

  12. On 14 November 1993, the third plenary session of the 14th Central Committee of the Communist Party of China (CPC) passed the Decisions on Several Issues Related to the Establishment of the Socialist Market Economy (Guanyu Jianli Shehui Zhuyi Shichang Jingji Ruogan Wenti De Jueding), which mandated ‘separated administration of banking and securities businesses’. On 15 December the same year, the Central Committee of the CPC and the State Council promulgated the Decisions on the Reform of the Financial System (Guanyu Jinrong Tizhi Gaige De Jueding), stating that ‘state-owned commercial banks shall not invest in non-financial enterprises … insurance, securities, trust and banking businesses shall be operated separately’.

  13. See Article 43 of the Commercial Bank Law (1995); Article 5 of the Law of the People’s Republic of China on Insurance (Zhonghua Renmin Gongheguo Baoxian Fa, which was promulgated and took effect in 1995 and was substantially revised in 2009, herein ‘Insurance Law’).

  14. See supra n. 1.

  15. In 2007, Central Huijin was merged into the newly established sovereign fund China Investment Corporation and became a subsidiary of the latter.

  16. A more detailed introduction to the holding structure of Central Huijin is available at: <http://www.huijin-inv.cn/hjen/aboutus/aboutus_2008.html?var1=About>, last visited on 3 December 2010.

  17. This was done first through case-by-case application and approval, and in accordance with the Pilot Measures for the Establishment of Fund Management Companies by Commercial Banks (Shangye Yinhang Sheli Jinjin Guanli Gongsi Shidian Guanli Banfa, herein ‘Pilot Fund Measures’) jointly promulgated by the People’s Bank, the Banking Commission and the Securities Commission in 2005.

  18. See discussions below in section 5.1.1.

  19. See CITIC 2009 Annual Report, available at: <http://www.citic.com/wps/portal/encitic/gyzx/jtnb?lctn=5&flag=51>, last visited on 3 December 2010.

  20. For a more thorough introduction to de facto financial conglomerates and their affiliated enterprises in China, see Xia Bin, et al., Jinrong Konggu Gongsi Yanjiu [A Research on Financial Holding Companies] (China Financial Publishing House 2001), at pp. 213–229.

  21. Commercial Bank Law (2003), Art. 18.

  22. In fact, the other three SOCBs (ICBC, CCB and ABC) have also set up their own nonbanking subsidiaries in Hong Kong.

  23. See BOC 2009 Annual Report (H share), available at: <http://www.boc.cn/en/investor/ir3/201003/t20100323_989421.html>, last visited on 3 December 2010.

  24. Joint Forum, supra n. 6, at p. 64. The other requirement, i.e., the conglomerate’s primary business is financial, is obviously satisfied.

  25. See Wan Min, ‘“Erheyi” Lujing Jianming, Shenfazhan Huo Dingxiang Zengfa Shougou Ping An Yinhang’ [Report: It Has Surfaced That SDB Might Acquire Pin An Bank through Private Offering], 1 July 2010, available at: <http://www.p5w.net/stock/news/gsxw/201007/t3054825.htm>, last visited on 3 December 2010.

  26. ‘About Ping An’, available at: <http://about.pingan.com/en/index.shtml>, last visited on 3 December 2010.

  27. See CITIC 2009 Annual Report, supra n. 20.

  28. In a nutshell, there are four tiers of legal documents in China: the ‘law’ (Falü) in its strict sense, as enacted by the NPC or its Standing Committee, being the highest level of law in the country; the ‘administrative regulation’ (Xingzheng Fagui) as promulgated by the State Council, being the second highest level of law; ‘ministerial regulations’ (Buwei Guizhang) as promulgated by the ministries or ministerial-level agencies under the State Council; and ‘local law’ (Difang Fagui) as promulgated by the local People’s Congress, ranked below the law and the administrative regulation but in principle equal to ministerial regulations; and finally, the ‘local regulation’ (Difang Guizhang) as promulgated by local governments, situated at the bottom of the pyramid. Due to the limited space of this article, only relevant laws, administrative regulations and ministerial regulations are discussed, and they are generally referred to as ‘laws and regulations’.

  29. Commercial Bank Law (2003), Art. 11.

  30. Banking Supervision Law, Art. 2. Banking institutions include commercial banks, urban cooperatives, rural cooperatives and policy banks. In addition, asset management companies, TICs, finance companies, financial leasing companies and other financial institutions established with the approval of the Banking Commission are also subject to its supervision. Ibid.

  31. Commercial Bank Law (2003), Art. 13.

  32. Ibid., Art. 39(1). This Article also sets out three other asset-liability ratios: the ratio between the balance of loans and the balance of deposits may not exceed 75%, the ratio between the balance of circulating assets and the balance of circulating liabilities may not be lower than 25%, and the ratio between the balance of the loan of one borrower and the balance of the capital of the commercial bank may not exceed 10%. Ibid., Art. 39(2)–(4).

  33. Capital Adequacy Measures, Art. 7.

  34. This includes that the commercial bank directly owns, or owns through or together with its subsidiaries, more than 50% of the equity capital of a financial institution. Ibid., Art. 10(1).

  35. Such circumstances include: (1) the bank owns more than 50% of the voting shares of the financial institution through agreements with other investors; (2) the bank has the power to control the financial and operating policies of the financial institution in accordance with articles of association or agreements; (3) the bank has the power to appoint and remove the majority members of the board of directors or other decision-making bodies of the financial institution; and (4) the bank owns more than 50% of the voting rights in the board of directors or other decision-making bodies of the financial institution. Ibid., Art. 10(2).

  36. See supra n. 18.

  37. The full name is Memorandum of Understanding on the Strengthening of Deep-level Business Cooperation and Cross-sector Regulatory Cooperation between the Banking and Insurance Sectors (Guanyu Jiaqiang Yinbao Shencengci Hezuo He Kuaye Jianguan Hezuo Liangjie Beiwanglu).

  38. Pilot Insurance Investment Measures, Arts. 6 and 7. The document itself does not mention the approval of the Insurance Commission, but according to the Provisions on the Administration of Insurance Companies (Baoxian Gongsi Guanli Guiding) adopted by the Insurance Commission in 2009, a change of any shareholder with a shareholding of 5% or more in a given insurance company needs to be approved by the Insurance Commission (Art. 26).

  39. The Measures for the Administration of Equity Interests in Insurance Companies (Baoxian Gongsi Guquan Guanli Banfa) newly released by the Insurance Commission in May 2010, however, do require that the aggregate shareholding of a single shareholder (together with its affiliates) in a domestic insurance company (that is, an insurance company with less than 25% foreign shareholding) may not exceed 20% of the registered capital of the latter, unless specially approved by the Insurance Commission. That is why the pilot banks have so far all invested in joint venture insurance companies with more than 25% foreign shareholding. See infra n. 55 and accompanying text.

  40. For a more detailed discussion, see Kejie Law Office, Shangye Yinhang Rugu Baoxian Gongsi Zhi Xianzhuang Ji Fenxi [An Analysis into the Status Quo of the Investment of Commercial Banks in Insurance Companies], available at: <http://kejielaw.com/upload/newsfile/201006/12771072442839.pdf>, last visited on 3 December 2010.

  41. Securities Law (2005), Art. 122.

  42. For the definition of inside information and persons possessing inside information, as well as other details, see Securities Law (2005), Arts. 73–76.

  43. Securities Law (1998), Art. 133(1).

  44. Securities Law (2005), Art. 81.

  45. Commercial Bank Law (2005), Art. 43.

  46. Insurance Law (2009), Art. 6.

  47. Insurance Law (1995), Art. 6.

  48. Insurance Law (2009), Art. 106.

  49. In addition, there are a number of other specific provisions regarding the cooperation between the Banking Commission and the People’s Bank on such matters as examination and inspection, payment and settlement, and systemic control and disposal. See Central Bank Law, Arts. 27, 33 and 35, and Banking Regulation Law, Arts. 6, 26, 29 and 28(2).

  50. Insurance Law (2009), Art. 158.

  51. See Guo Li, ‘Financial Conglomerates in China: Legality, Model and Concerns’, Peking University Law School (2008) (unpublished conference paper, on file with the author).

  52. See Zhou Zhihong, ‘Cong Delong Fengxian Kan Woguo De Jinrong Jianguan’ [China’s Financial Regulation Viewed from the Perspective of Delong Risks], 7 Zhongguo Chengshi Jinrong [China Urban Finance] (2007) p. 22.

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  57. See Xia Bin, ‘Dui Woguo Jinrong Jigou Zonghe Jingying De Jianguan Jianyi’ [Suggestions about the Regulation of the Integrated Operation by the Financial Institutions in China], Xinlang Caijing [Sina Finance], 12 January 2006, available at: <http://finance.sina.com.cn/economist/jingjixueren/20060112/09322269768.shtml>, last visited on 3 December 2010.

  58. See Zou Minsheng and Cheng Yong, ‘Xiabin Zhiyan Jinrong Jianguan Cun Bada Ruanlei’ [Report: Xia stated frankly that Eight Weak Points Exist in Financial Regulation], Shanghai Zhengquan Bao [Shanghai Securities News], 4 November 2005, A2.

  59. Directive 2002/87/EC of the European Parliament and of the Council of 16 December 2002 on the supplementary supervision of credit institutions, insurance undertakings and investment firms in a financial conglomerate and amending Council Directives 73/239/EEC, 79/267/EEC, 92/49/EEC, 92/96/EEC, 93/6/EEC and 93/22/EEC, and Directives 98/78/EC and 2000/12/EC of the European Parliament and of the Council, OJ 2003 L 35/1(herein ‘Supplementary Supervision Directive’ or ‘Directive’).

  60. See Michael Gruson, ‘Supervision of Financial Conglomerates in the European Union’, available at: <https://www.imf.org/external/np/leg/sem/2004/cdmfl/eng/gruson.pdf>, last visited on 3 December 2010, at p. 1.

  61. See the Explanatory Memorandum to the Proposed Supplementary Supervision Directive (24 April 2001), OJ 2001 C 213 E/227, at p. 228.

  62. ‘Regulated entity’ means a credit institution, an insurance undertaking or an investment firm. See Supplementary Supervision Directive, Art. 2(4).

  63. See Melanie L. Fein, ‘Functional Regulation: A Concept for Glass-Steagall Reform?’, 2 Stanford Journal of Law Business and Finance (1995) p. 89.

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  64. According to the Securities and Exchange Act of 1934, banks engaged in certain specified securities transactions allowed by the Act are not ‘brokers’ or ‘dealers’ within the meaning of the Act and therefore need not register with the SEC or comply with the regulatory requirements of the Act and the corresponding SEC rules. See the Securities and Exchange Act of 1934, §§ 3(a)(4)(B) and 3(a)(5)(B).

  65. In fact, Title 2 of the GLBA is called ‘Functional Regulation’. See GLBA, 113 Stat. 1338 (1999), Title 2.

  66. James A. Leach, ‘Modernization of Financial Institutions’, 25 Iowa Journal of Corporation Law (2000) p. 681, at p. 688.

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  67. Ibid., at p. 686.

  68. The term ‘new hybrid product’ means a product that: (i) was not subjected to regulation by the SEC as a security prior to the date of the enactment of the GLBA; (ii) is not an identified banking product as such term is defined in Section 206; and (iii) is not an equity swap within the meaning of Section 206(a)(6). See GLBA, § 205(6)(A). Notably, this definition does not mention the possibility of the product being an insurance product, nor does Section 205 require the SEC to consult with the state insurance regulators before issuing rules governing hybrid products that may be combinations of insurance and securities products. Section 104 of the GLBA, however, did reaffirm that the states would retain control over the regulation of insurance products and services. See GLBA, § 104(b).

  69. GLBA, § 205(1). If the Federal Reserve disagrees with the SEC’s determination that the product is a security and subject to regulation by the SEC, the Federal Reserve may have the U.S. Court of Appeals for the District of Columbia review the final regulation adopted by the SEC, provided that the Federal Reserve files, not later than 60 days after the date of publication of the final regulation, a petition with the court requesting that the regulation be set aside. Ibid., § 205(5)(A). The Court of Appeals must base its determination on whether to set aside the regulation on whether the court finds that the product is a new hybrid product, that the new product is a security, and that imposing a requirement to register as a broker or dealer for banks buying or selling the product is ‘appropriate in light of the history, purpose, and extent of regulation under the Federal securities laws and under the Federal banking laws’ without giving deference to either the SEC or the Federal Reserve. Ibid., § 205(5)(D).

  70. GLBA, §§ 204, 231(a)(3)(B).

  71. England’s main purpose to establish such a mechanism at that time was to coordinate the regulatory efforts of the Bank of England, the Securities and Investment Bureau (predecessor of the current Financial Services Authority) and the relevant self-regulatory organisations in the backdrop of the diversification of the business of banks. See George A. Walker, ‘Conglomerate Law and International Financial Market Supervision’, 17 Annual Review of Banking Law (1998) p. 287, at p. 306.

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  82. Interestingly enough, shortly after the Conservative Party regained power in the UK in May 2010, the new government announced in June that it planned to abolish the FSA by 2012, with its banking supervisory power transferred to a new Prudential Regulation Authority under the Bank of England, and consumer protection functions to be taken over by a new, independent Consumer Protection and Markets Authority, an idea similar to the so-called Twin Peaks approach adopted by Australia. Viewed together with the fact that the FSA was set up in 1997 when the Labour Party had just won the election, and the argument that the switch at that time to a single regulator was a policy decision made in response to political pressures unconnected to the evolving nature of financial markets (see, for example, Alistair Alcock, ‘A Regulatory Monster’, Journal of Business Law (1998) p. 371, at pp. 372–375), this reform decision reminds us of the extent to which (the establishment and abolishment of) the FSA has been used as a weapon against political rivals.

  83. See Martínez and Rose, supra n. 5, at p. 31.

  84. The value of establishing a legal framework specifically designed to support the effectiveness of the single regulator model was recognised in the UK. The ‘easy’ option of simply piecing together the existing sectorally-based legal regimes and vesting all of those existing powers in the FSA was ruled out in favour of the much more ambitious approach of providing a fully integrated common legal framework. Thus, the FSMA gives the FSA broad powers to regulate across the financial sector, and the FSA exercises those powers in accordance with uniform objectives, approaches and rules, based on the same ‘rulebook’. See Eilis Ferran, ‘Do Financial Supermarkets Need Super Regulators: The United Kingdom’s Experience in Adopting the Single Financial Regulator Model’, 28 Brooklyn Journal of International Law (2003) p. 257, at pp. 292–93.

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  86. The focus and primary aim of the proposed directive, which is to replace the Supplementary Supervision Directive of 2002, is to ensure appropriate supplementary supervision, i.e., to fill the unintended gaps that have developed in supplementary supervision due to definitions in the sectoral directives, namely the Banking Directive 2006/48/EC and the insurance directives. Major changes include, without limitation, the introduction of the concept of ‘mixed financial holding company’, the inclusion, under all circumstances, of asset management companies in the scope of supplementary supervision, differentiated treatment of small groups and large, complex groups in applying the threshold test, and amendment of the definition of relevant competent authority and supervisory coordination. See Proposal for a Directive of the European Parliament and of the Council amending Directives 98/78/EC, 2002/87/EC and 2006/48/EC as regards the supplementary supervision of financial entities in a financial conglomerate, Brussels, 16 August 2010 (COM(2010) 433 final).

  87. European Commission Press Release, ‘Commission Sets Out Its Plans for a New EU Framework for Crisis Management in the Financial Sector’, Brussels, 20 October 2010 (IP/10/1353).

  88. European Commission Press Release, ‘Financial Crisis Response: Commission Asks Stakeholders for Views on Further Possible Changes to Capital Requirements Directive’, Brussels, 26 February 2010 (IP/10/197).

  89. European Commission Press Release, supra n. 139.

  90. Dodd-Frank Wall Street Reform and Consumer Protection Act, Washington, 29 June 2010 (H.R. 4173).

  91. For a more detailed argument to this effect, see Zhang Wei, ‘Basai’er Xingui Dui Zhongguo Yingxiang Buda’ [Report: The New Basel Accord Does not Affect China Much], 20 September 2010, available at: <http://news.xinhuanet.com/fortune/2010-09/20/c_12588284.htm>, last visited on 3 December 2010.

  92. Financial Stability Board, Reducing the Moral Hazard Posed by Systemically Important Financial Institutions: FSB Recommendations and Time Lines, 20 October 2010.

  93. Specific criteria for or a list of Chinese SIFIs, however, are yet to be issued. According to the Banking Commission, the identification approach and regulatory framework for domestic SIFIs are still under research. See Liu Shiping and Su Xueyan, ‘Yinjianghui: Guonei Xitongxing Zhongyao Yinhang Biaozhun Ji Mingdan Shangwei Mingque’ [Report: Banking Commission Said the Criteria for and List of Domestic SIFIs Are Yet to Be Specified], Xinhua News, 26 November 2010, available at: <http://news.xinhuanet.com/fortune/2010-11/26/c_12820926.htm>, last visited on 3 December 2010.

  94. See sections 6.2 and 6.3 above.

  95. See section 6.2.3 above.

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  1. Institute of International Law, Chinese Academy of Social Sciences, China

    Fan Liao LL.D., LL.M. (Associate Professor of Law)

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Liao, F. Regulation of Financial Conglomerates in China: From De Facto to De Jure . Eur Bus Org Law Rev 12, 267–313 (2011). https://doi.org/10.1017/S1566752911200041

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