The Waigaoqiao Free Trade Zone in Shanghai, which will be included in the new Shanghai free trade zone Photo: CFP

 
For banks operating in the Chinese mainland, the newly launched Shanghai free trade zone (FTZ) offers a brand new battlefield worth fighting for.

Industrial and Commercial Bank of China will open a branch in the zone and its foreign rivals are also eager to operate there.

Although the government has not yet released detailed policies regarding the FTZ, the zone has caused quite a stir in the world's second-largest economy.

Several overseas lenders are reportedly planning to set up branches in the FTZ, which is expected to be a testing ground for financial reforms such as interest rate liberalization and full convertibility of the yuan.

HSBC, Standard Chartered and Bank of East Asia are expected to be among the first batch of foreign banks to open businesses in the FTZ, according to a China Business News report on September 11, citing insiders close to the banks.

Several other foreign banks have also expressed an interest in participating in the pilot zone.

"The FTZ will bring unprecedented opportunities for foreign banks to expand their businesses in the mainland," Lu Qianjin, an associate professor of international finance at Shanghai-based Fudan University, told the Global Times.

"They will enjoy a less restricted market, as intensive financial reforms are expected to take place in the zone," Lu noted.

Preferential policies

In the new zone, foreign banks are expected to benefit from broad financial reforms as well as preferential policies. For example, under the draft plan for the FTZ, foreign banks will be allowed to directly set up wholly owned subsidiaries or joint ventures with mainland partners in the zone.

Also, many requirements such as those for opening a branch, business scope and capital volume threshold will be eased for foreign lenders, Wang Xinkui, director of Shanghai's Counselors' Office and one of the key people behind the drafting of the FTZ plan, said at a recent forum.

When contacted by the Global Times on September 16, an HSBC spokesperson said via e-mail that the bank was "interested in a presence in the Shanghai FTZ." Standard Chartered also told the Global Times via e-mail on September 10 that the bank was "closely following the development" of the zone and was "excited about the opportunities" that will be provided by the FTZ.

In a statement sent to the Global Times Sunday, Bank of East Asia (China) said that it had set up a working group to research the feasibility of various options for their financial services development in the FTZ.

Though it has been six years since the first batch of foreign banks gained approval to establish wholly owned subsidiaries in the mainland, their development has been limited so far due to policy restrictions.

"But if foreign banks are allowed to set up independent businesses, it means they will be treated the same as Chinese banks, and many restricted areas will be opened to them," said Sun Lijian, deputy director of the School of Economics at Fudan University. 

Foreign advantages

Shanghai's FTZ could be even more favorable for foreign banks' development than for their domestic rivals, experts noted.
"Foreign banks are more experienced in operating in a free financial market," said Lu of Fudan University.

The advantages of foreign lenders lie in their ability to allocate capital and control risks, and their overseas customer base, experts said.

"In the FTZ, the financial market is the most promising sector, but it also involves the greatest risks, so it will require players to enhance their ability in terms of capital allocation, risk pricing and risk control," said Pan Yingli, a professor at the Antai College of Economics and Management of Shanghai Jiao Tong University. "[Compared to domestic lenders] the biggest strengths of foreign banks are risk pricing capabilities, that is, how to set interest rates [for different clients]. They have more advantages than mainland commercial banks in a market with liberalized interest rates," Pan noted.

Meanwhile, their solid overseas customer base and experience in dealing with foreign clients will also make it easier for foreign banks to win offshore financial business, a service that will be developed in the FTZ, said Sun.

"In the FTZ, overseas enterprises will be the main participants, and they tend to trust international banks that have a long history," Sun noted.
With their experience in mature financial markets, foreign banks will also contribute to the development of the Shanghai FTZ, said Wang Xinkui.

Wang said that given the risks of the financial reforms, the trial reforms in the FTZ will mainly be realized through testing various kinds of financial products, rather than establishing a fully open and free market all at once.

"In this case, foreign banks have great advantages, as we cannot design a totally new product, but select some that are popular in the international market, and that have proved to be relatively effective and easy to supervise. Foreign banks have more experience with such products," Wang said.

"Foreign banks will be an important participant in the financial reform in the zone. They will enjoy but at the same time create the benefits of reform," Wang noted.

Careful guidance needed

But Sun said it is still too early to say whether foreign banks' rich experience with financial products will promote or disturb the development of the FTZ.

"It is certain that the foreign banks will gain something from the FTZ - either in terms of long-term returns from operating trade-related investment and financing businesses, or in terms of quick, easy money from interest arbitrage," Sun said.

But the two alternative ways of making profits will have very different effects for China's economy.

"The former one will support the growth of the real economy in the zone, but the latter will lead to false prosperity with mounting risks that could destroy the FTZ financial reform," Sun noted.

This means that it is critical for China's authorities to guide foreign banks and offer proper policies.

"Foreign banks don't care whether they help or damage the FTZ development. What they care about is how to maximize their profits," Sun said.

"If the regulators can increase the costs of arbitrage and speculation, and offer favorable policies for trade-related financial services, foreign banks will become a driver of reforms in the FTZ, as their interests will be aligned with the development of the zone," he remarked.