Banks asked to safeguard asset quality

Commercial lenders must increase their loan loss provisions in advance and dispose of more nonperforming loans to prevent further asset quality erosion due to the lingering effects of the COVID-19 epidemic, according to a senior central bank official.

Owing to the economic slowdown, Chinese lenders have started to increase their real economy exposure, which will increase macro leverage in the short term, Sun Tianqi, head of the People's Bank of China Financial Stability Bureau, said at the China Development Forum on Thursday.

Sun's warning came after the nation's banking regulators disclosed that during the third quarter of the year, the average nonperforming loan ratio of all commercial banks rose to 1.96 percent, up by 0.02 percentage points from the end of the first six months.

Loan loss reserves of banks increased to 5.1 trillion yuan ($770.1 billion) by the end of September, up by 108.6 billion yuan on a quarterly basis, while the provision coverage ratio fell to 179.9 percent from 182.42 percent, according to data from the China Banking and Insurance Regulatory Commission.

Noel Quinn, group chief executive of HSBC Holdings, said that some crises from the past can help in understanding the COVID-19 effects on the economy as over reliance on the government is not sustainable in the long run.

Based on earlier experiences, it is clear that bad loans will drag down economic development during the recovery process and weaken the banks' ability to serve the real economy. The key task for global financial institutions in the long term is how to hone their nonperforming loan capabilities, said Quinn.

A recent stress test conducted by the PBOC indicated that some small and medium-sized banks are more vulnerable than larger lenders when the overall credit asset quality deteriorates.

Loan loss provisions and capital adequacy levels of the 1,520 small and medium-sized banks in China indicate that only 4.55 percentage points growth in the nonperforming loan ratio is tolerable. In such a scenario, the loan loss provision can be maintained at 100 percent and the capital adequacy ratio at 10.5 percent, the PBOC said in its 2020 Financial Stability Report.

Sun from the PBOC suggested that market entities must improve their exchange rate risk management capacity as renminbi rate fluctuations are increasing.

The PBOC held a meeting on Thursday to promote cross-border use of renminbi by State-owned enterprises in trade. The monetary authorities said to improve the cross-border renminbi policy framework, financial institutions are required to provide more cross-border renminbi financial products and services to help reduce the exchange rate risks for the corporate sector. The meeting also stressed on the need to improve the efficiency of cross-border and offshore renminbi clearing services.

According to Sun, in the next step, the central bank will further strengthen the macro policy adjustments and defuse risks. Some effective structural policies launched during the COVID-19 epidemic peak will continue along with steps planned to unify the bond market management. The central bank will also consider more steps to boost financial reforms and opening-up.

A new report from Fitch Ratings, a global credit ratings agency, said the lasting economic scars from the pandemic, even lower interest rates, digitalization and the transition to a more sustainable economy are the four "megatrends" that could affect the credibility of financial institutions.