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Laden by bad loans, China's State-owned commercial banks are finally seeing some progress in their long-standing efforts to bolster capital adequacy ratios and improve risk resistance capacity.

After being frustrated by a risk-averse central bank over the past few years, they have resumed preparing documents for bond issue plans that will help nudge their capital adequacy ratios above the 8 per cent minimum requirement.

"We are preparing the documents and will file them to the China Banking Regulatory Commission (CBRC) one of these days," said a manager with the Industrial and Commercial Bank of China (ICBC), the nation's largest State-owned commercial bank.

"We've been sending applications every year (for the past few years) but this time it looks hopeful," said the manager, who requested anonymity.

The newly-established CBRC took over bank regulatory functions from the People's Bank of China earlier this year and has been quick in taking reform moves and promulgating new regulatory rules.

"They (CBRC officials) came over and asked for our opinions (about bond issuance)," the manager said.

The China Construction Bank (CCB), another State-owned commercial bank, is said to have similar plans.

China's banking sector, particularly the four State-owned commercial banks - the ICBC, the CCB, the Bank of China and the Agricultural Bank of China (ABC) - faces an urgent task of bringing up their capital adequacy levels, although the government has decided not to apply the upcoming new Basel Capital Accord that carries stricter capital requirements in the near term.

"The characteristics of China's financial sector at present are akin to those in Thailand right before the Asian financial crisis," said Wang Dayong, a senior official with the policy-orientated China Development Bank. "The probability of a crisis is growing."

The Chinese Government injected 270 billion yuan (US$32.5 billion) of capital into the four State-owned commercial banks in 1998 to bring their capital adequacy ratios up to 8 per cent before it sliced a 1.4 trillion yuan (US$169 billion) chunk of non-performing assets off their portfolios the next year.

"The purpose of that recapitalization was to improve their liquidation capacity and gain time for a systematic reform," said Wang, who participated in the recapitalization process. "Five years have passed. The systematic reform is not yet done while capital adequacy ratios are fairly low again."

Some of the four banks are said to have negative capital adequacy ratios. Some two years ago, ICBC President Jiang Jianqing said his bank's capital adequacy ratio was then close to 8 per cent.

With a further recapitalization appearing anything but likely given the tight State budget, the banks are pinning their hopes on borrowing so-called "subordinated debt" that is calculated as non-core capital to brush up capital adequacy before they move on with the initial public offering plans they had announced.

"For us, it's the practical option," the ICBC manager said.

Some analysts are worried the timing may not be the best for the debt issues given the tight liquidity situation in the market following a hike in August in the required reserves that froze a total of 150 billion yuan (US$18 billion) of funds at financial institutions.

The tight liquidity and expectations that interest rates may rise on recuperating economic activity led to the country's first-ever cancellation last month of a Treasury bond issue that carried an uncompetitive 2.4 per cent coupon.

The coupon on the ICBC's bonds should be theoretically higher than their Treasury bond equivalents due to the higher risk of subordinated debt, which ranks below other liabilities with regard to claims on assets or earnings.

But the ICBC manager said although liquidity is tighter than a few months ago, this year stands a good opportunity in a broader context. "The inflationary pressure is out there, which is likely to push interest rates up," he said.

"And we can break it up in a few separate issues," he added.

The ICBC expects to raise tens of billions of yuan in the planned bond issue and the target may go up to 100 billion yuan (US$12 billion), the source said. The deal, which will have a five year maturity at the shortest, may be issued either to both individual and institutional investors, or exclusively in the interbank market. "It's up to the CBRC," the ICBC manager said.

A senior banker with the ABC played down the significance of such debt issues, citing the tougher job of meeting the 4 per cent core capital requirement that would mainly be replenished by net earnings.

"The key is the creation of a new mechanism, or new NPLs (non-performing loans) will growing," he said.

According a report released by accounting firm Ernst & Young last week, the four State-owned commercial banks' NPLs dipped to about 22 per cent of outstanding loans at the end of June from 26 per cent at the end of 2002.

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