Banks' good days may not last long

At the start of the current century, Bill Gates predicted that traditional commercial banks could be the last dinosaurs standing. A current development in China is making it seem more likely that he will be proved right.

For the first time in the history of New China, interest rates in renminbi terms are being allowed to float up by 10 percent on deposits, and down by 20 percent on loans, the People's Bank of China, the country's central bank, said earlier this year. As usual, the central bank set the base interest rates for various maturities, including the rate for one-year deposits at 3.25 percent and for one-year loans at 6.31 percent, resulting in a net-interest spread of 3.06 percentage points, which is the same as in 2011.

That means that, to compete for customers, banks may, for a one-year period, raise interest rates on deposits to the maximum of 3.575 percent and lower those on loans to the minimum of 5.048 percent, leaving a net interest spread of 1.473 percentage points. That change, if actually adopted, will bring about what we have been talking about for three decades — "striving for Chinese practices that are geared to international norms".

In comparison, the Hong Kong and Shanghai Banking Corp's net-interest spread was 2.32 percentage points in 2011 and down to 2.16 in the first half of 2012.

If the central bank's new decision isn't acted on, the Chinese banks' net-interest spread of 3.06 percentage points will be 0.74 percentage point higher than HSBC's in the 2011 and 0.90 percentage point higher its in the first half of 2012.

Don't underestimate the effects of the tiny gap. For instance, the Industrial and Commercial Bank of China, China's largest bank and the recipient of 589.58 billion yuan ($93.73 billion) in interest income in 2011, will, based on an average annualized loan amount, receive from 69.14 billion yuan to 84.09 billion yuan less if its net interest spread drops by 0.74 to 0.90 percentage point. In other words, it would receive an extra 189 million yuan to 230 million yuan a day, an amount equal to a small, well-managed company's accumulated profits for 10 years.

Although rarely do China's commercial banks fully follow the central bank's guidelines on floating interest rates, the signal has been clear — gone are the days when the banks made easy, stable money, rain or shine. Allowing interest rates to float freely is a common practice among other large economies. As China’s financial reforms become deeper, users of banking products and services may reasonably expect that, in the next three to five years, interest rates will no longer be artificially set by the central bank but be determined by market forces. That will further shake banks' dominance.

Not only are banks being adversely affected from within, their comfortable position is also threatened from the outside — by 197 Internet- and mobile device-based third-party payment solution providers that have been licensed by the central bank to conduct online payments, bankcard payment execution and pre-paid cards issuance. They include Alipay.com under Alibaba, and Tenpay.com of Tencent.

Another nightmare has occurred for banks. The huge amount of funds that sink with the online payment companies during the payment execution process has enabled them to lend out small loans to micro-sized and small online stores.

Online payment companies have been invading banks' territory — deposit taking, loans and payment execution. Although payment companies' chief source of money is not deposits, they are eating into that part of banks' business.

Shock waves are also coming from telecommunication carriers, Internet companies, e-commerce-shopping malls and bankcard organizations that are, thanks to innovations in their technologies and business models, working together to nibble away at the banks' market share.

Banks won't be easily reconciled to seeing a cloud overhanging their future prospects. They are striking back by establishing online-shopping malls and offering mobile-device payment services in an attempt to strengthen their bonds with clients. But their achievement so far has been nominal. The value of sales at the e-shopping mall that China Merchants Bank started about 10 years ago for  credit card holders, for example, was merely 700 million yuan in 2011, or only a third of Taobao.com’s single-day transaction amount, which was reported to be around 2 billion yuan last year.

Indeed, the banks' good days may not be over immediately, but may not last long, either.

The author is a former banking professional and now a freelance writer who has been published extensively in the Chinese mainland, Hong Kong SAR, Germany and Singapore.