Evolution and Reform of China's Financial System

Key Insight

During China's planned economy period, the People’s Bank of China (PBOC) functioned as a 'monobank', serving as both the central bank and the sole commercial bank. While the Bank of China handled foreign exchange and the China Construction Bank distributed investment funds, they were essentially PBOC units. Rural credit cooperatives collected deposits from farm families and distributed credit to small-scale rural enterprises. Under this Communist system, the PBOC acted as the state's fiscal agent, directing funds to state enterprises and transferring their surpluses to the central treasury.

In the early 1980s, the PBOC gradually became a regular central bank, and commercial lending functions were separated into the 'Big Four' commercial banks: the Bank of China, China Construction Bank, Industrial and Commercial Bank of China, and Agricultural Bank of China. These banks, directly controlled by the Ministry of Finance, dominated China’s financial system from the mid-1980s until the early 2000s, often accounting for two-thirds or more of total bank credit. Until the late 1990s, they largely continued as state fiscal agents, collecting deposits to extend working-capital loans primarily to state-owned enterprises (SOEs), with virtually no lending to private firms or households, and lacking basic consumer finance like checking accounts or credit cards. This model faced a crisis in the late 1990s due to an investment spree and SOE overcapacity, leading to unpayable 'triangular debt' and bad loans in the Big Four reaching one-third of GDP by 1998, rendering the banks insolvent.

Premier Zhu Rongji organized a restructuring plan, moving most bad loans into specialized asset management companies. The banks received fresh capital from the Ministry of Finance and were directed to finance viable businesses and provide mortgages for the newly privatized housing market. From 2001 to 2006, the Big Four were reorganized as shareholding companies, gained 'strategic shareholders' (mainly foreign commercial and investment banks) for capital infusions and international credibility, and listed on international stock markets. Concurrently, the government diversified the system by establishing three 'policy' banks in 1994 for government-directed projects, encouraging smaller 'second-tier' banks owned by local governments and SOEs, and restructuring urban and rural credit cooperatives. By 2014, the Big Four’s share of total bank loans shrank to about 40 percent. The China Banking Regulatory Commission (CBRC) was created to professionalize regulation, ensuring banks adopted modern risk-management practices and remained well-capitalized. These reforms led to improved bank quality, a stronger capital structure, increased competition, a healthier borrower universe, and a wider array of activities financed, with consumer lending, virtually nonexistent in 2000, now accounting for 19 percent of bank loans (mainly home mortgages), and a rising share of corporate lending directed to private firms.