In recent years, a notable decline has been observed in the number of high-risk banking institutions, with a stark contrast seen in their asset proportions which have consistently remained lower than their numerical counterpartsThis trend indicates a concerted effort towards risk resolution within the sector, particularly among small and medium-sized banks, whose asset quality appears to be stabilizing and improvingConcerns over potential crises seem to be diminishing as these institutions work through their challenges effectively.

The Central Bank's rating of financial institutions for the year 2023 adds to this sense of stabilityThe ratings reveal that the overall operations of Chinese banking institutions are sound, with risk levels remaining manageableSuch positive outcomes, coupled with regulatory initiatives, underscore a shifting landscape in the banking sector.

Data from the Financial Supervisory Authority, alongside measures taken over the past few years to address risks, reflects an ongoing improvement in the asset quality of medium and small-sized banks

The continual resolution of risks suggests a systemic effort that does not warrant excessive alarm from stakeholders.

Interestingly, the assets of high-risk institutions—though their numbers may be significant—represent a disproportionately small segment of the total banking assets, contrasting with their greater numerical presenceFor instance, high-risk banks categorized by the Central Bank show an alarming number, yet their average asset size is just 19.7 billion yuan, highlighting their limited impact on the broader financial system.

The Central Bank initiated its rating of financial institutions in December 2017, placing focus on critical components such as capital management, asset quality, liquidity, interconnectedness, cross-border operations, and overall financial stability

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The resulting ratings categorize banks into eleven levels based on risk, arranged from least to most risky, with grades 1 through 5 considered “green”, 6 through 7 as “yellow”, and grades 8 to D indicating “red”, where institutions face significant risks.

In 2023, a total of 3,936 banks were assessed, culminating in a collective asset volume of 396.12 trillion yuanAmong these banks, an impressive 1,979—half of the cohort—were rated in the “green” zone, commanding a substantial asset volume of 371.88 trillion yuan, accounting for 93.88% of the totalIn contrast, the “yellow” zone housed 1,600 banks with assets worth 17.19 trillion yuan (4.34%), while the “red” zone comprised 357 banks, collectively holding 7.05 trillion yuan (1.78%).

The implication of these ratings is clear; the institutions flagged as high-risk predominantly belong to the category of urban commercial banks and rural financial cooperatives, which include a range of smaller banks

The Central Bank, since the end of 2020, has also established a risk monitoring and early warning system for banks rated from 1 to 7, leading to regular assessments and 12 rounds of alerts thus far, identifying 481 instances that require further scrutiny—again, predominantly involving urban commercial banks and rural financial institutions.

Examining the historical ratings indicates that, even with a slight uptick in high-risk institutions since 2022, the increase is negligible when contrasted with data from before 2020, revealing a more pronounced reduction in the proportion of such institutions within the banking sectorFurthermore, in terms of asset concentrations, the significance of high-risk institutions remains markedly low, reinforcing the notion that these high-risk entities are primarily small-scale banks.

Beyond the Central Bank’s evaluative practices, the Financial Supervisory Authority also regularly disseminates data regarding the asset quality of banks

Their recent disclosures highlight that urban commercial banks have maintained stable non-performing loan ratios and provisioning coverage, while rural commercial banks have shown improvementsOverall, the asset quality of small and medium banks is on a path towards steady enhancement.

The regulatory framework has been consistently advancing measures to alleviate risks associated with small and medium-sized banksRecent years have seen various initiatives aimed at addressing and mitigating these risks effectively, securing the future of these institutions.

One prominent strategy has been the consolidation and restructuring of small and medium-sized banksMergers are not simply the sum of assets from different banks but involve a meticulous process of addressing existing non-performing assets and reshaping ownership structures

This strategic realignment aids banks in shedding historical burdens while enhancing corporate governance, thus reducing potential risks moving forwardNotable examples include the consolidations of Shanxi Bank, Sichuan Bank, Liaoning Shen Bank, and others, which have contributed to a persistent decline in the number of banking institutions in the region.

Additionally, specific bonds dedicated to supporting the growth of small and medium-sized banks have been introduced, formally recognized as “Special Bonds for the Development of Small and Medium Banks.” With a total issuance limit of 550 billion yuan, these bonds have bolstered the capital of small banks, issued since December 2020, culminating in 52 releases amounting to a total of 482 billion yuanThe financial structure offered by these bonds encompasses capital injections through equity agreements and indirect equity participation, which address various capital needs within these banking entities.

Lastly, robust governance practices have been enacted to preemptively address the potential roots of risk within many small banks