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Dec 18th, 2020 - Internet Platforms Must Acquire a License to Sell Savings Products (Informal CBIRC Communication)
The China Banking and Insurance Regulatory Commission (CBIRC) communicated to (i.e. informed before new rules are written into law) internet platforms in the country that internet companies will be required to obtain a regulatory license in order to sell savings products from third-party banks in the future. Consequently, internet platforms including Ant Group, JD Digits, Du Xiaoman Financial, and Lufax have removed third-party banks' deposit products from their platforms. The rationale is that according to China's current regulations, only banks and credit cooperatives can facilitate deposit-taking, so internet platforms that market savings products to the mass public online are ineligible as deposit-taking facilitators and must apply for a relevant license.
Our view is that this requirement is going to be put in place in order to more tightly monitor and regulate the banking transactions carried out via internet platforms as part of an attempt to mitigate the possibility of a systemic risk crisis. This is because the majority of banks that rely on internet platforms to sell their savings products tend to be small- to medium-sized local and regional banks. As stated by the regulators, regional banks are supposed to operate mostly within a region. However, the advent of fintech and internet platforms means that local banks can now reach a very wide audience and attract customers across the nation. Whilst an expansion in customer base is not necessarily detrimental to the growing bank or the financial system as a whole, the local banks that have been marketing their savings products on fintech platforms have nevertheless been growing at a very alarming rate that raises financial stability concerns, for two main reasons.
First, these small local banks have been engaging in a fierce competition to hike up deposit rates in order to attract more customers, with minimal (if any) consideration of whether or not they'll be able to pay off their liabilities. On the flip side, since the location and availability of physical branches don't matter to customers who choose banks via internet platforms, most fintech users tend to opt for whichever bank that offers the highest rate without additional considerations such as riskiness.
Second, the ease with which internet platforms allow for switching between banks makes local banks more fragile and prone to bank runs. The advent of internet fintech platforms makes it easy for consumers to switch between banks, meaning that there could be a large influx of customers withdrawing from China's well-established and more financially sound state-owned banks to the more risky smaller local banks. Again, having a larger customer base might not be problematic in and of itself, however the ease with which consumers can switch between different banks via internet financial platforms means that bank runs can also happen more quickly and easily. Moreover, small- and medium-sized banks in China tend to have a larger percentage of savings from online depositors compared with the larger state-owned banks, resulting in greater potential fragility in the case of a bank run.
Our Analysis: whilst many analysts have suggested that the Chinese government is trying to impede the development of the country's fintech sector, we don't believe this is the case. Rather, we believe that the Chinese government is trying to foster the growth of *sustainable* fintech, i.e. fintech advancements that are developed alongside compatible and effective regulatory advancements in order to boost economic growth without sacrificing financial stability. Technology has been a key driver in the Chinese economy especially during the past decade, and we expect China to promote greater technological progress in the future (e.g. the development of the STAR Board). At the same time, sustainability in economic growth is becoming a core focus on the part of the Chinese government and regulators (see further information here)
Internet platforms do not have the required license to sell deposit-taking products from third-party banks on their platforms. Consequently, fintech platforms across China have taken down third-party savings products from their platforms. The regulators are promoting these changes because the majority of banks that rely on internet platforms to sell their savings products tend to be small- to medium-sized local and regional banks, which raises two main concerns.
First, small local banks have been aggressively hiking up deposit rates as part of a competition to attract more customers without much consideration on whether or not they will be able to pay off their liabilities, while on the other hand most fintech users tend to choose savings products solely based on expected return without much risk consideration.
Second, the ease with which internet platforms allow for switching between banks makes local banks more fragile and prone to bank runs.
Jan 12th, 2021 - Restructuring of JD's FinTech Arm
JD Digits, formerly known as JD Finance, has merged with JD AI and JD Cloud to form a new unit called JD Technology. JD's restructuring is in response to a change in the regulatory environment as China tightens regulations on internet finance platforms so that such companies are regulated more closely to traditional financial institutions (see for example, the new rules on online microlending which postponed Ant Group's IPO). With these regulatory changes, the growth rate of fintech businesses in China is expected to be slower than they were in the past, and correspondingly, the restructuring of JD Digits and founding of JD Technology suggests that JD will be focusing more broadly on the development of technology as a whole rather than focusing specifically on financial technology services.
JD's restructuring is analogous to the renaming of Ant Financial to Ant Group in mid-2020, which was meant to reflect, either symbolically and/or in practice, a shift from focusing specifically on financial services to a greater focus on developing as a technology platform (read more about Ant Group here).
Our comment: JD's restructuring is one of what will probably be many this year as China's fintech companies adapt to a more stringent regulatory environment. 2021 promises to be an eventful year in terms of regulatory developments, such as the increased regulation of fintech and market competition (see here) continuing on from the previous year, and it will be interesting to see how Chinese companies will react to this evolving new landscape.
Jan 15th, 2021 - Banks Cannot Sell Savings Products on Third-Party Platforms (Official CBIRC Notification)
The China Banking and Insurance Regulatory Commission (CBIRC) has issued an official notification stating that banks can only sell deposit/savings products on their own website or platform. The selling of such products on third-party platforms, including third-party internet platforms (e.g. Ant Group or JD Technology), will be prohibited with immediate effect. Any existing products that have been sold via third-party platforms but have not yet matured will still remain valid until their maturity.
Our comment: it's noted that this official release is targeted exclusively towards regulating banks, whereas internet platforms have not received any official instructions following the informal communication from the CBIRC on December 18th last year. Presumably, the regulators are in the process of debating and finalizing the right balance of rules that should be implemented to foster continued growth without sacrificing financial stability. As the fintech sector is very new and novel, this is definitely not an easy task.
Jan 20th, 2021 - Regulations for Non-bank Payment Institutions (Official PBOC Proposal)
On January 20th, 2021, the People's Bank of China (PBOC) issued an official proposal (i.e. a proposal of regulations that will be revised and finalized after further feedback from the industry and relevant experts have been received) drafting tighter regulations for third-party (i.e. non-bank) payment institutions.
We summarize and discuss the key points covered in the proposal below.
Thresholds for Anti-Trust Warnings and Investigations
For the first time, thresholds for anti-trust warnings and investigations are being set for China's payment market.
Specifically, the PBOC and the Anti-Trust Bureau may have a "warning discussion" with relevant non-bank payment institutions if one or more of the following conditions hold:
A non-bank payment institution has a market share of more than 1/3 of the non-bank payment market
Two non-bank payment institutions have a market share of more than 1/2 of the non-bank payment market
Three non-bank payment institutions have a market share of more than 60% of the non-bank payment market
Note: the PBOC did not explicitly specify that crossing these market share thresholds would imply that the payment institutions at hand are considered as monopolizing the market. The PBOC also did not cite any harsher punishment than a warning discussion.
Moreover, the PBOC may ask the State Administration for Market Regulation (SAMR) to conduct an anti-trust investigation if one or more of the following conditions hold:
A non-bank payment institution has a market share of more than 1/2 of the digital payment market
Two non-bank payment institutions have a market share of more than 2/3 of the digital payment market
Three non-bank payment institutions have a market share of more than 3/4 of the digital payment market
The digital payment market is defined here to include both banks and non-bank institutions.
Note: the PBOC did not provide a strict definition as to what constitutes a digital payment market. For example, if only phone QR code payments are considered as the market, then Alipay and WeChat combined have definitely surpassed the above threshold of 2/3 of the market. However, if online credit card payments and POS payments are also considered as part of the market, then Alipay and WeChat would not have crossed the 2/3 threshold.
Our comment: the regulations proposed above involve a certain degree of ambiguity and interpretation, presumably because the regulators are still in the process of analyzing the market in further depth, and China's payment market itself is still constantly evolving. We expect to see more specific, refined rules targeting discrete segments of this vast market as part of subsequent regulatory developments.
Additional Regulatory Restrictions
The proposal also suggested a number of additional regulatory restrictions, with the two most notable being:
First, any (payment or non-payment related) entity cannot be the controlling stakeholder of more than one payment institution, where the threshold for a controlling stake is 10%. This rule is put in place to ease and simplify the regulatory process.
Example: JD acquired Kuaiqian in 2020. Previously, JD already had a payment license and owns a payment institution (Chinabank Payments), meaning that after the Kuaiqian acquisition JD was the controlling stakeholder of two payment institutions. In order to comply with the new regulations, JD can either divest one of the institutions, or alternatively merge the two institutions into one entity.
Second, in order to qualify for a payment license, a payment institution must have a minimum of RMB100 million in initial equity. This rule is put in place to promote greater financial soundness for newly established payment institutions.
Classification of Payment Functions
The proposal introduces the notion of payment function classification, where two mutually exclusive types of payment functions are defined: (1) payment processing and functionalities that resemble a payment processor, and (2) functionalities that resemble a stored value card (SVC). The PBOC states that detailed definitions and regulations for each type of category will follow in subsequent publications.
Note: the same payment institution can have more than one payment function, and even individual users of payment platforms can have accounts that correspond to more than one payment function. Taking Ant Group as an example, using Alipay with a credit card, debit card or Huabei, would all be classified as payment processing functionalities. In contrast, depositing money into an Alipay account and then paying using the deposited money to pay would be classified as a stored value account functionality.
The establishment of these new rules and classification system reflects the complexity of and difficulty in regulating China's payment market, with different segments of the market being tightly intertwined.
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