In the wake of the Asian financial crisis in 1998, a discussion of sustainability in the context of Chinese banks would most likely have referred to a given institution’s likelihood of survival. Since then, the regulatory system has been overhauled, non-performing loans segregated into separate institutions and banks prepared for entry into the global financial system. But by opening China’s banking industry to international capital, Beijing also exposed it to concerns about environmental, social and governance (“ESG”) issues and sustainable lending standards. Strategic sales and public listings have required major changes to business practices and corporate governance, and, as China’s banks expand overseas, they confront increasing demands to conform to global sustainability norms.
The government has made a public commitment to “sustainable” development along international models, addressing ESG challenges as part of this process. In 2007, the banking sector regulator, China Banking Regulatory Commission (“CBRC”), began to urge banks to comply with the ten basic principles of the United Nations’ Global Compact, including measures on human rights, labour, the environment and corruption.
Although China’s leading banks enjoy more independence than a few years ago, they are still very much driven by government direction. Banks have to answer to their external shareholders, but they retain a function as policy instruments of the government, with a duty of “social responsibility” to the Chinese society and the nation. The huge sustainability challenges facing China have forced government, banks and industry towards significant policy shifts. However, social stability, low unemployment and increasing prosperity are the first priorities, and economic growth remains the dominant policy goal - a government commitment that has only been strengthened by the financial crisis.
Green Credit Policy drives sustainable finance
Perhaps the most influential driver of sustainable finance in China is the Green Credit Policy, which was formally introduced in July 2007. In the face of growing public anger over the huge environmental destruction accompanying its unprecedented economic development, China’s leadership turned to market mechanisms and financial tools to support enforcement of environmental regulations. A comprehensive policy regime has been put in place in the banking sector to cut credit to polluting and energy intensive companies and to provide economic incentives for energy efficiency and cleaner manufacturing technologies.
The Ministry of Environmental Protection (“MEP”), Peoples’ Bank of China and CBRC established a “credit blacklist” of companies that did not meet environmental standards due to their high energy consumption, pollution or environmental risk. At the same time, CBRC released instructions prompting banks to support enterprises working in environmental protection and to reduce lending to the “Liang Gao” industries: those identified by MEP as particularly energy intensive, polluting and excessive in production capacity. The Green Credit policy has been implemented at commercial banks across China, as well as by all three national policy banks.
The lack of disclosure on environmental issues makes it very difficult to analyse the real effectiveness of their policies, but some banks have indeed cut lending to polluting and energy intensive industries. Unfortunately, the impact of these reductions relative to the total credit portfolios of China’s top banks is minimal. The existence of huge legacy loan portfolios means that the major banks are struggling to limit financing for “Liang Gao” industries. Even Industrial and Commercial Bank of China - widely praised for its sustainability efforts - has a credit portfolio rated by RiskMetrics Group as 40% “environmentally sensitive”.
So far, the leaders in implementation of the government’s green regulations and international sustainability norms are China’s small and medium sized banks, which have fewer credit lines to the largest State conglomerates, and hence more capacity to be flexible and innovative. For example, Industrial Bank, a lender in Fujian Province, has made a strategic commitment to sustainability, earning it the title of “Asia’s sustainable bank of the year” in the 2009 Financial Times Sustainable Banking Awards.
But economic growth is the greater good
While China’s Green Credit Policy presents, in many ways, an excellent example of how banking regulation can promote sustainable financing, it must always be viewed within the context of the government’s greater policy objectives. Notwithstanding Beijing’s ambitious energy consumption and emissions reductions goals, the National Development and Reform Commission has made it clear that energy supply growth - required to maintain economic expansion and keep unemployment relatively low - is of vital importance, and State banks continue to finance energy projects of all types.
The tension between environmental improvements and continued rapid economic growth has been accentuated by the recent global economic turmoil. Following announcement of China’s huge financial stimulus, 2009 has seen an unprecedented expansion of credit in China - approximately RMB 9.6 trillion, or 40% of GDP. Research by Standard & Poors suggests that the quality of newer loans is inferior, and that banks have eased their underwriting standards for projects related to the stimulus package. The bulk of new lending is still being channelled into State owned companies in the highly polluting construction, manufacturing and infrastructure sectors.
Moreover, the government has, at least temporarily, downplayed environmental concerns, with MEP Vice Minister Pan Yue, who was once the government’s environmental champion, absent from the political scene since the beginning of the economic crisis. MEP rapidly adopted a “green passage” system, a fast track for environmental impact assessments of industrial projects. Most stimulus projects are eligible for these approvals. Provincial regulators have also cut the period for review of environmental impact assessments to as few as five days in one province, which raises serious concerns about their rigour.
As the global economy recovers, and the government begins to reign in the stimulus, it remains to be seen whether its efforts to encourage sustainable practices within China’s banks will get back on track. A good initial framework has been put in place, but the stability of the financial system, society and the economy will remain of paramount importance.