By staff reporter Yu Ning

In what most analysts believe will be the last "free dinner" before the planned initial public offerings (IPOs) of China Construction Bank and the Bank of China, the central bank will take over high-risk loans from the two commercial banks. The move could potentially cost the central government tens of billions of yuan.

The People’s Bank of China (PBOC), China’s central bank, will issue bank notes worth more than 120 billion yuan (US＄ 14.53 billion) to buy high-risk loans from China Construction Bank and Bank of China at prices equal to half of the loans’ total book value. The PBOC will then auction these loans off to four state-owned asset management companies, said high-ranking officials with China Cinda Asset Management Corporation.

Officials with the corporation, one of China’s four biggest state-owned asset management companies, also said that non-performing loans (NPLs) in the two commercial banks will be transferred to Cinda and the China Orient Asset Management Corporation.

The PBOC will soon publicize a detailed schedule for the buyout, says Jiang Enzhao, president of the Construction Bank.

Most analysts view the plan as the last of the central bank’s efforts to aid the Bank of China and China Construction Bank.

According to the 2003 data released by the Bank of China, its total volume of non-performing loans decreased from 429.1 billion yuan (US＄ 51.95 billion) in 2002 to 351.7 billion yuan (US＄ 42.58 billion), with a bad loan ratio of 16.3%.

The Construction Bank’s s data showed that its total volume of bad loans in 2003 was 193.5 billion yuan (US＄ 23.4 billion) with an NPL ratio of 9.12%.

Altogether, the two commercial banks have about 253.8 billion yuan (US＄ 30.69 billion) in non-performing loans. If the central bank buys all the high-risk loans in the two banks at a price equal to half the total accounting value, then PBOC will need to issue more than 120 billion yuan (US＄ 14.53 billion) in central bank notes.

The plan for the central bank to purchase poor quality loans in commercial banks at comparative prices is generally considered a more reasonable arrangement than the previous practice of directly injecting capital into those banks.

However, analysts still think that PBOC will shoulder significant losses in the new transactions. In the past four years, the four asset management corporations have only managed to collect 20% of the total book value of the bad assets under their management.

Although the high-risk loans to be auctioned this time were issued recently and are theoretically easier to manage, analysts maintain that the banks would not receive such favorable prices under free market conditions.

Analysts generally agree that PBOC will accept the prices offered by the four asset management corporations. As a precedent, the Construction Bank on May 27 auctioned off 4 billion yuan (US＄ 48.43 million) in assets that borrowers used to repay loans, getting 34.75% of the total book value. In 2003, the Construction Bank auctioned a total of 10.3 billion yuan (US＄ 1.25 billion) in assets within China, and obtained 44.86% of the assets’ total book value.

Analysts say that if the two banks were to dispose of their bad loans themselves, it would be time-consuming, and they would face losses far more serious than 50% of the total book value. Thus, the central bank’s buy-out plan is the same as the state directly taking over parts of the banks’ losses.

On May 25, Xie Ping, an official from the central bank, brought up the issue in a conference jointly hosted by Tsinghua University and Stanford University. According to Xie, the PBOC wants to keep a stable exchange rate, low interest rate and proper money supply. To achieve these goals, it has several tools: issuing central bank notes, adjusting the reserve rate, allowing the interest rate to float more freely, and administrative measures to regulate over-heated industries or give guidance to commercial banks in monetary policies.

An increase in base currency would be difficult at the moment because the PBOC has already injected capital into the banks and has issued many loans to support rural finance development and to bail out problematic financial institutions.

Zhu Ming, assistant to the president of the Bank of China, says the bank will reduce its bad loans by 172.3 billion yuan (US＄ 20.96 billion) in 2004. Zhu emphasizes that the Bank of China now has the necessary resources to cut down the volume of bad loans and at the same time maintain a healthy financial status.

The Bank of China is confident that it can cut its NPL rate down to 6% in 2004, he says. The 186.4 billion yuan (US＄ 22.57 billion) pumped into the bank by the government on December 30, 2003 will make this possible.

The China Banking Regulatory Commission (CBRC) requires the China Construction Bank and the Bank of China to reduce their bad asset ratio to 3%-5%. Current figures released by the two banks exclude non-loan bad assets in calculations of bad loan ratios. But Zhu says that most non-loan bad assets are investment projects and the exact amount cannot be determined before complete capital appraisal.