China Says “No” To Virtual Credit Cards

Thanks;Gordon Orr
Chairman, Asia at McKinsey & Company

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The end of last week saw the Chinese central bank intervene to shut-down an innovative online service of virtual credit cards

, launched by Tencent and Alibaba, in conjunction with Citic Bank. This move came the day after the services were launched, which seemed a little odd – why did they allow something to go to market rather than intervene to halt the services before they could be launched?

The answer lies in a combination of the absence of regulation or policy in some parts of the banking sector, and the willingness of the large Internet players to take the absence of prohibition to mean permission, so that they have largely been pushing into financial services with a logic of “if enough scale with enough satisfied customers can be reached quickly”, then it’s too late for the regulator to shut them down. These virtual credit cards, which would have bypassed the state-owned quasi monopoly, China UnionPay, was another move in this direction.

Unlike with online wealth management products, the government intervened fast when it learned of the launch of the credit cards. Now, perhaps, the regulators can say they have caught on to the tip of the tail of the dragon that is innovation in Chinese financial services today, and going forward, it will be seeking to impose more classic banking-style regulation on the new, online private Chinese banks.

Yet sustaining a balance that works for all will be incredibly hard – investors clearly love the online options – more than 80 million have signed up in less than a year, and according to reports, 3% of Chinese deposits have shifted to their products in one month in 2014. Incumbent state-owned banks have deeply rigid fixed cost structures, meaning that even if they do offer identical online services, they will be at higher cost. Being a financial services industry regulator in China today may be one of the hardest jobs around.

With all the turbulence in China’s banking sector, I took a look at the share price trend of the big 4 banks. Bank of China (BOC) and Industrial and Commercial Bank of China (ICBC) were listed back in 2006; China Construction Bank (CCB) in 2007; and Agricultural Bank of China (ABC) in 2010. Today, only ICBC’s share price is above its listing price – and that by a slight 2%. BOC is down by 27%, CCB by 54% and ABC by 15%.

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Much of the decline has come in the last few years on the back of investors’ concerns over how these mammoth state-owned institutions could reinvent themselves as their industry changed. Firstly, they had to face up to the reduction in spread between lending and deposit-taking as rate setting has gradually shifted to the market. Secondly, the market sees the banks as the deep pockets likely to be called on if more trust products get into trouble.

And thirdly, the impact of Alibaba and Tencent, with their ability to attract billions of dollars of deposits and tens of millions of clients in only a few months, and to innovate seemingly at will, leaves investors looking at the big 4 as legacy banks with legacy fixed assets and people that make it very hard to reinvent themselves into the kind of financial institutions that Chinese consumers clearly want to deal with today.

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