China's commercial banks are going to be allowed to buy into trust and investment firms, a breakthrough in the segregated regulatory scheme in the banking, securities and insurance sectors of the financial industry.

The China Banking Regulatory Commission (CBRC), the watchdog of banks and trust firms, is expected to issue a regulation on the implementation of administrative permission concerning trust and investment firms. This would make qualified commercial banks potential shareholders in the trust and investment companies.

The banks would have to meet criteria in capital adequacy, creditability and profitability. The overall outward investment of the banks could not exceed 20 percent, according to a report in the Economic Observer newspaper yesterday. Securities, insurance, financial and leasing firms can also invest in trust firms if they meet the same standards.

Such cross-industry investment is still not allowed for Chinese banks. This is because existing regulations do not allow them to invest in other financial arms, including insurance, securities and trust businesses, because of the segregated regulatory system of the financial industry.

But it has become a new trend to gradually alter the regulations to allow different types of financial firms to invest in each other, experts said.

Xia Bin, director of the Financial Institute of the Development and Research Center of the State Council, predicted the authorities would have to gradually loosen controls as the market environment is changing.

But the experiment should be carried out with efficient regulation of the banks, who must also be prudent.

The new rule for trust firms would also set thresholds for foreign financial institutions, including commercial banks, to buy into domestic trust firms. These would be along the lines of a minimum US$1 billion of total assets and 8 percent of capital adequacy, with sound credit rating and good internal control mechanisms.

The maximum ratio of stakes a single foreign financial institution could hold in a domestic trust firm would be capped at 20 percent.

A draft of the new rule has already been sent out to experts and companies by the CBRC to ascertain public opinion, an official with a trust company in Shanghai told China Daily Monday.

Several other regulations regarding the trust business are also expected to be issued, covering information disclosure and affiliated trade, he said.

The trust companies would have to improve transparency and provide information disclosure accordingly, which would enable investors to get a clearer picture of the structure and performance of the companies.

"For investors, it is still hard to trace the shareholding structure of the trust firms and some irregularities may emerge due to the low transparency," the official said.

Information disclosure is more important if financial institutions are allowed to invest in trusts and investment firms.

China's trust industry started to boom last year after a restructuring of the industry since the mid 1990s, when a slew of default payment scandals and irregularities forced the authorities to close down many trust firms, leaving only 59 in business today.

The ban on banks investing in the industry was also a result of the market rectification.

Even today, risk concern still weighs heavily on the mind of regulators, though step-by-step innovation is encouraged.

Moreover, as the trust companies speed up the issue of new trust products, the need for legislation also becomes more crucial.

So far, laws and regulations for the trust industry are still insufficient, said an official with a Shanghai trust firm.

Alarm bells have already been ringing for investors and regulators because of a default in repayment of a trust product by Jinsin Trust and Investment Co. occurred early this month.

Though it was regarded as a special case, it has reminded many of the importance of investor education, risk management and information disclosure.

(China Daily July 17, 2004)