In a fascinating case report recently published on the National Audit Office (NAO) website, a local branch of the Construction Bank in Jinzhou, a city in Northeast China, was discovered to be colluding with local courts in counterfeiting legal papers to write off bad loans.

At this juncture, when major domestic banks are vying with each other for the upper hand in their race to go public, such serious book-cooking definitely delivered a full blow on the face of the bank caught in the illegal activity.

Yet, it also signals a deafening warning to the whole banking sector about the flaws in current financial regulations.

The means the local bank staff employed to illegally write off bad loans worth 200 million yuan (US$24 million) were outrageous. Instead of trying to recover those non-performing loans, they simply forged legal documents with the help of some local judicial functionaries and then forwarded them to the bank's headquarters.

There's no question the unethical practices of the local bank staff and judicial personnel must be strictly condemned and severely punished.

But the more disturbing fact is that the bank's headquarters approved the local branch's writing-off of those loans without due vigilance. It clearly evinced the lack of effective financial regulations that the country's ongoing banking reform is supposed to bring about.

The sad finding even drove the auditors to come to the distressing conclusion that it is impractical and unworkable to count on banks' self-regulation to prevent such cases.

While owing our thanks to the NAO for their brave and persistent work that helped avoid huge losses of State assets, we have to wonder if the banking sector is really capable of standing on its own feet in the market with such poor internal management.

To better equip China's banks for the upcoming competition with foreign counterparts, the State has spent a lot on lessening major domestic banks' burden of non-performing loans.

However, with an eye to the ample capital the stock market might raise for them, some domestic banks have short-sightedly reduced the broader efficiency-oriented reform to merely bid for the chance to go public.

As the Jinzhou case indicated, domestic banks have so far laid lopsided stress on improving the balance sheet while ignoring underlying reform like strengthening checks and balances.

The auditors also found that a report the Jinzhou local bank purposely prepared for their inspection denigrated the whistle-blowers as rotten apples who needed to be gotten rid of as soon as possible.

Ironically, the banking sector and its regulators have perhaps realized the severity of the "same" problem.

(China Daily July 15, 2004)