China Ratchets up Restrictions on Foreign Banks

One after another, the big names in global finance were summoned by Chinese officialdom. On the agenda: pay—specifically, telling Credit Suisse Group AG, Goldman Sachs Group Inc., and UBS Group AG to report details on how they compensate their top bankers.

Don’t reward your top people too lavishly, Chinese regulators warned the banks this year in meetings in Shanghai and Beijing, or you might run afoul of the Communist Party, according to people familiar with the matter. The say-on-pay meetings, reported here for the first time, are just one of the many potholes that global banks have hit lately on their long, rocky road into China. After years of losses or skimpy returns, some of them are reassessing their prospects. Short-term, the outlook isn’t good.

Hopes that banks’ business in China finally might be paying off have been dented and dented again. China’s Covid-19 lockdowns; its volatile markets; and moves by its leader, Xi Jinping, to reshape the business scene—and reassert the state’s control—have reverberated through banks in New York, London, and Zurich.

Publicly, executives say they’re as committed as ever to China. Filippo Gori, the Asia-Pacific chief for JPMorgan Chase & Co., captured the prevailing line in a recent interview with Bloomberg Television, saying his bank was focusing on the next 25 years in China, not the next quarter. But privately, a growing number of executives in the region are expressing doubts about their banks’ immediate futures here.

Interviews with eight senior bankers at firms including Goldman, Morgan Stanley, and UBS—all of whom spoke on the condition that they not be named to avoid angering their superiors, clients, or Chinese authorities—point to a litany of problems. Questions about pay are but one worry. Among other things, regulators have pressed banks to reduce cash compensation and extend deferred bonuses to three years or more, people familiar with the meetings say. Other concerns involve licenses, recruiting, data security, and more.

Overriding everything is Xi’s campaign to combat what the Communist Party considers undesirable economic and social elements. Xi wants to rein in hyper-rich entrepreneurs, narrow the country’s stubborn wealth gap, and promote “common prosperity.” In a sign of the new times, several major banks—among them Credit Suisse, JPMorgan, and UBS—recently shuffled senior executives in China. After hiring about 200 people here last year, Credit Suisse now is delaying plans to form a local bank and could let go of dozens of employees, according to people familiar with the matter. Other banks could make similar moves.

“Wall Street banks really need to ask themselves now: Why do I want to be in China?” said Veronique Lafon-Vinais, an associate professor at Hong Kong University of Science & Technology. “Are they truly profitable? What is the true return on capital for their China business?”

Why Do We Want to Be in China?

It’s a remarkable turn of fortune. Only three years ago, many of these same banks were celebrating as China began to throw open the market to foreign competition. Global banks were allowed to take control of the joint ventures they’d struck up with Chinese partners in order to gain an initial toehold on the mainland. Morgan Stanley, which formed a securities venture in 2011, eked out a small profit on its China business in 2021. So did JPMorgan, which re-established itself around 2019. Profit jumped at Credit Suisse, in China since 2008, and UBS, established in 2006, albeit from tiny bases.

All in all, the top six global banks made roughly $42 million in China last year—a pittance next to their earnings elsewhere, but welcome news after so many lean years. Those figures don’t include profits made from deal-making with Chinese clients outside the country.

The party didn’t last long. China’s “Zero Covid” approach to the pandemic locked down Shanghai for months. Financial markets reeled. The economy stumbled. Deals dried up. Global banks most profitable China business—selling new stock in Chinese companies on offshore markets—has plunged 94% this year from the same period last year now that Xi has tightened rules on foreign listings. Offshore bond sales are down 39%. Inside China, foreign banks have made little headway against the country’s domestic banking giants.

Tensions between Beijing and Washington have only added to the strain. Speaking on the condition that he not be named, a top banking executive in the region said Chinese regulators have signaled that Xi’s uneasy relations with the West—tensions with the U.S. are as high as they’ve been since the countries normalized diplomatic relations more than four decades ago—have, along with Covid, held up licenses and other necessary paperwork.

Among recent problems at Credit Suisse: Regulators still haven’t made an on-site inspection that’s required before its mainland securities venture can expand, according to people familiar with the matter.

Thomas Gottstein, the Swiss bank’s CEO, said the lender is “waiting a little bit with some of the growth investments,” including slowing down its hiring of relationship managers in China. Speaking at a conference last week, he said that the overall rollout on the mainland was on track, including the licensing process for forming a local bank.

Goldman Sachs finally won approval for several onshore licenses in late May, people familiar with the matter said, almost eight months after taking a 100 percent ownership in October. The bank is still trying to gain final approval to transfer its onshore wealth and trading businesses from its Chinese partner, 18 months after agreeing to buy it out. The process, albeit slower-than-expected, is still within the 2022 targeted timeline.

Morgan Stanley, which has historically been more cautious in its China expansion and holds fewer licenses than its rivals, sought four licenses earlier this year. Still, the China Securities Regulatory Commission (CSRC) in February criticized the bank for subsidizing its Chinese operations with income from overseas. It ordered the bank to fix its business model. Morgan Stanley is waiting for final approval to take control of 85 percent of its fund management venture, up from 49 percent.

Spokespeople at UBS, Goldman, Credit Suisse, and Morgan Stanley all declined to comment.

Foreign banks looking to build businesses from scratch have run into hurdles too. In April, the CSRC questioned BNP Paribas about its competitiveness in global league tables and the qualifications of a compliance officer, according to documents posted on the regulator’s website. The feedback came nearly a year after the French bank applied to set up a securities firm. Standard Chartered Plc was ordered to submit to a review of any penalties and investigations against the bank over the past three years. Regulators also asked the London-based bank to explain its cross-border transaction and data flow systems, it said on its website.

A representative for BNP declined to comment. Standard Chartered didn’t immediately respond to a request for comment.

Pay Restrictions Could Inhibit Foreign Banks’ Ability to Attract Talent

The CSRC was the agency that summoned executives to discuss bankers’ pay. People familiar with the meetings characterized the discussions as a highly unusual, if not unprecedented, regulatory intrusion into foreign banks’ personnel decisions. It’s a sign that they are being put on the same footing as local brokers, who were told in the past two years to cut pay and expenses.

Executives in attendance, which included Credit Suisse’s local Chairman Janice Hu and Goldman’s China co-head Sean Fan, were told by top regulators to keep compensation, especially for senior managers, in line with the “common prosperity” agenda.

The CSRC didn’t respond to a request for a comment.

On pay, a first-year managing director at a Chinese broker can get about 4 million yuan (US$600,000) in compensation. The bulge bracket Wall Street firms offer 10 percent to 20 percent more than that, while second-tier foreign banks are struggling to match it, according to Eric Zhu, head of financial services recruitment at Morgan McKinley.

With pressure on pay, that gap could now narrow and make it harder for Wall Street banks to attract talent. The more senior bankers at local firms, which still dominate deal-making, can take home well above 10 million yuan, something that foreign firms have a hard time matching, according to local headhunters.

A question for banks is how to lure and retain top talent while trying to follow Xi’s prescriptions. Among other things, regulators told the bank executives to avoid excessive income gaps. The were forbidden to pay salaries that might be deemed unfairly high, one of the people said.

Executives also must contend with compliance staff who report directly to regulators rather than the banks—and can’t be fired without regulators’ approval. Some bankers are worried that local authorities also might refuse to honor tax incentives offered as part of a program to senior foreign managers as the slow economy and a property slump erodes government coffers, people familiar said.

The increasing challenges have coincided with some top executives leaving their China jobs. UBS’s China head David Chin, based out of Hong Kong, stepped aside in April partly because of travel curbs and the need to focus on regional business. He was succeeded by Eugene Qian, who’s based in Shanghai. The CEO of JPMorgan Securities (China) Co., Houston Huang, also quit and was replaced by Lu Fang, a former official at China’s securities regulator. The head of Credit Suisse’s securities venture, Tim Tu, stepped aside in April to take on a bigger Asia-Pacific role.

How Will Banks Respond?

Given that China is home to the world’s second-largest economy, global banks aren’t about to pull up stakes. For example, UBS in March increased its stake in its securities venture to 67 percent, and its revenues in the mainland have almost doubled from 2019, to $1 billion in 2021. But some might redeploy resources if the business landscape doesn’t improve.

Even London-based HSBC Holdings Plc, which traces its history back to British imperial trade and plans to keep adding people in China, hasn’t been immune. HSBC remains a “China bull,” according to its CFO, Ewen Stevenson. Still, profit from its mainland business fell 10 percent in the first quarter, reflecting the bank’s exposure to the nation’s shaky real estate market.

“The big banks attempting to increase their positions in the Chinese markets are playing a high-risk game,” said Dick Bove, an analyst at Odeon Capital Group who has been covering Wall Street for decades. “China needs their help now, but once the country levels its debt issues, foreign banks aren’t likely to do well.”

—With assistance from Denise Wee, Lisa Du, Jun Luo & Irene Huang

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