No more exceptionalism for US banks in China

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Not long ago, foreign banks in China were thriving despite rising tensions between Beijing and the West. By the fall of 2020, the beginnings of today’s hostile geopolitics were already apparent—the language of decoupling and a second Cold War had taken shape. However, the financial services and professional services sectors seem strangely unaffected by the new permafrost.

That exceptionalism is now clearly on the wane, U.S. officials and bankers say. The clearest evidence is the freeze on U.S. consulting firms, particularly the raid on Bain & Company in April.

It’s surprising this didn’t happen sooner. Russian banks have been excluded from dollar-based international financial markets since sanctions were imposed on Russia following its invasion of Ukraine. This backlash has led to growing anger in much of the world over the weaponization of the dollar. China and other BRICS countries have made it clear that they want to challenge the hegemony of the US dollar.

Anecdotal evidence suggests that Western banks in China, while not yet the target of open hostility, may soon become so. “Going back a year or two, U.S. banks were aggressively pursued,” said a senior U.S. diplomat. “Then Bain happened. I thought U.S. banks were going to suffer next.”

News from last week could spur financial decoupling. The British “Financial Times” reported that Chinese banks suddenly became one of the largest foreign financiers of Russian banks, replacing Western institutions restricted by sanctions and regulatory pressure.

Industrial and Commercial Bank of China, Bank of China, China Construction Bank and Agricultural Bank of China more than quadrupled their combined exposure to Russian insurance in the 14 months to March, to $10 billion, with loans denominated in yuan rather than dollars. It is unclear whether Chinese institutions will take advantage of their easy access to dollars through reserves and commercial relationships with Western banks to convert the currency.

Either way, it will create new problems for U.S. and European banks doing business in China. “Western banks will rethink their China risk appetite,” said one senior banker, who identified three potential areas to focus on when dealing with Chinese banks: cash management and clearing; investment banking; and lending. If bank risk committees are not proactive in re-examining this risk and other risks arising from China’s tougher approach to Western interests, they will certainly be pushed by regulators and policymakers.

This is particularly important for large U.S. banks and the likes of Standard Chartered and HSBC – which are likely to be the Western institutions hardest hit, given the importance of Greater China to their global operations.

The rise of Chinese banks in Russia should not obscure another troubling fact revealed by the Korea Stock Exchange data: Their players in the country remain small compared with several Western banks.Austria’s Raiffeisen and Italy’s UniCredit remain the two largest financial institutions data from the Kyiv School of Economics. While banks claim they are seeking divestment, regulators say more needs to be done: Any bank lending to Russia is effectively financing the war against Ukraine. Raiffeisen and Unicredit both disputed the KSE figures and said their Russian assets fell by a third and 40% respectively. All have said they are committed to further downsizing or selling the business.

Citigroup also retains significant Russian operations. Although the figure fell by 30%, it remains Russia’s third-largest international exposure, ahead of the Industrial and Commercial Bank of China, according to the Korea Exchange. The bank said it would not provide funding to Russian banks. It highlights exposures related to local dividends that cannot be legally distributed and customer escrow balances that cannot be legally surrendered. The company is winding down its consumer business as attempts to sell it have been thwarted.

Assuming that Western banks continue their exit trend and Chinese banks fill the gap, the Sino-Russian axis will only strengthen further. But it certainly won’t help the United States’ recent efforts to abandon rhetoric about decoupling from China and avoid a fragmentation of the global economy. It could also backfire on President Xi Jinping’s long-standing ambition to internationalize the yuan. A former HSBC executive said, “The better the relationship between China and Russia, the less likely it is that the West will accept the renminbi.” “They’re going down a dead end.”

patrick.jenkins@ft.com