Market force or goverment regulation: which drives banking capital movements in China?

Abstract

Since the deregulation of foreign entry in 2001, China has introduced, at an unprecedented speed, banking capital regulation to strengthen its banking industry. Through the China Banking Regulatory Commission, it has introduced most standards of Basel l for setting capital requirements. The average bank capital adequacy ratio has increased from - 2.98% in 2003 to 12.2% in 2010. This has occured at the same time as China has experienced remarkable economic growth. This study examines empirically the underlying driving forces of banking capital movements in this country. Through disequilibrium tests as suggested by Barrios and Blanco (2003) and Wall and Peterson (1995), as well as simultaneous tests similar to Rime (2001), we discover that the remarkable improvement in banking capital is primary driven by government reglation rather than market forces. In addition, capital regulation has effectively reduced risk-taking behavours among the Chinese banks.