SOME SHANGHAI BANKS NERVOUS ABOUT US TRANSACTIONS

UNCLAS SECTION 01 OF 02 SHANGHAI 000411 SENSITIVE SIPDIS STATE FOR EAP/CM, EEB, AND INR/B STATE PASS FEDERAL RESERVE BOARDFOR JOHNSON/SCHINDLER; SAN FRANCISCO FRB FOR CURRAN/GLICK; NEW YORK FRB FOR CLARK/CRYSTAL/DAWSON STATE PASS CFTC FOR OIA/GORLICK CEA FOR BLOCK USDOC FOR ITA/MAC DAS KASOFF, MELCHER AND OCEA/MCQUEEN TREASURY FOR AMB. HOLMER, WRIGHT AND TSMITH TREASURY FOR OASIA - DOHNER/HAARSAGER/CUSHMAN TREASURY FOR IMFP - SOBEL/MOGHTADER NSC FOR LOI USTR FOR STRATFORD, WINTER E.O. 12958: N/A TAGS: CH ECON EFIN EINV PGOV PREL SUBJECT: SOME SHANGHAI BANKS NERVOUS ABOUT US TRANSACTIONS ¶1. (SBU) Summary. Some Chinese banks are refusing to increase their exposure to U.S. bank debt since the Lehman failure, although there does not appear to be a broad government policy in effect, said several U.S. banks with operations in Shanghai contacted on September 22. End summary. Some Evidence of Chinese Bankers' Skittishness ¶2. (SBU) High-level executives of Citigroup, JPMorgan, and Wachovia privately related to Econoff on September 22 that some Chinese banks are less willing to complete transactions with foreign banks -- especially U.S. banks, according to one contact -- and others are refusing deals. One U.S. banker suggested that the central authorities may have given general guidelines to the money market desks of Chinese banks not to increase their holdings. Another said that the Big Four Chinese banks (Industrial and Commercial Bank of China, China Construction Bank, Bank of China, and Agricultural Bank of China) are clearly reluctant to make interbank loans to U.S. financial institutions. For instance, one interlocutor said that Chinese banks were avoiding making clearing payments through New York, that is, not using New York-based correspondence banks to route their transactions to third parties. ¶3. (SBU) Nonetheless, our interlocutors agreed that Chinese banks' hesitation did not appear to be the result of a blanket ban by policymakers in Beijing on business with U.S. banks. One said that the decisionmaking appeared to be very "decentralized," with one desk of a Chinese bank continuing to trade normally, while another shuts down new deals. Two interlocutors pointed to smaller Shanghai banks as most likely to avoid business with foreign banks, based on a generally more conservative approach. Marginal Impact on Day-to-Day Operations ¶4. (SBU) There is a small -- but measurable -- impact on the foreign banks' bottom lines. This is especially true for those with a small local deposit base -- so-called "wholesale banks" -- because they are almost entirely dependent on the interbank market to fund daily operations, and the cost of borrowing is rising. ¶5. (SBU) One contact said that regional interest rates have been above historical averages for several weeks, but that this past week was exceptional even by those standards. Rates in East Asia have been at a premium of 30-40 basis points (Note: One basis point is one-hundredth of a percent. End note.) above LIBOR. Last week, this surged to 300-400 basis points above LIBOR, before settling back down to 30-40 after the U.S. financial action package was announced on Friday, September 19. "This is the CBRC Calling . . . " ¶5. (SBU) The Shanghai branch of the China Banking Regulatory Commission (CBRC) on September 19 contacted foreign-invested banks for details on those banks' exposure to the Lehman Brothers bankruptcy and the Merrill Lynch merger. CBRC has requested a report from each bank in two parts: -- Part one is to be a description of the impact of the Lehman/Merrill Lynch news on the parent bank, including such details as business transactions between the parent bank and the two former investment banks in terms of the money market, credit facilities, security investments, letter of credit guarantees, and derivatives. Also, details of actions the parent bank plans to take. -- Part two is to be the impact on the Shanghai-based bank of the Lehman/Merrill Lynch news, including details regarding the money market, credit facilities, securities investment, letter of credit guarantees, derivatives, the Qualified Domestic SHANGHAI 00000411 002 OF 002 Institutional Investor program, as well as plans the Shanghai-based bank intends to take. ¶6. (SBU) One bank took preemptive action last week, sending its head to arrange meetings with the CBRC and the People's Bank of China (PBOC) in Beijing. The Chinese authorities seemed "nervous" about the international situation, and especially the impact on Chinese retail investors, our contact said, but were not at all concerned that Chinese domestic liquidity would become a problem. Another contact said the Ministry of Finance and PBOC had contacted their bank three weeks earlier to inquire about that bank's involvement in third-party repo agreements. Comment ¶7. (SBU) These latest stories from Shanghai-based U.S.-invested banks may be the first signs of broader, longer-lasting doubts about the U.S. financial system, which could also impact efforts to further open the Chinese banking system to foreign participation. So far, none of our interlocutors could point to any silver lining in the clouds over the international financial sector, such as Chinese plans to purchase U.S. financial companies at cut-rate valuations. CAMP