Citi heats up China credit cards
China's credit card market could be heading for a major explosion soon, following the official entry of the first foreign card issuer to the market in the form of global banking giant Citibank (NYSE: C). Foreign media have given relatively little coverage to this event, but in my view the development is quite significant for reasons that I'll explain shortly that could ultimately lead to the kind of consumer credit bust that previously wreaked havoc on the banking sectors in Taiwan and South Korea.
But let's backtrack for a moment and look at the actual news first, followed by the resulting chain of events we're likely to see in the next few years. Citi, working with global credit card giant MasterCard (NYSE: MA) and China's UnionPay, was granted permission last month to become the first foreign bank to issue its own credit cards in China, and officially launched its first cards this week.
Before Citibank received its landmark approval, all foreign banks in China could only issue credit cards in partnership with local Chinese banks. Citi itself issued cards through one such joint venture with Pudong Development Bank (Shanghai: 600000), while Britain's HSBC (London: HSBA; HKEx: 5) had a similar tie-up with Bank of Communications (3328.HK). The requirement for a foreign partner was a significant limitation, since Chinese banks are typically much more conservative than their global peers due to lack of experience. As a result, these credit card tie-ups saw only moderate success.
By comparison, credit card issuers are typically much more aggressive in North America and Europe, where people with sketchy credit histories can often get cards with little or no problem. Western banks can aggressively market their cards in these markets because they have relatively sophisticated systems to evaluate customers and structure repayments in a way that helps them minimize the risk of default. By comparison, big Chinese lenders like ICBC (1398.HK; Shanghai: 601398), Bank of China (3988.HK; Shanghai: 601988) and China Construction Bank (0939.HK; Shanghai: 601939), are relatively inexperienced at consumer banking and tend to be very conservative, offering cards to only the most creditworthy customers and even then only with many limitations and conditions.
Citi's arrival to the market is significant not only because the company is much more aggressive than its Chinese rivals, but also because it is likely to be followed by other equally aggressive major western credit card issuers. As that happens, the number of credit cards held by Chinese consumers is likely to explode in the next 5 years as the big Chinese banks feel pressure to lower their standards to better compete with their more aggressive rivals.
The only problem is that these domestic banks are far less experienced in evaluating and controlling risk from the credit card business, meaning they are more likely to make bad decisions that result in higher default rates. We saw a similar phenomenon in the 1990s and early 2000s in Taiwan and South Korea, as credit card use exploded in those markets for similar reasons, only to end with massive defaults that took years to clean up.
With Citi now in the market and other major western players likely to follow in the next 2 years, China is officially taking the first fledgling steps towards its own consumer credit card crunch. The process will start with a big jump in new credit card issuance in the next few years, which in all likelihood end in massive defaults by around 2020 as banks realize they've extended cards to many consumers of dubious creditworthiness.
Bottom line: Citibank's entry to the Chinese credit card market marks the start of a coming explosion in card ownership, which will end in a wave of massive defaults around 2020.