Mainland banks' profit growth could fall to single digits in percentage terms as the quality of their assets deteriorates and margins compress, according to Standard & Poor's.
Their non-performing loan ratio was likely to jump to as high as 3 per cent by the end of the year from 1.6 per cent last year, the credit rating agency said yesterday.
It cited the increase in the banks' special-mention loans - debts that could potentially turn sour and which are vulnerable to an economic downturn - as a sign of deterioration in credit quality.
The China Banking Regulatory Commission's push for interest rate liberalisation had translated into fierce competition among banks and would hurt lending profitability, S&P added.
The combined effect could result in market-driven consolidation in the sector, it said. The banks with stronger capital ratios, typically the state-owned ones, would be the winners.
The slowdown of the mainland's economic expansion would adversely affect the profitability of all industrial sectors and their ability to repay loans to banks, S&P said.
The rating agency forecast mainland gross domestic product to grow 7.3 per cent this year and next and 7.1 per cent in 2015.
"Rising credit costs, compressing interest margins and growing pressures on non-interest income are likely to constitute a triple hit to bank earnings," senior director Liao Qiang told reporters as the rating agency released its annual survey on the credit outlook of China's top 50 banks.
"We think it is highly likely that the banks could incur substantially higher credit losses in the coming years."
"I cannot tell when the non-performing loan ratio will reach its peak, but it is obviously increasing," Liao added.
He noted increases in confirmed bad loans and vulnerable ones in the interim results of the listed banks.
S&P's survey showed big banks appeared to be better placed to withstand the economic downturn. Most small banks were likely to experience further weakening of capitalisation. The funding and liquidity profiles of some of them may deteriorate significantly.
Some small lenders were teaming up to grab more customers, Liao added.