CHINA'S banks are still seriously under-capitalised, crippled by non-performing debts and with capital-adequacy ratios far below international requirements, according to AsiaRisk magazine. It said the banks had been hurt by currency fluctuations and recommended that they 'put prudent risk management systems in place, instead of blaming themselves for placing wrong bets'. The central bank, the People's Bank of China, had issued an in-principle ban on derivatives as a response to disputes last year between Chinese institutions and foreign entities, it said. In a special supplement to the London-based Risk magazine, AsiaRisk said Chinese banks, except for two smaller ones, were far below the 8 per cent capital-adequacy (risk-adjusted) ratio required by the Bank for International Settlements. 'The banks' simple capital-adequacy ratios, before risk adjustment, were very low as well,' it said. 'Default by several significant borrowers would render the banks insolvent.' Reliable statistics were not available on Chinese banks' non-performing loans, because there were no uniform definitions of non-performing or bad loans, and because banks could conceal the severity of the problem by lengthening the maturity of loans and capitalising on unpaid interest. AsiaRisk said many non-performing loans were simply dead. 'A consensus view is that, on average, around 15 per cent of all loans are non-performing. At least four factors may have contributed to the large proportion of non-performing loans.' First were the government's frequent policy shifts, creating large numbers of bad debts. Second, most government-imposed policy loans were of poor quality. Third, bank managers making lending decisions came under pressure from various sources, which might have a say in the lending official's career advancement, or from relatives or executives in the company. 'In these complex relationship webs, few bank managers can claim they have extended all loans on purely technical grounds,' AsiaRisk said. The fourth factor was lax enforcement of property rights, in general and loan repayment in particular, which had encouraged the 'moral hazard' problem. 'There are many outright cheats who have no intention of repaying loans,' it said. 'Lack of eligible collateral - for example, securities or titles to property - has also denied banks proper protection. In addition, bank managers' private dealings with some borrowers have undermined the banks' efforts to collect debts and pursue cheats.' Chinese banks had learned some painful lessons last year and this year. 'Most of China's debts are denominated in yen, while its reserves and assets are mainly in US dollars. The banks and the Ministry of Finance suffered huge losses from the rise of the Japanese yen against the US dollar,' AsiaRisk said. 'In mid-1995, they tried to restructure their currency exposures but were then hurt by the reversed fortune of the dollar. 'Clearly, they need to put prudent risk management systems in place, instead of blaming themselves for placing wrong bets.' In general, there was no effective regulation of banks' off-balance-sheet activities and use of derivatives, the magazine said, but Chinese banks had been prevented from providing guarantees for bond issues and borrowing offshore. Various restrictions also applied to Chinese banks offering guarantees for domestic transactions. Despite a ban on the use of derivatives, there was no enforcement 'because the government does not understand derivatives and has not provided workable details on the ban yet'. 'Therefore the ban is only a warning. Banks continue to use derivatives at home and abroad,' AsiaRisk said. It said the Development Research centre of the State Council had confirmed that three of the five major mainland banks made pre-tax losses in the first half this year, although figures were not available. With banks' profits being inflated by inadequate provisioning and bad-debt write-offs, their capital was being depleted, AsiaRisk said. 'There is even fear that some institutions may be operating on negative capital. 'While they may have made losses, they have paid income taxes based on their inflated book profits, further draining their capital base.'