ABSTRACT
This chapter attempts to explore a potential cause for the persistent, appalling state of China's banking sector, especially the state-owned commercial banks (SOCBs), from a perspective overlooked by the existing literature. It argues that proper incentives can motivate incumbent banks to undertake activities that are compatible with the maximisation of social benefits. The chapter briefly discusses the economic realities of China with special focus on the financial deepening as well as the scenario of Non-performing loans (NPLs) in the Chinese banking system. It describes the aspect of financial restraint policy. The chapter applies the financial restraint framework in an attempt to explain the reasons of huge accumulation of NPLs. It explains the paradox as to how China has been growing rapidly even if its formal financial system is overburdened with huge NPLs. The chapter concludes by summarizing the major arguments and offers some policy prescriptions.
