China is set  to allow private banks to play a bigger role, a key move for its financial system reform despite the government's plans to impose restrictions on them.
On March 11, the China Banking Regulatory Commission (CBRC) named  ten companies, including Internet giants Alibaba and Tencent, to set up five privately owned banks with two co-sponsors for each bank. Regulators had announced last year that Beijing would allow the creation of privately financed banks as part of the effort to make the economy more productive by giving market forces a bigger role.
The news was  followed by the country's central bank cracking down on Tencent's and Alibaba's online payment businesses. The regulator also plans to impose restrictions on transfer amounts through the third-party online payment servers, potentially hurting Internet finance.
In one example, Alibaba's bank, which will be created in cooperation with China Wanxiang Holding Co., China’s biggest auto-parts manufacturer, will impose limits on the deposits it can bring in from any company or individual and how much it can lend to any one borrower.
While Tencent's bank will be able to take in large-scale deposits, but only make small-scale loans. The government wants to reduce the burden that the banks bear from booming Internet finance and maintain the stability of the banking system, even though China’s leaders have felt the looming risks generated by huge local government debts and shadow banking.
Economists have long decried the tendency of China's state-dominated banking system to grant loans primarily to large state-owned firms, even as small and medium enterprises account for  60 percent of gross domestic product and around 80 percent of new jobs.
Lack of lending by state banks to entrepreneurs has fueled growth of an underground market of high-interest loans. Regulators permitted the market to exist in order to support private business, but more recently have tried to tighten control over it after discovering state companies and banks were involved.
Foreign-owned banks still face a strict operating environment and have a tiny share of the country’s deposits. Many who fail to get access to formal bank financing resort to high-interest loans, part of the country's worrisome shadow banking sector.
Alibaba Group is one of the world's biggest e-commerce companies, and Tencent Holdings Ltd. is China's most popular social networking and online games server. Both have launched online financial services that have drawn deposits away from banks by paying higher interest.
Premier Li Keqiang pledged in an annual policy speech to promote growth of online financial services.
The traditional banking industry accuses them of hurting state banks. State-owned China Central Television's securities channel chief commentator condemned Alibaba’s investment fund Yu’e Bao as “vampire” and called  for a ban over it:
Yu’e Bao is the “vampire” feeding on banks, the typical “financial parasite”. They don’t create value, but instead benefit from increasing economical costs of the whole society. They’ve gained huge profits by funneling tiny benefits to the public while society foots the bill.
His words quickly sparked retorts online, and some experts countered that it is the banks that are the true “vampires” feeding on the public.
Liu Shengjun, a popular economist and reformist responded  by decrying how China banking system is lagging:
China’s banking industry + China’s stock market = impudence + incompetence. Nearly every friend and colleague of mine is worried about how to prevent their deposits from devaluation. Nearly every private entrepreneur I know is complaining about the difficulty and high costs of financing. The shadow banks and Internet finance boom have proven the incompetence and impudence of China’s banking industry and stock market, which have ended up as vampires feeding on blood of the public and real economy. Stand firmly with Yu’E Bao to overthrow traditional banks!
Ma Guangyuan, another famous economist, argued  that the outdated state banking system has hampered economic growth:
The expansion of shadow banks, the chronic disease of over-capacity and the financing problems for small and medium enterprises are rooted in the financial monopoly and the lag in financial reform. The monopoly of the state banking system is neither able to meet the demands of real economy, nor guarantee the security of the financial system. Instead, it has become the biggest risk in China’s financial system.
Online financial commentator Yu Fenghui hailed  the founding of private banks:
Alibaba’s small loan business has scared banks, Yu’e Bao has been doing the same, so the banks conspire to oppress it. Now Alibaba and Tencent are listed in the first batch of the private bank pilot, meaning their financial platforms will become bigger and their impact on traditional banks more serious.
Zhou Zhanhong, a former editor-in-chief of Fortune Chinese, said  private banks would not impact China’s existing banking industry in any big way:
Will the new banks set up by Internet companies have any serous impact on the banking industry? I doubt it. Firstly, it should never happen according to the license and regulation rules. China's Banking Regulatory Commission demands that these pilot banks “stick to market positions of serving small and micro enterprises and communities, provide productive and differentiating finance serves for real economy growth. They will be granted limited licenses.”
These banks will not represent any great threat to the traditional banking industry in the short term, even if they are granted full-service licenses. They might do well in personal business, but lack experience in serving enterprise clients, especially in how to confirm risks and make venture prices.