A Research On Commercial Banks' Exchange Rate Risk In China

Since the 1970s, with the collapse of Bretton woods system, the international monetary system has entered the era of Jamaica and most countries in the world have adopted the floating exchange rate system. Meanwhile, the fluctuations of exchange rate increase the market risk and the uncertainty. In the economic globalization and financial liberalization, the exchange rate fluctuations have already become the normal in the world financial markets. Thus, the commercial banks with foreign exchange businesses are confronted with increasing exchange rate risk, and the management of exchange rate risk becomes an important task in the routine risk management of commercial banks. As a result of China's implementation of the managed floating exchange rate system from July 21,2005, the volatility of the RMB exchange rate greatly enhanced. In accordance with the WTO commitments, China has opened up its banking industry fully to the outside world since 2007. In this case, China's banking industry has entered a new stage while facing the full range of challenges. Therefore, with the acceleration of the reform of RMB exchange rate system, it is necessary to do deep research on the exchange rate risk of commercial banks in China, in order for the commercial banks to identify, measure, and manage the exchange rate risk and to increase their ability of resisting risks. Beginning with the exchange risk that the commercial banks face, this dissertation analyses the formation mechanism of exchange rate risk in commercial banks. By referring to the mature risk management experience of commercial banks in developed countries, and considering the present situation of China's commercial banks, this dissertation studies the related problems in China's commercial banks and proposes the suggestions.The dissertation aims at providing the theoretical reference for constructing effecient exchange rate risk management system of commercial banks and contributing to the improvement of the exchange rate risk management of China's commercial banks.This dissertation is divided into 7 chapters: Chapter One is introduction. It states the background of the research and its significance, as well as the present researches home and abroad based on the literature revie. Then it explains the research method, the frame, the innovation points, the limitation and the further research direction, so as to paves the way for the following researches.Chapter Two is the research of commercial bank exchange rate risk and its formation mechanism. It first elaborates the exchange rate risk, the exchange rate decision theory, and the exchange rate system, then studies the relations between them and analyses the formation mechanism of exchange rate risk in China's commercial banks.Chapter Three studies the identification of exchange rate risk in China's commercial banks. Based on a simple comment on the overseas risk identification skills and China's present situation, this chapter studies the exchange rate risk identification in China's commercial banks with both the capital market method and foreign exchange exposure method. The result indicates that foreign exchange exposure method is more suitable for the commercial bank exchange rate risk identification in present China. Finally it analyses the results of research in depth and points out differences of exchange rate risk exposure between domestic commerce banks and the active overseas commercial banks.Chapter Four studies the measurement of commercial bank exchange rate risk. Using the world popular Value-at-Risk method in exchange rate risk measurement, it conducts the risk measurement of China's commercial banks. With the comparison to foreign banks, the results show that the day value of foreign exchange risk position of China's commercial banks is long, while foreign banks' is short. With the expectation of RMB's appreciation, the domestic commercial banks bear huge loss of exchange rate risk, but foreign banks are enjoying the enormous gains from the appreciation of RMB.Chapter Five analyses the international experience of commercial bank exchange rate risk management from four aspects. It begins with a discussion of the commercial banks'risk management in the development stage, management objectives, principles, and strategies, followed by the management methods of exchange rate risk, and finally studied the standpoints of Basel Committee on commercial banks exchange rate risk management, and the experiences and development trend of exchange rate risk management of internationally active commercial banks in the United States and Germany.Chapter Six studies the commercial bank exchange rate risk management in China. First of all, this chapter analyses and comments on exchange rate risk of commercial banks in China and their current status, then puts forward the design principles and framework of commercial banks exchange rate risk management in the new situation of China, and further researches on exchange rate risk exposure of commercial banks of China over the past two years. Finally, it points out that commercial banks of China should learn from the international experiences and failure lessons of the active commercial banks so as to re-build a reliable system of exchange rate risk management.Chapter Seven is conclusion. This chapter summaries the main results of the research, and proposes some constructive suggestions on the problems of the commercial bank exchange rate risk management, with a view to contributing to the development of Chinese commercial bank exchange rate risk management.Through the researches on the problems of exchange rate risk of China's commercial banks, this dissertation draws the following main conclusions:Firstly, the commercial bank exchange rate risk is endogenous in world currency system. The exchange rate risk is an important kind of market risk of the commercial bank, and it endogenously derives from the floating exchange rate system of the world currency system. Improper management of exchange rate can bring unexpected heavy loss to a commercial bank. Our country has practiced the floating exchange rate system since the second half of 2005, and the domesticl commercial banks are implementing the going-out business strategy, therefore the exchange rate risk becomes an important factor affecting the income of commercial banks in China. The commercial bank exchange rate risk management is effective only when considered with an international view. The root of exchange rate risk is the unmatched foreign exchange assets and the liabilities of the commercial bank, and essentially is the result of multiple interest game of the participants in the foreign exchange market.Secondly, Compared with the capital market method, the foreign exchange exposure method is more suitable for China's commercial bank in exchange rate risk identification. In this dissertation, it analyses and researches on exchange rate risks of China's commercial bank with capital market and foreign exchange exposure method, then it finds that the capital market method is not suitable for identifying the majority of listed banks in the exchange rate risk. At present, foreign exchange exposure method is more suitable for identifying foreign exchange risk of our commercial banks. The reason is that China's capital market has not fully opened up, financial market structure and the environment, regulatory constraints, system maturity, etc.are greatly different from those of foreign countries. Moreover, banks in China are listed for a relatively short time, so the accumulated data can not meet the requirements of empirical study of the capital market.Thirdly, the amended Value-at-Risk method is suitable for measuring China's commercial bank exchange rate risks. This dissertation amends the popular Value-at-Risk method and uses the amended model in measuring China's commercial banks exchange rate risk. The result shows that AR-EGARCH-VaR model can measure exchange rate risk significantly. It further measures and compares the daily VaR value of foreign currency assets position of China's commercial banks and foreign banks, and reveals that there are great differences in methods and awareness of the exchange rate risk management between China's commercial banks and foreign banks.Fourthly, China's commercial banks face the enormous exposure to exchange rate risk. This study finds that China's commercial bank has a large number of net exposure of foreign currency assets every year, so the adverse fluctuations of exchange rate will bring great losses to the banks, but then advanced risk management models and management techniques are not necessarily able to avoid exchange rate risk. The effective exchange rate risk management requires constant application of management philosophy of banks'exchange rate risk to business, and commercial banks should adhere to prudent principle in foreign exchange business, not tempted by short-term interests. The new situation of international financial institutions forces the United States and Europe to contract their foreign assets and to change their risk preference, meanwhile the unanimous interest cut of central banks exacerbates the instability in the foreign exchange market.China's commercial banks hold large amounts of U.S. dollar assets net exposure, so with the U.S. dollar's continual weakening and the great exchange rate fluctuations, China's commercial banks face increasing exchange rate risk. Commercial banks should manage foreign exchange exposure position in pace with the fluctuations, so as to avoid losses.Fifthly, at present, China's commercial banks have system flaws of exchange rate risk management. At present, China's commercial banks have some system flaws of exchange rate risk management. For example, China's financial market is not completely opened, the bank is lack of the long-term incentive mechanism of exchange rate risk management, the index system of the exchange rate risk management is imperfect, the banks are lack of proper organization and information management system, lack of a specific exchange rate risks management department, and the immature financial markets limit using of the exchange rate risk management instruments and tools.Sixthly, effective exchange rate risk management framework includes the organizational structure, process structure and support structure. A good organizational structure of commercial banks is an important basis for exchange rate risk management, and a reasonable process structure is an important part. Exchange rate risk management not only includes risk identification, assessment, control, and evaluation of the effect, but also involves decision-making process, forecasting and planning. Support structure for the exchange rate risk management provides not only information systems infrastructure including hardware and software, but as well system security and support operation including reporting mechanisms, contingency plans.The main innovations of this dissertation include:Firstly, based on the general theory of risk management, in combination with the characteristics of the commercial banks in China, and using the latest data, the dissertation does a systematical research on the exchange rate risk and comes to persuasive conclusions.Secondly, in this dissertation, base on inherent in the formation mechanism, capital market method and foreign exchange exposure method are used to analyze and research the exchange rate risks of China's commercial bank. It finds out that the capital market method is not suitable for identifying the majority of listed banks in the exchange rate risk. At present, foreign exchange exposure method is more suitable for identifying foreign exchange risk of our commercial banks. Thirdly, this dissertation amends the popular Value at Risk and uses the AR-EGARCH-VaR model measuring the exchange rate risk of China's commercial banks and foreign banks, meanwhile it measures and compares their daily VaR value of foreign currency assets position, and shows that there are great differences in methods and awareness of the exchange rate risk management between China's commercial banks and foreign banks.Fourthly, based on the general principles and methods of the exchange rate risk management, the dissertation comprehensively constructs an exchange rate risk management framework for the commercial banks of China from the aspects such as the organizational structure and process. Then based on the analysis of comprehensive risk management system, the dissertation proposes that exchange rate risk should be included in China's commercial banks risk management systems.