Over 80 per cent of Chinese banks fall below profit line as Trump tariffs bite

China’s banking sector is on thin ice. A new analysis by Nikkei Asia reveals that 80 per cent of Chinese commercial banks have reported net interest margins falling below the profitability threshold, raising red flags about the financial health of the world’s second-largest economy.

According to the report, 54 out of 58 publicly listed banks across mainland China and Hong Kong saw their net interest margins decline for the fiscal year ending December 2024.

The average interest margin now stands at 1.52 per cent, below the 1.8 per cent warning level set by China’s banking association, a benchmark for financial soundness.

Lending shrinks, profits dip

The net interest margin, the difference between interest earned on loans and paid on deposits is a key profitability metric for banks. In 2019, only six banks were below the profitability threshold. By the end of 2024, that number had surged to 47 over 80 per cent.

The root causes include weak loan demand, plunging lending rates, and a stagnant property market. The average interest rate on new loans in April 2025 fell to a record low of 3.2 per cent. Both businesses and households, wary of the economic outlook, are holding back on fresh credit.

Even small and medium-sized enterprises (SMEs), typically charged higher rates due to default risks, are now borrowing at nearly the same rate as large firms. The Industrial and Commercial Bank of China, for instance, is offering loans to micro-enterprises at 3.3 per cent, barely above the national average.

This compression of risk premiums is alarming financial experts. Pan Huafu, Vice President of Bank of Hangzhou, told Nikkei Asia that rising credit risk in the SME segment is now a top concern. Shinichi Seki, a researcher at the Japan Research Institute, estimates that potential bad loans could be as high as 7.8 per cent, far above the official figure of 1.5 per cent, which many believe underrepresents the actual risk due to lax asset valuation practices.

US-China tariff tension

This banking turmoil comes amid a renewed US-China tariff war, reignited under President Donald Trump’s second term. Earlier this year, Washington stunned global markets by imposing a sweeping 145 per cent tariff on a wide range of Chinese imports, citing national security concerns, intellectual property violations, and persistent trade imbalances.

In a tit-for-tat move, Beijing retaliated with a 125 per cent reciprocal tariff targeting critical US exports, from agricultural produce and machinery to high-tech components. The sharp escalation triggered widespread fears of a global trade chill.

To dial back tensions, both sides met for high-level trade talks in Geneva. While the negotiations failed to produce a comprehensive deal, they led to a significant 90-day truce that included a partial rollback of tariffs. The US reduced its tariffs on Chinese goods from 145 per cent to 30 per cent, while China lowered its tariffs on US imports from 125 per cent to 10 per cent.

Despite this reduction, tariffs remain substantially higher than pre-2024 levels, and the uncertainty continues to weigh heavily on investor sentiment and global trade flows.

For China, whose economy is already struggling with weak domestic demand, the impact is direct, as shrinking exports reduce credit demand, adding further strain to an already fragile banking system.

Can capital injections save the day?

In March, the Chinese government announced a 500-billion-yuan ($69.4 billion) capital injection during the National People’s Congress to stabilise banks. Major state-owned lenders, including the Bank of China and China Construction Bank, have since unveiled recapitalisation plans.

But analysts caution the move may provide only temporary relief. Smaller regional banks, particularly in economically distressed rural areas, remain heavily exposed to bad loans and credit defaults.

“All the big state-owned banks can do is bail out smaller ones through mergers and bad loan clean-ups,” said Naoki Tsukioka, Chief Economist at Mizuho Research & Technologies, in an interview with Nikkei Asia. “But a swift and complete solution remains elusive.”

Echoes from Japan’s banking collapse?

There are growing concerns that China could follow Japan’s path in the 1990s, when bad loan mismanagement led to a decade-long economic stagnation. If Chinese banks continue to underplay asset risks and delay loan clean-ups, they risk triggering a deeper credit freeze that could severely chill the broader economy.