As China moves through 2026, I believe the risks facing its banking sector are becoming increasingly difficult to ignore.
Despite optimistic claims that the industry has entered the final stage of the risk cycle, China’s official data tell a very different story.
The first warning sign is profitability.
According to the National Financial Regulatory Administration (NFRA), China’s commercial banks earned a combined net profit of 632.3 billion yuan (about $93.07 billion) in the first quarter of 2026, down 3.7 percent from a year earlier. That represents a sharp reversal from the 2.3 percent growth recorded for all of 2025, marking the industry’s return to negative earnings growth.
The outlook worsens further when considering the regulator’s parent bank perspective.
Under that methodology, listed banks reported a 1.2 percent year-over-year decline in first-quarter net profit.
Among different categories of banks, profits at the six major state-owned banks fell 1.3 percent, while rural commercial banks suffered a staggering 30.2 percent decline. Joint-stock commercial banks and city commercial banks posted modest year-over-year gains of 0.3 percent and 9.7 percent, respectively.
At the same time, both the balance and ratio of non-performing loans (NPLs) continued to rise, while capital adequacy and liquidity indicators weakened.
Perhaps the most troubling indicator is the industry’s net interest margin, which has fallen to a historic low of 1.40 percent—well below the 1.6 percent to 1.8 percent range that many analysts regard as the minimum threshold for a healthy banking system.
Shrinking margins, combined with declining profits, are no longer just temporary setbacks; they are quickly becoming the new normal for China’s banking industry.
Yet many market commentators paint a far more optimistic picture by relying on the quarterly reports of China’s A-share listed banks.
On a consolidated accounting basis, the country’s six largest state-owned banks reported combined net profit attributable to shareholders of 356.9 billion yuan (about $52.54 billion), up 3.63 percent from a year earlier. At first glance, those numbers suggest that China’s banking giants remain resilient.
That conclusion is misleading because it overlooks a crucial difference in accounting methodology.
The NFRA reports only the domestic banking operations of the six major banks’ mainland legal entities. Its figures exclude overseas banking subsidiaries and non-bank affiliates, such as insurance companies, mutual funds, consumer finance businesses, and financial leasing subsidiaries.
By contrast, listed companies prepare their quarterly reports on a globally consolidated basis, incorporating overseas branches, offshore subsidiaries and a broad range of non-bank financial businesses.
That distinction matters. During the first quarter of 2026, elevated U.S. interest rates boosted the profitability of overseas operations, while wealth-management companies, mutual funds and other financial subsidiaries also generated healthy earnings. Those businesses helped lift the banks’ consolidated results.
However, an analysis of the NFRA’s parent-bank regulatory reporting framework revealed that the six major state-owned banks’ domestic banking operations experienced a 1.3 percent year-over-year decline in net profit in the first quarter.
The same pattern appears across the broader industry. On a consolidated basis, China’s 42 listed banks reported a combined attributable net profit of 580.9 billion yuan (about $85.51 billion), up roughly 3 percent from a year earlier. Yet under the NFRA’s parent-bank methodology, their profits actually fell 1.2 percent.
Therefore, relying solely on listed-company financial statements risks overstating the true condition of China’s domestic banking business.
Among all segments of the industry, rural commercial banks now appear to be under the greatest strain. Their first-quarter profits plunged 30.2 percent from a year earlier.
The authorities have long been aware of the growing risks.
Approximately 195 banks exited the market through mergers or closures in 2024, and that number rose to 494 in 2025. By June 4 this year, more than 130 banks had exited the market in the first half of the year, including 97 village banks, indicating that pressure on smaller financial institutions remains unresolved.
Nevertheless, I do not believe the pace of consolidation is keeping up with the speed at which risks are accumulating.
Official data show that, by the end of the first quarter of 2026, commercial banks held 3.7 trillion yuan (about $544.60 billion) in non-performing loans, an increase of 174.2 billion yuan (about $25.64 billion) from the previous quarter. The official NPL ratio also edged up to 1.51 percent.
On the surface, those numbers may still appear manageable. However, a more concerning trend is that the industry’s net interest margin has fallen to 1.40 percent while the NPL ratio has risen to 1.51 percent. This pattern has persisted for several consecutive quarters, reducing the buffer banks have to absorb future credit losses. Banks are earning increasingly thin spreads from their lending business, while the share of loans facing repayment problems continues to rise.
The combination of declining profitability and deteriorating asset quality creates a pressure point that is difficult for any banking system to sustain over the long run.
More importantly, the officially reported 3.7 trillion yuan (about $544.60 billion) in bad loans may not reflect the full extent of the problem. Those are merely the losses that have already been recognized. In my view, the much larger risks remain hidden beneath the surface, with at least two major sources of potential stress still waiting to emerge.
