Chinese banking faces a dramatic transformation over the next ten years. While we expect the overall profits of the sector to grow at an annual rate of about 10 percent, the source of its earnings will change significantly: by 2013, we estimate, corporate banking's now overwhelming share of the sector's profits will decline to little more than half as profits from retail banking increase more quickly (Exhibit 1).

Three main forces will propel these developments. The first is strong and increasingly consumption-driven GDP growth, ranging from 7 to 9 percent in recent years. Prosperity will boost demand for retail-lending products such as car loans, credit cards, and mortgages. Second, demand for traditional corporate-banking products, particularly deposits and loans, will fall. As Chinese companies centralize their cash management, the "stocks" of deposits held by each of their provincial operations will be greatly reduced. Moreover, Chinese companies now rely almost entirely on bank debt for financing, but over the next ten years we expect the development of capital markets to reduce demand for loans. Third, over the next five to seven years, we believe that the Chinese government...