China's largest state-owned banks are moving big chunks of their European business to Luxembourg as they seek to escape tougher regulation in the City of London.
In a recent letter to the UK Treasury, the Chinese banks bitterly complained that uneven regulation and "rigorously demanding" liquidity rules had prompted them to transfer business and even the management of their European operations out of London.
"They are finding it increasingly difficult to operate in the UK under the current regulatory environment," read the letter sent by the Association of Foreign Banks on behalf of the banks, which are among the world's biggest by market value.
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The move deals a blow to the UK government's hope for London to become a major European hub for Chinese banks. State-owned banks – such as Industrial and Commercial Bank of China, China Construction Bank and Agricultural Bank of China – have all set up shop in London since the start of the financial crisis.
But the letter states that one Chinese bank already routes three times more business through Luxembourg than London. It added that several others were planning to manage operations from the country known for light-touch regulation.
Chinese banks' main problem is a refusal by the Financial Services Authority to allow them to set up branches in London. The UK watchdog, which declined to comment, has allowed many fewer branches since 2008 – especially in cases where it was unsatisfied with regulatory levels in the home country, transparency or capital levels.
A subsidiary is regulated in the same way as a local bank – with tight standards on transparency, capital cushions and liquidity buffers – while branches are extended arms of overseas banks over which the FSA has very limited control.
Wang Hongzhang, chairman of CCB, recently told the FT it was difficult to use the bank's London subsidiary as an efficient vehicle for expansion and he was therefore keen to set up a branch structure in parallel.
The letter said that four banks – CCB, ICBC, Bank of Communications and ABC – wanted to open branches in London but they were only permitted to open subsidiaries. It said that by contrast Bank of China and ICBC had been allowed to open branches and subsidiaries in Luxembourg, which "will be used to build up a network of European branches that would almost certainly have previously been run out of London".
London has scores of branches of U.S. banks, set up under previously less strict rules, and European Economic Area banks which can establish branches freely in any member state.
The letter comes shortly after George Osborne, UK chancellor of the exchequer, sought to raise the profile of London as an offshore hub for renminbi trading.
Additional reporting by Patrick Jenkins