(Bloomberg) — Lai Xiaomin, former chairman of China Huarong Asset Management Co., was found guilty of accepting $277 million in bribes, as well as bigamy, crimes serious enough to see him summarily executed in January.Such extreme behavior — and consequences — are rare in any country. But in China, more modest but still flagrant mismanagement is common in the $54 trillion financial industry.In 2020 alone, the country’s top banking regulator issued almost 3,200 violations against institutions and 4,554 against individuals ranging from senior executives to rank-and-file staff; it levied fines totaling 2.3 billion yuan ($352.2 million). In the U.S., which has a much longer history of bank regulation, the Federal Reserve took 58 enforcement actions in total.Among the infractions, Chinese investigators found fabricated financial statements, executives’ nannies and chauffeurs installed as controlling shareholders, and favorable rates and sweetheart deals for investors and relatives.The state has also bailed out three poorly-run small lenders and merged dozens more since its first crackdown three years ago. Still, out of 4,400 financial institutions, 12.4% are designated at high risk for failure by the central bank. Now, the government is rewriting the commercial banking law and will have “zero tolerance” for transgressions.“Poor governance is obviously a risk for financial stability,” said Alicia Garcia Herrero, chief Asia economist of Natixis SA. If it’s contained within the country’s smallest institutions, the potential for damage is minimal, she added.“The issue is that we don’t really know whether governance problems are really contained and this is the big risk.”The past week offered a fuller picture of the costs of mismanagement and unchecked corruption. Huarong, which has around $42 billion in outstanding debt at home and abroad, delayed its earnings report in early April, beginning a spiral that’s seen its bonds fall to a record low of about 52 cents on the dollar. Its shares are down 67% since the 2015 debut and currently suspended.A China Huarong spokesperson said Thursday the company “learned the lesson from Lai Xiaomin’s case, firmly implemented central government policies, continued to eliminate the toxic influence, restored our corporate governance, accelerated business transformation and management reform, and enhanced corporate governance to move toward stable and better development.”It’s the second time in two years that creditors have been left at the mercy of bad actors. In 2019, China jolted global markets with a surprise seizure of Baoshang Bank Co., once seen as a model for funding regional economies. Triggered by the misappropriation of funds by its controlling shareholder, the takeover and eventual bankruptcy of Baoshang also called into question long-held assumptions of a perpetual government backstop.In general, the China Banking and Insurance Regulatory Commission has placed the blame for problems in the financial system on bank directors, shareholders and executives, saying in a December statement that “ineffective corporate governance is the root cause.”In one example, a rural bank lent the equivalent of 95% of its net capital to its shareholders and affiliates, according to the CBIRC, which didn’t name the bank. Most of those loans defaulted or are non-performing.The largest shareholder at one bank inflated revenues by 80 million yuan to make the institution look profitable. Elsewhere, one person and 22 of what the regulator described as his “shadow affiliates” held stakes in 17 banks, far exceeding the limits on banking ownership.The regulator has also identified bad behavior in its own ranks, putting its official in charge of oversight of the rural banks under investigation for severe disciplinary and law violations.Social media, too, has allowed employees to air grievances and reports of wrongdoing. Earlier this year, a whistle-blower at China Life Insurance Co. claimed on the social network Sina Weibo that the branch head fabricated client signatures and pocketed millions of dollars of non-existent marketing expenses. Following a CBIRC investigation, the company said in a statement that it was fined 510,000 yuan for inadequate internal controls broadly and pledged to enhance compliance education.In response to the rising risks, the central bank is revising its commercial bank law. The proposed changes include a new chapter on corporate governance, which for the first time specifies the responsibilities of shareholders and the key role of the board of directors. It also bars entities from using borrowed money to invest in banks and prohibits directors from holding posts at more than one affiliated institution.Unlike in the U.S. and Europe where misconduct and mismanagement often lead to public outcry, regulatory probes, and even high-profile firings, top leaders have been so far insulated in China. Senior executives are rarely held responsible for branch-level violations, and the financial penalties pale compared with the 1.9 trillion yuan of profit the industry earned last year.“This is work in progress,” said James Stent, author of China’s Banking Transformation and a former banker who’s spent more than a decade on the boards of two Chinese lenders. “Governance is generally good at priority large banks, but problems remain at lower level financial institutions. Addressing them will take time, and governance will always be imperfect.”For more articles like this, please visit us at bloomberg.comSubscribe now to stay ahead with the most trusted business news source.©2021 Bloomberg L.P.