Yu'ebao, China's most popular Internet fund product, is in hot water as three state-owned banks have reportedly halted inter-bank deposit business with Tianhong, the fund manager.

A report on the Economic Observer's website on Thursday said that the headquarters of the three banks have stopped accepting interbank deposit transactions between their branches and Tianhong, citing an anonymous source from one of the three banks.

"Overly high costs were given as the main reason for refusal to do business with Tianhong," the report said, without identifying the banks.x In the last couple of weeks, some voices have been calling for the closure of Yu'ebao for its "adverse impact on the real economy", while a great number of citizens support it because of its higher yields than bank deposits.

The debate seemed to be ending when Zhou Xiaochuan, governor of the central bank, said at the ongoing "Two Sessions" that Yu'ebao will not banned, but regulating will be improved.

Zhou's words came as a great relief for managers and investors of Yu'ebao and similar financial products, and makes the latest move by the banks all the more unexpected.

A source with one of the state-owned major banks, who declined to be named, told Xinhua that banks can choose whichever borrowers they like. Given that over 90 percent of Tianhong's capital is invested in the interbank market, the fund's future looks bleak if other banks follow suit.

Ding Xuemei, a senior public relations manager from Tianhong, said the fund is unaffected thus far. She said the fund makes enquiries to over 170 banks in China each day.

Yu'ebao was launched by Alibaba in June 2013 and has drawn a stunning 80 million investors, compared to around 60 million investors for China's decades old stock market.

Yu'ebao offers high returns but has squeezed banks' profitability, infuriating the banks who called for a ban on Internet financial products, and starting a debate over legality.

Yu'ebao's yield has been falling since February due to liquidity in the capital market and hit 5.864 percent on Wednesday.

Its seven-day annualized rate stood at 4.9 percent in 2013, still higher than the maximum 3.3 percent interest rate for one-year fixed-term deposits offered by banks.

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