This is a very interesting article for all investors who wanted to invest in the China story. Financing is one of the most important lubricant in the modern economy, as you might have already learn from the Financial Crisis. Loans are linked to property and to businesses and to the overall health of the economy. The start of every crisis starts from some place small. Could this be one of the sparking point for a major China financial crisis in the future??
Xeo
Shadow Bankers Vanishing Leave China Victims Seeing Scams
By -
Sep 12, 2012
To live out his retirement years, He Zhongkui was counting
on steady income from an investment that promised interest payments five
times higher than what he could earn in a Chinese bank.
Now
He, a 62-year-old former municipal official in Wenzhou who rides a
rusty bicycle, is cutting back on food and gasoline, having found
himself one of a growing number of victims of China’s nebulous world of shadow banking. A “friend,” who he said had been paying him 2,400 yuan
($379) a month after He gave him one-third of his 600,000-yuan life
savings to invest in real estate, suddenly disappeared. So did the
payments and principal.
Full Special Report: Banking in the Shadows
“I
called, but the number was no longer in existence,” said He, who worked
for the Water Resources Bureau in Wenzhou, a city of 9 million people
on China’s east coast. “I went to his home, but nobody was there. “I was
even invited to his daughter’s wedding, for heaven’s sake. It was all a
scam.”
China’s slowest economic growth in three years and a slumping property market,
where many so-called shadow-banking investments are parked, are
squeezing millions of Chinese who have invested the money of friends and
acquaintances chasing higher yields to honor those payments. The
slowdown also is putting pressure on the government to rein in private
lending to avoid a spate of defaults that could increase the number of
victims and lead to social unrest.
Suicide, Bankruptcy
The
shadow bankers are now disappearing, committing suicide or reneging on
agreements, leaving thousands of victims in their wake. In the first
half of the year, more than 58,000 lawsuits involving disputes over 28.4
billion yuan in private lending were filed in Zhejiang province, where
Wenzhou is located, up 27 percent from the same period in 2011 and the
most in five years, according to the provincial supreme court. One-fifth of the cases were in Wenzhou, where authorities have set up a special court to handle the surge.
Private-lending
victims nationwide filed more than 600,000 lawsuits valued at 110
billion yuan in 2011, an increase of 38 percent from the previous year.
In the first half of 2012, the number of filings rose 25 percent to
376,000, according to People’s Court, a newspaper run by China’s Supreme Court.
In
Wenzhou, an export hub where almost 90 percent of families have taken
part in underground lending, more than 100 people have fled, committed
suicide or declared bankruptcy since August 2011, and at least 800
lending brokers have gone bankrupt, Xinhua News Agency reported
in May. Home prices there declined 16 percent in July compared with a
year earlier, the fifth consecutive monthly decline, according to the
National Bureau of Statistics of China.
Payback Time
“It’s
time for payback for the unchecked growth of China’s shadow-banking
activity,” said Yao Wei, a Hong Kong-based economist at Societe Generale
SA, who estimates that as much as 2 trillion yuan of underground
lending may default eventually. “The risks are culminating, and part of
the system is doomed to collapse. On the flip side, this gives policy
makers an opportunity to put in place oversight for a sector that should
have been regulated a long time ago.”
A trial project in Wenzhou, first mentioned by Premier Wen Jiabao and designed to ease funding for small companies and monitor underground financing, was announced in March.
Private lending between Chinese individuals is believed to be worth $1.3 trillion, according to Boston-based research firm IHS Global Insight (IHS), the equivalent of the 2011 U.S. federal budget deficit. Interest rates can reach as high as 100 percent.
Banks Pinched
The lending is part of a shadow-banking system that also includes the off-balance-sheet business of banks and trust companies
and totals as much as $2.4 trillion, about one-third of China’s
official loan market, according to estimates by Societe Generale. Shadow
banking is prevalent in China because more than 90 percent of the
nation’s 42 million small businesses are unable to get bank loans, while
such investments offer returns at least several times higher than
deposits.
China’s economy
grew 7.6 percent in the second quarter, the slowest pace since 2009.
Barclays Plc, Deutsche Bank AG and Bank of America Corp. last month cut
their forecasts for third- quarter growth, while UBS AG and ING Groep NV
on Sept. 7 lowered forecasts for expansion this year to 7.5 percent.
Banks also are feeling the pinch. The industry’s nonperforming loans
increased for three consecutive quarters through June to 456.4 billion
yuan, the longest streak of deterioration in eight years, according to
the China Banking Regulatory Commission.
Loans overdue more than one day jumped 27 percent in the first half at the nation’s five largest lenders, including Industrial & Commercial Bank of China Ltd.,
the country’s biggest, and Bank of Communications Co., according to
data compiled by Bloomberg based on semi-annual earnings statements.
Bad Debt
Lenders
in Wenzhou, sometimes called the epicenter of China’s private economy,
have been hardest hit, as bad debt at the city’s banks more than doubled
in the first half to 18.1 billion yuan.
Zhou Dewen, head of the
Wenzhou Small and Medium-Sized Enterprises Development Association,
estimated that the city has about 800 billion yuan of idled private
capital as investors have become wary following the rise in defaults.
The value of private lending fell by a one-third to about 80 billion
yuan in the first six months of the year, he said. Average borrowing
costs dropped to 21.6 percent in April, down from 25.5 percent in August
2011, according to the local central bank.
‘Abysmal Point’
“Private
lending has hit an abysmal point because the trust is gone,” said Zhou.
“The difficulties faced by small businesses have never been greater
after their only access to funding is now shut to them. I hope this is
temporary.”
Another Wenzhou shadow-banking victim, Mao Renye,
said he took out a 700,000 yuan bank loan last year at 10.8 percent
annual interest, using his home as collateral, to help his son’s
struggling clothing business. Enticed by a 36 percent interest rate
promised by a city resident who ran a nationwide pharmacy chain, the
69-year-old former farmer-turned-businessman said he invested 550,000
yuan, only to find that the borrower’s company was on the brink of
bankruptcy and dozens of creditors were chasing him for repayment. Mao
didn’t get any money back.
“They claimed that it’s as safe as banks,” he said in a phone interview. “I can only blame myself for being greedy.”
The
nightmare didn’t end there. As his bank loan matured in October, Mao
had to borrow from friends, relatives and loan sharks to pay back the
debt so his home wouldn’t be seized. Now he’s seeking to sell his 2
million-yuan home to pay off his borrowings. No buyer has shown
interest, he said.
Spreading Gloom
The gloom has spread as far away as Baotou in Inner Mongolia, a region in northern China known for its rich resources of coal, iron ore and rare-earth metals.
Wei
Gang, who owns the largest property developer in the city, hung himself
at a hotel in June after amassing about 700 million yuan of debt, twice
the assets he controlled, the National Business Daily reported.
Wei promised an interest rate of more than 5 percent a month to his
lenders, most of whom had borrowed money from others at a monthly rate
of 2 percent to 3 percent, the paper said.
About one in 10 households in Baotou,
a city of 2.5 million people, still have savings in the underground
banking system, earning 1 percent to 1.5 percent a month, according to
Ma Weimin, deputy head of the Baotou Federation of Industry &
Commerce. That’s half of what they earned when China experienced a
credit crunch eight months ago. The total amount in shadow banking in
Baotou is about 30 billion yuan, or 25 percent of the city’s official
loan market, he said.
Unusual Greeting
In Erdos, about 150 kilometers (93 miles) south of Baotou, 80 percent of housing-construction projects are halted after home prices tumbled to 3,000 yuan per square meter from a record 20,000 yuan per square meter, Caijing magazine reported
Sept. 3. The biggest source of funds was private lending, and as
defaults surged this year people began greeting each other by asking how
much savings they were able to retrieve from their shadow- banking
investments, the report said.
The Chinese government has been
stepping up efforts to regulate underground lending and guide private
capital toward serving the economy instead of speculating on real estate
and commodities. Since the State Council, China’s cabinet, selected
Wenzhou for a trial program in March, it has allowed the nation’s
private investors into some state-controlled strategic industries,
including health care, railways, telecommunications, water resources and
banking.
Deposit Flight
The central bank in June gave
banks more freedom over pricing by allowing them to pay 1.1 times the
benchmark deposit rate of 3 percent annually to retain savers.
Still, households and families nationwide withdrew
500.6 billion yuan of saving from banks in July, or 0.6 percent of the
total. Chinese savers seeking higher returns have triggered swings in
deposits during the past year as they’ve shifted funds among savings accounts, higher-yielding wealth-management products and shadow-banking investments.
About
619 million yuan of capital has been registered at the Wenzhou Private
Lending Registration Center, which was set up in April to help control
shadow lending by matching individuals holding excess capital with small
businesses in need of funds. As of July, less than 10 percent of that
was loaned out, even with collateral, according to the city government.
While
China’s savings rate of more than 50 percent of gross domestic product
is the highest among major economies, exceeding India’s 34 percent and
12 percent in the U.S., according to a June 2010 Bank for International Settlements report, people have few legitimate investment options for their deposits.
Inadequate Pensions
Retirees
such as He can’t take advantage of annuities, IRAs or other such
products to derive income in their old age. China’s pension program,
like Social Security in the U.S., typically provides payments that don’t meet monthly expenses.
The nation’s stock market also is lackluster, and the bond market is largely off-limits to individual investors. The Shanghai Composite Index (SHPROP) has declined 3.3 percent this year after losing 14 percent in 2010 and 22 percent in 2011.
“There
isn’t much the government can do, as it’s ultimately about higher
returns,” Baotou Federation’s Ma said in a telephone interview. “There
is nothing wrong with private lending itself, because it has helped so
many small enterprises and made many families better off. The problem is
you need a real viable business that can generate enough profit to pay
off the debt. That’s not the case for most borrowers now.”
Profit Declines
Net
income in the first half declined from the same period last year for
almost 50 percent of China’s more than 2,300 publicly traded companies
that have announced results so far, the Nanfang Daily reported this month, citing data supplier Hexin Flush Information Network Co. (300033) In the southern province of Guangdong, about 22 percent of industrial firms had losses through June, according to the provincial statistics bureau.
Only
30 percent of the funds in Wenzhou’s shadow-banking market have gone to
finance small companies, while 60 percent went to property speculation
and re-lending, pushing up the cost of funds by end-users, the Wenzhou
branch of People’s Bank of China said last year. The city’s economy
expanded 5 percent in the first half, the slowest in three years.
In
Baotou, most families’ underground money is channeled through informal
lenders to cash-strapped real estate developers unable to get loans from
banks, Ma said. The city sold less than one-third of the apartments it
built in 2011, leaving it with 30 million square meters of unsold
properties, according to Ma.
Starving Developers
“The
central government for a couple of years has been trying to starve
property developers, in particular, for credit,” said Charlene Chu, a
Beijing-based senior director of financial institutions at Fitch Ratings.
“But the fact that the property developers are alive is because we’ve
had so many informal channels behind the scenes that the government does
not have as much influence over extending money to these institutions.”
Private lending is legal
as long as borrowing and investing are voluntary and the interest rate
doesn’t exceed the ceiling imposed by law, currently 24 percent.
“There
are some people who have very high risk appetite,” Chu said. “But
ultimately, it does lead to a question of what if that doesn’t get
repaid? Is the government really willing for those people to take
losses? We don’t know really.”
Not everybody is spooked by the
risks of shadow banking. Jennifer Ji, 33, a sales manager in Shanghai,
has been earning 1 percent monthly interest on her family’s 400,000 yuan
of savings since late 2010 by entrusting the money with a friend of her
sister-in-law’s in Ningbo, 160 kilometers south of Shanghai.
After
she transferred the money via her bank account, Ji received an IOU with
the amount, the monthly interest rate and the signature of the borrower
-- a document recognized in China’s courts in case of dispute. She
didn’t ask how the money would be invested.
‘Sounds Scary’
“It
sounds scary at the beginning, but then I found it’s common in many
places, and my sister-in-law has been doing it for a long time,” said
Ji, who supports a 2-year-old son and a paralyzed father. “I’m counting
on the money. They’ve never missed a payment, and my money is protected
by law.”
Ningbo was the site of the latest reported suicide,
when a businessman from a town south of the city killed himself at a
hotel on Sept. 3, according to a news portal run by the local branch of
the Communist Party. Police said a preliminary investigation indicated
that the man ran a company with 6 million yuan in revenue. He took his
life after a separate private-lending business failed, leaving debts of
27 million yuan and owing employees about 2 million yuan in wages, the report said.
After
at least a dozen trips to Pingyang, where He’s borrower lived, and
almost a year chasing claims in court, He received 40,000 yuan of the
man’s leftover assets seized by authorities. It was about 20 percent of
his total investment.
“I should have asked for collateral, but
then I thought we knew each other for so long,” said He, adding that his
hair had turned completely gray during the ordeal.
“I have learned a lesson with blood and tears,” he said. “I will never lend my hard-earned money to anyone.”
--Luo Jun. With assistance from Aipeng Soo in Beijing, Stephanie Tong in Hong Kong and Wenxin Fan in Shanghai. Editors: Sheridan Prasso, Robert Friedman
To contact Bloomberg News staff of this story: Luo Jun in Shanghai at jluo6@bloomberg.net
To contact the editor responsible for this story: Chitra Somayaji at csomayaji@bloomberg.net
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