Explosion of rural credit increases risks

PUBLISHED : Monday, 17 August, 2009, 12:00am
UPDATED : Monday, 17 August, 2009, 12:00am

Sean Wang (not his real name) was unsurprised when he heard that a millionaire depositor had lost his money in a rural credit co-operative in Shandong province.

Mr Wang, a businessman in the coastal Shandong city of Qingdao, knows only too well that corruption and rule bending can be part of the game in the mainland's loosely regulated rural credit network.

'Easy credit was to blame,' he says matter-of-factly. 'The co-operative must have been hollowed out by the employees and the borrowers.'

Mr Wang says rural co-operatives, at least those in Shandong, lack regulatory oversight.

Officials are desperate to chase interest income, sometimes grey income, as they rubber-stamp loans to cash-hungry rural businesses or individuals.

According to the Economic Daily, outstanding deposits in Shandong-based co-operatives were valued at a combined 502.4 billion yuan (HK$569.77 billion) in January. They eked out a profit of 6.06 billion yuan last year.

'It is extremely easy to borrow money from the co-operatives,' says Mr Wang. 'We don't need collateralised assets to secure a multimillion-yuan loan.'

In return, borrowers like Mr Wang pay kickbacks to the officials who review and approve the loans.

He says guanxi, a Chinese term used to describe a personal connection between people in which one is able to prevail upon another to perform a favour or service, plays a big part in addition to kickbacks when an individual applies for loans.

'I've got the guanxi, so I don't have any problem securing loans,' he says. 'Whenever there's a lucrative project, I will waste no time entering into it.'

Mr Wang now owns a compressor plant, a small inn and a small solar cell factory in Shandong.

He says all the projects were funded by bank loans and he had extra money left over after setting up the businesses.

But not all customers of the co-operatives are so lucky.

Last month, the co-operative in Ningyang county, Taian, also in Shandong, rose to national notoriety when the China Youth Daily reported a businessman had sued it in a local court after his savings of more than 20 million yuan vanished.

The businessman, Sun Jianjun, said the court had not heard the case or given a convincing reason why the case was not proceeding, according to the newspaper.

Gao Tang, Mr Sun's lawyer, said in a telephone interview that the plaintiff had every reason to claim his money back, whatever reasons the co-operative gave.

Hu Yongcheng, the co-operative's former chief, had been detained and was under investigation, Mr Gao said.

Mr Sun is not the only victim of the embattled co-operative, according to the mainland's flagship newspaper, People's Daily.

At least four other depositors filed lawsuits against the co-operative in an intermediate court in Taian, which rejected all the suits.

The co-operative's habit of mislaying customers' funds underscores the regulatory and legal loopholes in the mainland's financial system. It also reveals the difficulty of building a strong rural finance network at a time when the country needs to boost domestic markets to offset slumping exports.

Beijing embarked late last year on a monetary easing policy in tandem with its 4 trillion yuan stimulus package. As part of the policy, it encouraged financial institutions, including rural credit co-operatives, to grant loans to fund infrastructure projects.

The expansionary plans have initially paid off, delivering impressive headline numbers including a better than expected 7.1 per cent growth in the broad economy in the first half of this year.

But there are increasing fears of a bogeyman behind the buoyant economic growth.

Worries are mounting that the lending spree will lead to a mountain of bad assets in the banks as well as the misuse of funds. The destination for many of these funds is believed to be the stock market.

Wei Jianing, a researcher at the State Council's Development Research Centre, said this month that 1.2 trillion yuan of loans had been illegally invested in stocks.

Mainland banking institutions extended a record 7.37 trillion yuan of loans in the first six months, nearly three times the amount a year earlier.

The China Banking Regulatory Commission reported that the majority of the money went to infrastructure, water, transport and environmental projects, accounting for 51.6 per cent of the medium- and long-term loans granted during the time.

Rural loans grew 23 per cent from the beginning of the year to an outstanding 8.3 trillion yuan.

The commission did not provide a breakdown for the six months.

The phenomenal expansion in lending slowed last month to less than 25 per cent of June's level as banks sought to cut credit risks after regulators warned of a possible asset bubble.

Although the loans by the rural co-operatives accounted for only a small portion of the total, the Taian rural co-operative scandal is a snapshot of the lending craze in China, potentially putting many more depositors' money at risk.

Official statistics show that rural credit co-operatives had piled up about 590 billion yuan in non-performing loans by the end of last year.

Bad loans at rural commercial banks increased 140 million yuan to 19.28 billion yuan in this year's first half.

Despite rising bad debts, the tough times have put pressure on Beijing to unleash the growth potential of the relatively untapped rural market. In May, it announced it was introducing unprecedented subsidies to rural lenders.

Rural lenders and credit co-operatives would receive the subsidies if their loan books were expanded on a yearly basis, they had a loan-deposit ratio of at least 50 per cent and met other requirements.

The subsidies would be equivalent to 2 per cent of the combined average of the outstanding loans at the end of each quarter and paid by the end of the year.

Lenders in urban areas could also benefit if their agricultural loan portfolio grew 15 per cent and the non-performing loan ratio did not increase.

Businesses and farmers across the vast countryside have been struggling to obtain capital since an industry revamp in the late 1990s that forced most state banks to retreat to the cities, leaving only Agricultural Bank of China and the rural credit co-operatives to lend to them.

Concerns about bad debts and low profits in rural areas have stymied growth so far, with lenders charging as much as four times the central bank's benchmark rates.

The mainland began its push to develop the rural credit market in 2006, easing capital requirements for the big state-owned banks to set up operations in the countryside and offering private and foreign investors more leeway than in urban areas.

As a result, 118 rural financial institutions were set up by the end of June, including branches of foreign lenders such as Citigroup, HSBC Holdings and Standard Chartered.

A further 1,294 rural institutions nationwide are planned by 2011, including rural banks, lending firms and co-operatives.

Whether that throws the required financial lifeline to the rural economy remains to be seen.

The fortunate ones like Mr Wang with good connections may be looked after, but many businesses are cash-strapped as the global economy struggles to mend.

Additional reporting by Anna Zhang

Lax control

Rural co-operatives, at least those in Shandong, lack regulatory oversight

In the first six months of the year, rural financing increased: 23%

The rapid growth in rural loans has resulted in an outstanding amount of, in yuan: 8.3tr yuan