(Xinhua) An economic downturn means, in general, decreasing orders and shrinking production. It’s not always the case for an individual.
Last year when the U.S.-originated financial crisis began to affect the world economy, Yang Jieliang, owner of a printing firm in east China’s Wenzhou city, Zhejiang Province, reacted by modifying products like making product smaller in size and simpler in packaging to reduce price and adjusting sales strategy like allowing a customer to pay at a later time. As a result he got more orders from the European market for his greeting cards, Christmas gifts and stationery. While some of his competitors went bankrupt, he resolved to expand business.
But he was short of money. His export-oriented businesses had a yearly output of about 20 million yuan in value. He planned to double the turnover by a new investment of 20 million yuan. The banks he contacted agreed to lend him only 3 million yuan, on the condition of mortgaging houses and land. The processing would take weeks.
Yang put in 6 million yuan of his own savings. The rest he borrowed from individuals privately. During the interview at the end of last month with Xinhua, he would not elaborate on the actual operation of the private transactions. He did say the money came from family relatives and friends. An agreement was usually confirmed by signing a note of borrowing. No mortgage was necessary. The money came quickly. And the agreement was honored.
Such a deal is beyond the legal boundary in China. It’s an underground, unprotected operation. Yet, the practice is common in Wenzhou. It is a dominantly great part of the grassroots financing, which was vital to the small and mid-sized businesses that made up more than 90 percent of the coastal city’s enterprises and contributed a similar proportion to its GDP.
A sampling survey conducted by Wenzhou Branch Office of the People’s Bank of China found the cash money flowing in private financing stood at 65 billion yuan at the end of May. The same report said the annual interest rates of such lending averaged 12.46 percent, against the 6 percent of the country’s licensed commercial bank’s.
Private lending relies on personal relations and the borrower’s credit reputation. The lack of checkable means like mortgage and a standard procedure makes it more likely to problems such as defaults or frauds, which could lead to social unrest. The loss of state tax revenue is also a concern of the government.
However, the practice has worked out well in Wenzhou, despite its informal and underground nature. “Private lending is helpful. It’s indispensable to small firms like mine, ” Yang Jieliang said.
Wenzhou has been a forefront of China’s economic reform. The Wenzhou people are known for a pioneering business spirit. The notions of fund pooling and mutual help are deeply rooted in the local commercial culture.
“Wenzhou’s free flowing capital is huge in amount. It is profit-seeking and highly flexible. It gives strong support to small businesses, meeting their needs for renovation or change of operation, to an effect that commercial banks and the government failed to achieve,” Zhejiang Financial College professor Ying Yixun said.
After all, risky as it looks, private lending as mentioned above is different from the large-scaled private collection of small individual funds for big investments, which is more likely to go astray. And it is different from usurious high-interest lending, which takes advantage of the client’s misfortune or miscalculation, and often resorts to brutal acts like chopping a finger of the debtor in pressing for repayments.
Yang Jieliang did not remember having trouble with private lenders except for one case. That was several years before, when a creditor asked him to return the money ahead of agreed time. His recent borrowing involved a monthly interest rate of 1.5 percent, roughly doubling the bank’s rate. “The interest rate is a little high. But I can afford it. It’s much lower and safer than the usurious loan. With such private lending, I shall not die and can live better,” Yang said.
Wenzhou’s active private financing is bolstered by a strong market demand. It reflects, in part, a failure of the state-owned commercial banks and other financial institutions.
It is no secret that the country’s state-owned commercial lenders favored big clients — businesses that were often state owned too. Banks often place harsh conditions on small borrowers. One would assume that the recent financial crisis might have altered the picture, because the government has quickened the pace of loan provision since last November and is concerned about the small businesses’ plight. Unfortunately, the reporters’ own investigation found little signs of it.
“The commercial banks used to provide loans lavishly. Now, being more risk-minded, they are doing it grudgingly, ” CHINT Small-Sum Loan Company general manager Liu Yang said. He has previously worked with a state-owned bank for more than a decade.
Of the 140,000-odd industrial enterprises in Wenzhou, only 600 recorded above 100 million yuan in annual business turnover. “In the eyes of the state bank, small businesses are inferior clients. They don’t usually have assets that can be mortgaged, they borrow in small amounts and pose a greater risk. The state-owned commercial banks tend to neglect this part of business. So do the state-owned Rural Credit Cooperatives,” Liu Yang said.
“The poor help the poor. A private firm borrows from a private lender, ” Yang Jieliang said.
It is understood that many private lenders does not like the covert operation. They would rather go open — pay the tax and be legally protected. But their wish to be part of the banking service could not come true, not in the near future.
The government exerts a firm control on the banking sector. The existing commercial banks are dominantly state owned. Cautious, small steps have been taken to open this area to private operators. A recent measure was the introduction of the small-sum loan company.
The basics of the idea were: each SSL company has multiple investors, who created a seed fund of no more than 200 million yuan. The company is required to lend 70 percent of its money in small sums to small businesses.
Wenzhou saw eight SSL companies opened for operation at the turn of last year. They are much welcomed by local businesses because they extend loans largely on guaranty and the processing was convenient and fast.
But problems soon emerge. The capital fund of a company is usually lent out within one or two months. Because it does not enjoy the status of a bank, an SSL company is not allowed to absorb deposits. It is permitted to borrow from the bank a fund as much as 50 percent of its registered capital. Apart from that, the SSL company can only use the repaid money to continue the lending business.
Although an SSL company hands out money at interest rates that could be up to three or four times higher than the banks, the taxes on it were also higher and there was a host of restrictions, like the one on scale of operation, which made the profit margin fairly small.
The SSL company has been a government experiment initiated about two years before. Applications were many at the early stage for a small number of licenses. A particular attraction of the scheme was the possibility for some excellent SSL companies being granted township bank status in one or two years.
Wenzhou has 300 billion yuan of flowable private fund, said LiuShouqian, chief of the Credit Division of Wenzhou Branch office, People’s Bank of China. Liu described his estimate as conservative. According to Wenzhou Finance Office director Zhang Zhengyu, the actual sum could well exceed 600 billion yuan, if the city’s entire domestic and foreign currency deposit by individuals and enterprises is included.
Statistics showed the eight SSL companies and two township banks in Wenzhou cumulatively lent a total of 3.826 billion yuan by the end of May. This was way too far from the goal of luring private lenders into open and legal operation. Given the present conditions, there would no longer be many investors who wish to join in the SSL game, even if the government decides to expand the experiment.
It is important that the huge flowing private fund could be used to aid the small businesses that the country’s established financiers would not, or are unable, to service. It is also important that the operation be safe and cause few social problems. There is a reason for the government to ignore illegality of private lending and allow it to continue.
So, the operation of Wenzhou’s grassroots financing is to remain dominantly grey in color. But its help to the city’s numerous small enterprises in their efforts to weather the economic storm should not be underestimated.