As the Central Bank of China has strongly limited access to credit companies by increasing interest rates, most Chinese business people have to resort to moneylenders to finance their Businesses. Meanwhile, authorities have launched a war against “illegal banks”. How does it work in reality one of the largest economies in the world?
Wenzhozu city, capital of Zhejing, is one of the most developed cities of China, best known for its array of consumer goods producers, mostly small and medium sized enterprises (SME). The development entailed a real estate boom, housing prices increased here by an average of 20% in each of the last three years. That is, until recently, when deficiencies of the Chinese capitalism have begun to surface. “Many of my clients are trying to get rid of properties, not only in Wenzhou, but everywhere in China”, said Zhao Xiuqin, sales manager at a local estate agency. “It’s panic, they are like animals fleeing from the path of a forest fire”, said Zhao.
The explanation for this phenomenon is simple and comes from a special feature of the Chinese economy. Many investors, attracted by the growth of prices, have started to invest in real estate. As the Chinese banking system is heavily regulated and cumbersome, the only solution for them to be able to finance investments were loans from moneylenders. Maybe not full funding, but short-term loans were extremely popular. When earlier this year, the central bank decided to increase interest rates for most developers which meant prohibition to the legal credit.
In fact, in China’s big cities, the moneylending is closer, by size, to a banking system in its own right, but an illegal one. “Only 10% of SMEs meet the conditions required to get a bank loan, the rest need to solve their problems by going to lenders”, said Cao Hua, representative of an illegal bank. According to authorities in Wenzhou, 80% of SMEs in the region currently are using loans from moneylenders to be able to continue, although interest rates that moneylenders impose pass the 10% mark per month. Only in July, illegal banks have run $17.2 billion, 40% more than a year ago and representing a third of the entire annual GDP of the city. And statistics is from the Central Bank of China.
The situation is more complicated for the Chinese entrepreneurs, they must bear, in addition to the pressure from moneylenders, the increase of labor and raw materials costs. Already, in recent months, hundreds of business people have simply disappeared. “I went to work one morning and found the doors closed and a group of people waiting for the employer to come and give them salaries”, said a worker at Wenzhou Jiangnan Leather Co.
Huang He, president of the company, which is known to have borrowed money from illegal banks, has not been seen since, writes China Daily. Wenzhou Shoes Material, Jinchao Electrical Appliances, Tietong Electrical Equipment are some of the other companies that have closed doors over night and the owners have disappeared. “All these businessmen were involved in illegal borrowing and failed to pay because of growing interest. The vicious circle has begun to devour the capital of companies, causing difficulties even for businesses that have been operating for 10 or 20 years, “said Xu Liangxi, vice president of Marketing Management Association Wenzou. The rate of “defaults” of the moneylenders’ clients is a very delicate subject, since no moneylender works without collectors and some lenders have started to be threatened to leave the market because of losses.