BEIJING Jan 31 China's crackdown on risky
lending has driven borrowers into an even darker place in their
search for capital - underground banking.
The domain of loan sharks, underground lending is the least
regulated area of China's shadow banking, or non-banking, sector
and for some it is seen as the biggest risk to China's financial
It connects China's army of wealthy savers with mostly small
borrowers unable to access normal lending and who can end up
paying exorbitant annual interest rates of 100 percent or more.
At 8 percent of China's $9.4 trillion economy, according to
IMF estimates, it is a surprisingly large niche.
As China intensifies its efforts to discipline risky lenders
and calm exuberant credit growth, financial stress is building
in the country and underground debt is becoming one of the
biggest banking risks.
Analysts say the underground market is most vulnerable to
worrying spikes in unpaid loans, especially since its borrowers
are often small-time exporters hardest hit when the economy
"You may see a high frequency of defaults," said Qiang Liao,
an analyst at Standard & Poor's in Beijing. "The borrowers are
more vulnerable to an adverse economic environment."
The risk is that a major default of an underground loan
could trigger a domino effect threatening the wider financial
Such dangers were highlighted this month when an investment
trust teetered on the verge of a default after raising funds to
make a loan to a struggling coal company, which had also
borrowed from loan sharks. The coal company has collapsed amid
falling coal prices, with the high rates on its underground
loans contributing to its downfall.
Among anecdotal evidence of the growth in loan sharking,
media reports said Inner Mongolia saw an "explosion" in the
number of court disputes over underground loans last year at
In Jiangsu in south China, businesswoman Gu Chunfang was
sentenced in October to effective life in prison for illegally
amassing 1.8 billion yuan with promises of annual returns of 40
percent. Some of the money was invested in coal mines.
"When I look at the figures for the money I've borrowed, I
feel uncomfortable and pressured, so I rather not look," Gu was
quoted by the International Finance News as saying, when she
explained why she had stopped keeping accounts.
Gu was undergoing plastic surgery on her face to alter her
looks and evade the police when she was arrested, the paper
FAST LIFE AND FAST CARS
Analysts believe the underground market, which most estimate
is worth around 3 trillion yuan to 4 trillion yuan, is one of
the major sources of funding for shadow banks.
But any assessment of what underground lenders get up to are
intelligent guesses at best. Information is hard to come by and
how much money is involved is not really known. Likewise, where
the cash goes after it is raised is also not clear.
When China tightened credit controls in 2011, the sector was
thrust under the spotlight after dozens of company bosses from
Wenzhou city, known for its private enterprise, fled town to
avoid repaying their underground loans.
Wu Ying, probably China's best known underground lender who
was jailed for life in 2012 for cheating investors of 380
million yuan by offering returns as high as 180 percent, was
said to have invested in over 700 shops and 20 cars, including
four BMWs and a Ferrari.
"Informal lenders are the least transparent of the actors in
China's shadow banking system," the IMF said in a report in
October 2012, adding that they challenge financial stability.
The spotlight has been on loan sharks previously. More than
10,000 people reportedly blocked a train station in central
Hunan province in 2008 after a local loan shark scheme lost some
620 million yuan of their cash.
China's overall debt has ballooned in recent years. The
ratio of total debt-to-GDP, including government, corporate and
household debt, was set to reach 218 percent of GDP by the end
of 2013, up 87 percentage points since 2008, rating agency Fitch
estimated last year.
China's efforts to bring the growth under greater control
ironically quickened the rise of shadow banks, which thrive on
the thirst for cash and a desire among savers for sterling
With China's one-year deposit rates at 3 percent and
scarcely above annual inflation, many savers succumb to the
promise of fat investment returns.
Estimated by Standard & Poor's to account for $3.7 trillion
of lending, or a third of all bank loans, the growing might of
shadow banks has raised fears that they might imperil China's
financial stability with their looser lending standards,
especially at a time when years of breakneck economic growth is
coming to an end.
"They help people to increase their leverage to
unsustainable levels at a time when their businesses are going
down," said Christine Kuo, a senior credit officer at Moody's.
Qinghai Sunshiny Mining Co Ltd knows how fatal steep rates
can be. It turned to loan sharks after it was blacklisted by
banks in 2005 and owed 119 creditors 13.2 billion yuan as of
September, local media said.
Rates on some of the loans were 120 percent, or 314 percent
if interest was compounded, and Qinghai Sunshiny has since gone