"White Knight" of World Economy Faces Growing Credit Woes

In the wake of comments yesterday by Premier Wen Jiabao urging financial support for cash-strapped small businesses, the BBC details the growing fears of a Chinese credit crunch:

Concern centres on China’s informal lending or shadow banking market – rich individuals and businesses that offer loans at interest rates spanning from 14% to 70%.

Companies and entrepreneurs have turned to this underground sector, with Chinese banks tightening lending as part of the government’s fight against inflation.

“Either Beijing takes pro-active and decisive measures to deal with the issue, or a mini credit crisis is likely to emerge in our opinion,” he says.

Credit Suisse says that hard statistics on the sector are hard to come by, but loans could total as much as 4 trillion yuan ($627bn; £406bn) – equal to 8% of the formal banking sector – and may be growing at 50% a year.

The private lending industry has already started to deteriorate in the eastern city of Wenzhou, where Xinhua News reports that entrepreneurs have gone into hiding and more than 20% of the city’s small and mid-sized businesses have stopped operating due to cash shortages:

Some entrepreneurs have disappeared and others have jumped off buildings almost every week since April in eastern China’s Zhejiang Province.

At least 80 cash-strapped businesspeople in Wenzhou, China’s entrepreneurial capital, have gone into hiding or declared bankruptcy to invalidate more than 10 billion yuan (1.6 billion U.S. dollars) in debt owed to individual creditors pooled from the informal lending market, according to a Xinhua investigation.

Just last week, two local entrepreneurs in Wenzhou killed themselves by jumping from buildings and another broke his leg in a similar suicide attempt.

The tragedies in Wenzhou are extreme cases of small and mid-sized private companies struggling to survive a liquidity crunch amid the country’s macro control policies which have been set to cool inflation and reign in the runaway property market.

Beyond the shadow lending market, local governments in China have also amassed a mountain of toxic debt in connection with public works projects and property development. Two credit ratings agencies, Fitch and Moody’s, sounded alarm bells in recent months over the Chinese banks which hold the massive amounts of local government loans, calling out the financial institutions for a lack of transparency and threatening to downgrade their credit outlook

Last week, the Wall Street Journal highlighted the need for Chinese banks to replenish capital as the problem loans come due:

Worries over bad debt stem from China’s four trillion yuan in stimulus spending immediately following the 2008 global financial crisis. Aimed at keeping the economy growing at an annual pace close to 10%, the spending included about 1.5 trillion yuan for roads, railways, airports and other public infrastructure. State-owned banks, including ICBC, funneled the bulk of that capital into investment vehicles formed by local governments, which aren’t allowed to borrow directly.

Local government debt jumped. A national audit published in late June put the overall total at 10.7 trillion yuan, including about 8.5 trillion yuan—the equivalent of 21% of China’s gross domestic product last year—in bank debt.

Now, as those bank loans begin to come due, banks and borrowers are seeking to refinance or restructure. China’s National Audit Office estimates that nearly 25% of the 10.7 trillion yuan in local debt will expire by year-end, followed by about 17% next year and about 11% in 2013.


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