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International Column
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Unavailability of easy credit makes life tough for Chinese businesses
In order to control inflation, the Chinese government has put a stop to its easy lending ways. This has made matters tough for Chinese entrepreneurs and small businesses. There is another problem for these small companies – wages are shooting through the roof too. Some say that China has gone crazy. Has it?
Issue Date - 08/12/2011
David Huan had big dreams for his business, a factory in central China that makes picture frames ranging from glossy wood to the gilded and baroque. He wanted to expand production, and add equipment and 400 to 600 workers atop the 400 he already employs. The demand was there last spring, he said on a recent afternoon. But his bankers were not. They balked at lending him money to buy equipment – and today his export-oriented business is about where it was six months ago. “I feel like I’m walking in one place,” he said. He has lots of company. While many businesses around the world struggle to stay afloat and workers collect unemployment checks, China has the opposite problem: an economy, pumped up by expansive lending by State-controlled banks, which is growing too fast to keep inflation and speculation in check. Beijing’s solution: create an artificial shortage of credit.

The central government has set stringent though undisclosed limits on how much money each bank can lend, clamped down on real estate speculation by limiting the number of mortgages allowed for each citizen and begun cracking down on many forms of semi-legal and illegal lending. After months of steady tightening, the controls have finally begun to bite into inflation, business growth, real estate prices and lending. Lending by Chinese banks jumped 32.5% in 2009 in inflation-adjusted terms. That growth slowed to 13.3% in 2010 and 7.3% in the first nine months of this year. Lending to small businesses has grown slightly faster. But there are so many small businesses and they are expanding so quickly that competition for these loans is especially fierce and difficult, said Nicholas R. Lardy, an economist at the Peter G. Peterson Institute for International Economics in Washington. The policymakers’ principal goal is to tamp down inflation, which has played a repeated role in triggering social unrest, including during the 1989 Tiananmen Square protests. Despite a goal of limiting inflation to no more than 4% a year, prices have stubbornly remained about 6% higher this autumn than a year ago for consumers based on official gauges – and up to twice that by the estimate of many private economists. The worst of the credit crunch this year has compelled at least a few businesspeople to flee the country or even commit suicide. They did so after borrowing money at usurious rates of up to 5% a month – an 80% annual rate – from loan sharks or neighbourhood lending pools and then finding that their speculative investments with the money did not pay off.

But the credit crunch is far broader. In more than a dozen recent interviews at the Canton Fair here, the country’s largest export trade fair, every business owner or sales manager described increasing difficulties in borrowing money – as well as strategies that banks and borrowers alike are using to cushion the effect of the new lending restrictions. Some banks are requiring lenders to personally guarantee corporate loans and put up considerably more land and factory equipment as collateral. Others lend money only if borrowers agree to redeposit up to half of the loan in the same bank at a much lower interest rate.

The practical effect is that the borrower pays a much higher interest rate than the official, heavily regulated interest rate for loans, usually 7 or 8%. “If the bank lends you 1 million, they ask for 500,000 back as a deposit,” said Elaine Yan, the import and export manager at Wuxi Zontai International Corp., a trading company specialising in brightly colored shower curtains and bath mats. The company has opted not to borrow money at all, meeting its modest financing needs through retained profits. Daunted by such terms, Helen Huang, the owner of a company producing chrome-plated paperweights, turned to a neighborhood lending pool last year. The $3.1 million she borrowed helped finance a $7.9 million land purchase so her company, Shijiazhuang Harmony Import and Export Co., could build a factory. The lending pool, run by friends, charged only 7% a year, she said – similar to what a bank loan would have been, but without onerous paperwork or redeposit requirements. The friends were seeking to earn more than the meager, regulated interest paid on bank deposits, currently 3.5% for a one-year certificate of deposit – a rate so low that, with 6% inflation, bank deposits actually lose buying power.

China has a long tradition of such family-and-friend lending pools, which finance many entrepreneurial businesses whose creditworthiness may be hard for banks to assess. The legality of these pools is murky and depends partly on the extent to which they rely on new deposits to help pay interest to earlier investors. With banks restricted from lending, businesses are taking different tacks to raise money. Some ask customers to make larger deposits when they place orders, for example, so that the factories can use the cash to pay for raw materials. “I do try to ask for more deposits upfront, but customers are resistant,” said Huang, the paperweight maker. The government’s tight grip on lending is producing results: Consumer inflation is slowly subsiding by official measures, to 6.1% in September from a peak of 6.5% in July. But in its place, one new concern is whether state planners have tightened too much. Beyond slowing factory expansions, the lending curbs have hit real estate developers particularly hard, said Stephen Green, the chief China analyst for Standard Chartered Bank.


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