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　　In a pilot project, the government allows two private companies to 　　offer small-scale loans in a rural area
　　
　　
　　A BREAKTHROUGH: The private banking firm Rishenglong is established in Pingyao County, Shanxi Province, to provide microcredit service for local farmers
　　
　　In mid-February, the World Bank invited five veteran financial experts to visit Pingyao County in Shanxi Province, a world heritage site approved by the United Nations Educational, Scientific and Cultural Organization. Although they had an enormous interest in this 2,000-year-old city, the visitors were not here for sightseeing.
　　Two months ago, China’s first two officially approved private microcredit lenders--Rishenglong and Jinyuantai--were created in the county. At the invitation of the People’s Bank of China, the country’s Central Bank, the five experts came to Pingyao for an on-site inspection to determine whether the World Bank should provide financial assistance to the pilot project.
　　Pingyao can be considered a cradle of the Chinese banking industry. As far back as 180 years ago, local business people launched China’s first quasi-banks, bringing currency conversion and credit services to the country for the first time. They gradually expanded their businesses to about half the world, including the United States, Russia and Singapore, and had close partnerships with such world-renowned banking firms as Citibank and HSBC. As a result, many people attributed the choice of Pingyao to experiment with the microcredit program to locals’ inherent familiarity with the practice, in addition to a robust rural economy.
　　
　　Enormous potential
　　
　　According to their constitutions, the newly established small-loan companies serve the local market, targeting the agricultural sector. The local government has stipulated that no less than 70 percent of their loans should be granted to farmers and in principle the firms should not operate outside the county. In terms of credit lines, Yang Qiping, a local banking official, said each loan normally should be no more than 10,000 yuan, with a maximum of 20,000 yuan.
　　Wen Qihua, deputy magistrate of Pingyao in charge of finance, told Beijing Review that the banking firms operate under certain stipulations. Their registered capital must be no less than 15 million yuan. They must maintain a capital adequacy ratio--the ratio of a bank’s capital to its outstanding loans--of more than 8 percent, the minimum required under international standards. If a firm’s non-performing loans exceed 10 percent of the total outstanding, it will be placed under special supervision and 10 percent of its remaining capital will be set aside as a guarantee.
　　Wen also noted that the companies can only provide loans and are not allowed to deal with deposits and other banking activities. The lending interest rate they charge cannot be more than four times the benchmark rate of state-owned banks, which currently is 5.22 percent. Within that limit, however, the interest rate is determined through negotiation between the banks and individual borrowers.
　　Both Rishenglong and Jinyuantai are limited liability companies under the Chinese Corporate Law, with registered capital of 17 million yuan and 16 million yuan, respectively. Each firm has three to five shareholders who own relatively equal stakes.
　　In order to keep the private banking firms operating smoothly without outside interference, Wen said, no staff members from government-affiliated institutions are involved.
　　“The two microcredit firms are set up by private entrepreneurs, who should be responsible for their own management decisions, profits and losses,” Wen continued. “The government only plays the role of organizer, coordinator and service provider.”
　　The companies’ constitutions prescribe that their investors must participate as individuals, not corporate entities, and the capital used by the banks must come from the legitimate income of the individuals. Wen explained that these measures are meant to guarantee that the source of capital is legal and to shield the firms from external interference.
　　The majority of the stockholders of the two firms are entrepreneurs from coal mining, a pillar industry of the local economy. Wen said those entrepreneurs have experienced the ups and downs of the business world and have rich experience in dealing with market forces. They are also familiar with the agricultural economy as they grew up in the countryside.
　　“This market has enormous potential. Moreover, my coal mining enterprise is in a transition period. I think it is an opportunity to make money,” said Han Shigong, Chairman of Jinyuantai. He believes that while the microcredit business is vulnerable to high risks, with sufficient capital and a good credit standing, the loan companies can expand the rapidly. Han, who has been involved in the business world for 25 years, noted that, in contrast to the coal mining industry, running a microcredit firm avoids dealing with such problems as land use and environmental pollution.
　　
　　Shortage of capital
　　
　　
　　MAKING A PROFIT: Han Shigong, Chairman of Jinyuantai Microcredit Co. Ltd., says he sees great potential in the small-loan market
　　
　　The Chinese financial market displays two extremes. On the one hand, branches of financial institutions are spreading on nearly every street corner in urban areas, and the competition is fierce. On the other hand, the rural financial market is shrinking at an unprecedented rate, and there are virtually no financial institutions in many poverty-stricken areas.
　　This situation largely reflects financial institutions’ adjustment to a market economy. Over a decade ago, the majority of Chinese banks were solely owned by the government, and acted as an administrative body. Therefore, the banks could open branches in even the poorest rural areas, not worrying about losses. However, after undergoing a hard adjustment to market conditions and being unable to make a profit in rural areas, many commercial banks retreated from that arena.
　　More importantly, despite the fact that rural areas are in desperate need of financial support, the existing rural assets are flowing to urban areas. Tang Min, Chief Economist of the Asian Development Bank in China, estimated that over 300 billion yuan is leaving the countryside annually. Data from the National Bureau of Statistics show that the total net income of Chinese farmers is 2.2 trillion yuan, with about 15 percent of that income flowing out of rural areas.
　　“There are not many good-quality customers in the countryside, and the loan risk is high. Hence, it is natural that the capital in the rural financial market will flow to places with a good financial performance,” Yang Qiping said.
　　Pingyao is about 45 km south of Taiyuan, the provincial capital of Shanxi, and a six-hour drive from Beijing. It is a major agricultural county with a population of 500,000, 80 percent of whom are farmers. However, for historical reasons, local residents have a tradition of operating small businesses, including knitting and grain processing.
　　Since it was difficult for people to get loans from banks, many private microcredit middlemen emerged, creating a huge unauthorized financing market. To gauge its scope, consider that in 2004 Pingyao County’s revenue was 230 million yuan, but over 600 million yuan in cash flowed freely outside the banking system.
　　It is worth noting that in poor areas where the financial sector is most underdeveloped, private financing, despite its unauthorized status, has developed rapidly. In those areas, many private banking institutions, known as “underground money shops,” are making a lot of money by charging extremely high interest rates.
　　A recent survey of private financing conducted by the central bank found that the scale of China’s private financing is 950 billion yuan, accounting for 6.96 percent of the national gross domestic product and 5.92 percent of overall loan amounts. A report by Li Jianjun, associate professor at the Central University of Finance and Economics, says that 30 percent of small- and medium-sized enterprises in 17 provinces are financed by non-approved means like underground money shops.
　　An official report about the performance of China’s regional financial operations, released by the central bank, reveals that in 2004, the official financing proportion was relatively low in every part of the country, while private financing was expanding. Through the year, the total private financing volume was around 1.4 billion yuan, equal to one third of the increase in total loan volume from 2003.
　　“If the situation is not improved in a short time, a financial vacuum will appear in many Chinese villages,” Zhang Xuechun, an economist at the Asian Development Bank, told Beijing Review. “I think it is an important reason why the central bank is anxious to carry out private microcredit programs.”
　　
　　A breakthrough
　　
　　In China, microcredit is not a new development. In the 1980s, some international organizations and charitable institutions began to grant small loans to borrowers here. Currently, there are over 300 such microcredit pilot programs across the nation.
　　But the problem with those programs lies in their charitable nature: Most of them were designed for poverty relief. The funds were provided by international organizations or research institutions, which were responsible for the operation of those loan programs. A large number of rural residents benefited from the loans, but the majority of those programs did not last long, mainly due to a lack of assets.
　　“The previous programs were using money given by other people and did not make their own management decisions,” said Zhang. “If the assets were withdrawn or encountered difficulties, they would face disastrous consequences.”
　　Many experts contend that the microcredit programs were misguided, emphasizing their charitable nature while neglecting the commercial aspects. That was because the financial sector is strictly controlled by the government, and the establishment of any kind of private microcredit operation was considered illegal, they said.
　　In February 2005, the Central Government indicated a change in policy, however, saying that, “in places where conditions permit, small-loan institutions might be established on a trial basis.” This was viewed as a signal of the legitimacy of commercial small-loan institutions.
　　Two months later, at an international seminar on financing micro and small enterprises jointly sponsored by the central bank and the China Banking Regulatory Commission, Wu Xiaoling, Vice Governor of the People’s Bank of China in charge of rural finance, pointed out that the sustainable business operation is the basic principle of developing small-loan institutions. Banking experts interpreted her words as an indication that microcredit would be market-oriented.
　　In May 2005, the central bank formally decided that four provinces in central and western parts, namely Shanxi, Shaanxi, Sichuan and Guizhou, where private financing is active, could launch trial microcredit operations. The central bank set the basic principles, while local governments were responsible for establishing detailed implementation methods.
　　Guangyuan in Sichuan Province became the focal point of the domestic and international media as it prepared its trial program. But few people bid for the project, complaining they had no confidence in the future of microcredit because the policy and the central bank’s attitude were unclear. This influenced other trial sites, and many of them, including Pingyao, hesitated.
　　But during this period, the Pingyao Government pushed forward. On December 18, through public bidding, investors were designated to join the effort. On December 27, only nine days after the bidding, Rishenglong and Jinyuantai were established and issued 10 loans, worth a total of 51,000 yuan.
　　Until February 15, Rishenglong found the operation in disarray, but Wen Qihua said that the company was in the start-up period and its rules and regulations had not yet been fixed.
　　“Pingyao boasts a long history of banking services so that we have every reason to be the first. Moreover, I believe it is an opportunity for Pingyao to rejuvenate,” one anonymous banking official said.
　　Some experts hold that if small-loan institutions can be promoted across the country, the significance could be compared to the market reforms of state-owned banks.
　　“I personally believe that it is an important breakthrough for Chinese private investors to initiate microcredit banks,” said economist Zhang.

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