Cover story, issue 399, Dec 22, 2008
Translated by Zuo Maohong
Original article:[Chinese]

Though having visited all banks in Jiangsu province, Xu Rui still failed to obtain any loan for his textile company.

Without the credit lifeline, he decided to cut staff. "We've laid off all the greenhorns. If things get worse, next to go would be the senior and managerial staff," he said.

Lending crunch continued to threaten the survival of Chinese firms despite China's central bank having relaxed credit regulations several rounds in the past three months.

Since mid September, a series of cuts in reserve requirement for commercial banks had been announced, boosting the banks' liquidity by at least some one trillion yuan, but that failed to translate into more lending.

On the contrary, data from the central bank showed Renminbi-denominated loans in November dropped by 260 billion yuan compared to October, or 80 billion yuan lower than September; this was an indication that the liquidity released by looser monetary policies was still locked-up in banks.

"No one can say for sure how much worse things could get, so banks are really cautious and reluctant to lend," said one senior official of a state-owned commercial bank.

A Difficult Journey for Loans
In late November, Xu Rui made his third attempt to obtain a short-term loan to maintain company cash flow. "I thought the four trillion yuan stimulus package offered hope to companies like mine. But now it seems not the case," he said.

Located in Wuxi, Jiangsu, Xu's company exported fabrics and clothing mainly to Europe, the US and Japan. With a yearly net profit between 20 and 30 million yuan, it was once regarded by banks as a top grade client among small and medium companies.

From the end of last year, the credit crunch in overseas markets began to impact the company. "Orders from Europe dropped by one third. I thought it was just because of the economic slowdown there and didn't give much attention. I applied for loans at that time too. Many banks said no problem," Xu recalled.

As the financial crisis deepened, Xu's company suffered unprecedented hardship. Without bank loans, he failed to import new equipment for non-woven fabrics production as planned. Two of the five production lines were shut down.

Now, the company had more products in storage than the amount ordered for 2009. Even worse, unconditional returns of goods from Europe and America had wiped off this year's profits. 
 

In July, China Minsheng Banking Corporation (CMBC) decided to stop issuing short-term loans to Xu's company and stop extending the repayment term for existing loans. Xu then turned to Bank of Nanjing, but his application was declined on grounds that except for leading companies, the bank had frozen credit to all textile firms.

Xu tried other banks in August. He proposed mortgaging not only the company's debts receivable, but also his own house. The banks refused to accept the debts receivable as guarantee because there had been bad debts before. They said his house could secure a loan, but its assessed value would be halved.

"Housing prices have been slipping and my house has already been devalued. A half of the current value can only secure a very small loan for me," Xu said.

Xu was not alone in such a predicament.

While the central bank data showed contraction in lending for November, the State Council launched a four trillion yuan stimulus package and announced looser monetary polices that same month.

By rough estimation, cuts in reserve requirement ratio alone would have released some one trillion yuan of additional liquidity for commercial banks. Other monetary measures, such as reducing issuance of central bank notes, had also boosted liquidity. But where had the new found money gone to?

Liquidity Locked-Up
Banks had been holding tight to their new found liquidity, exercising it with extra care.

Loan applications from textile companies, hydro-power plants, and export oriented businesses were best avoided, the EO learned. A source from the Jiangsu branch of Construction Bank of China (CBC) said his headquarters would not approve such applications, though there was no written rules to say these businesses were "black listed".

"Our bank, as a public listed company, holds chiefs and senior managers responsible for the loans they approved. If things go wrong, they'd be removed," said a senior official of a state-owned bank.

Being cautious, some banks even declined applications from companies involved in infrastructure projects, a field encouraged by the government, which had in last month announced to build 4 trillion kilometers of new railway before 2020 and would increase its spending on railway construction to over five trillion yuan.

Despite strong government support, banks remained prudent as they learned that some existing railways were already underused, thus building more would mean further diluting the traffics and profits.

"We won't approve loan to such railway projects. Financial support from local governments would only be a one-off thing. Whether the project can handle repayment in future depends on its operations," said the above banking official.

Though investment in road projects made up a big portion of the four trillion yuan stimulus package, some banks too had their doubts.

"Stable income from toll fees is the main guarantee for repayment of loans for road projects. Now that the government is trying to encourage consumption, such fees will probably be cut greatly. So these projects are not as secured as before anymore," said a source from the corporate banking department of China Merchants Bank.

Banks' reluctance to offer loans had in turn affected consumption. In October and November, individual consumption loans dropped by 64 and 32 billion yuan respectively compared to the same periods last year.

However, this didn't mean the four trillion yuan pie was not at all attractive to banks. In early December, Bank of Communications alone extended some 10 billion yuan of loans, 15% of which was supplied to a sewage processing project.

The above-mentioned source from the CBC said under the current circumstances, government-supported projects in the energy and power industries were the most preferred.

Who's to Fuel the Economy
In reality, the reluctance to lend was also hurting and exerting pressure on banks.

While Renminbi-denominated loans fell in November, data from the central bank showed an increment of 410 billion in deposits.

With the current yield of one-year-term treasury bonds less than 2%, equal to the deposit cost, loans had virtually become the only way to make profits for commercial banks. But they had to choose high quality projects and avoid bad debts. Besides, they had to search for other high-yield investments to disperse the capital at hand.

The banks' cautiousness had stopped money from flowing into the real economy.

According to Guo Tianyong, director of China Banking Research Center under Central University of Finance and Economics, the banking industry and the economy as a whole were interdependent. Restriction in credit supply could lead to bankruptcy of numerous companies, which in turn would harm the quality of banks' assets.

Things could get even worse next year. According to a report by Lu Zhengwei at the capital operation center of Industrial Bank, after a round of battling for projects created by expansionary fiscal policies, bank loans were very likely to cool off at the end of the second quarter of 2009 when project quality - depending on the portion of investment from the central government - would deteriorate and requirement on capital adequacy ratio would be stricter.

It was probably for this reason that the State Council recently announced to increase money supply by 17% in 2009, and encouraged banks, on condition that risks were controllable, to provide credit to temporarily troubled companies with good credit records.

However, Lu doubted if banks would embrace the announcement warmly. The banks were generally unwilling to loan non-government supported projects, and the depressed real estate and auto industry had also led to much lower demand for loans, he added.

Against such an economic backdrop, Guo believed banks would have more risks to face. He thus suggested the government provide more preferential policies in tax and writing off bad debts for banks.