No one believed more fervently in China’s economic miracle than the residents of this pretty coastal city, which produces shoes, eyeglasses and cigarette lighters sold around the world. The good times of the past decade made many in Wenzhou rich, and residents repeatedly doubled their bets, pouring their earnings and more into stock markets and real estate.
This city’s captains of commerce kept borrowing and investing even as China’s government, worried about the rising pace of inflation, began gently trying to apply the brakes to the country’s overheating economy. As loans from state-owned banks dried up, many in Wenzhou turned to shadier sources of money, eventually falling into a trap familiar to many on Wall Street and elsewhere – borrowing from one lender to pay off another, at higher and higher interest rates, sometimes 15 times the official standard.
Recently ranked the fourth-richest city in China per capita (trailing only the far larger centres of Shanghai, Shenzhen and Guangzhou), Wenzhou’s impressive but spookily empty real estate projects make the city feel far larger than its population of three million. Its streets are lined with multiple BMW, Porsche, Mercedes, Jaguar and Maserati dealerships. But part of that wealth now appears to be illusory, having been funded by some $300-million in high-risk loans from what locals call “shadow banks.”
The reckoning began in June, when three factory bosses, confronted with debts they couldn’t pay, disappeared without a trace. Spooked, the “shadow banks” that had become the lenders of last resort – pawn shops, credit companies, in some cases loan sharks who pooled the wealth of individual investors – started calling in more debts. More than more 100 other laoban, as bosses are known in Chinese, fled or went into hiding. Some say the number on the run is twice that, and at least two Wenzhou laoban have jumped off tall buildings to their deaths.
“I believe the first three laoban [who disappeared]are somewhere outside China. Some of the others, who had even greater debts, didn’t run. They’re just lying on their beds, staring at the ceiling, surrounded by their creditors,” said Huang Fajing, the director of a local company that manufactures cigarette lighters and barbecue starters for export to Europe, Japan and North America.
“It was very similar to the collapse of Lehman Brothers in the U.S., it spread so quickly,” said Mr. Huang, who is more than $2-million in hock himself.
As a result, while Chinese President Hu Jintao was being wooed in Europe this week to contribute to a fund to save that continent’s failing economies, his government was quietly setting up its own $160-million bailout fund to try to halt a domestic credit crisis that many say has already spread beyond Wenzhou to other parts of China. It threatens millions of small and medium-sized businesses, though larger state-backed firms thus far seem immune.
An estimated $580-billion in private loans were handed out in the first 10 months of this year, a number almost 10 per cent the size of the Chinese economy. While cautioning that it did not believe China to be on the verge of a subprime crisis the scale of which the United States recently experienced, the troubles in Wenzhou were one reason Bank of America this week lowered its growth forecast for China next year to 8.6 per cent, which would be the country’s slowest pace of growth in a decade. Wenzhou’s credit crunch, while perhaps an extreme example, reflects one of biggest fears of investors: that China – rather than being the country that can lead the world out of its debt woes – may be the next one headed for a hard fall. The city has long been unique in China for its experimentation with free enterprise and private credit, but that doesn’t mean the crisis can't spread.
“Almost every business in Wenzhou has been affected, to one degree or another,” said Zhou Dewen, director of the Wenzhou Small and Medium Enterprises Association. He said one-fifth of the city’s businesses had either cut production in half or shut down completely since the crisis began, in some cases leading to streets protests by laid-off workers who never received their last paycheques. The total amount owed by fleeing laoban is estimated at more than 10 billion yuan ($1.6-billion).
It’s a situation that has its roots in the global financial meltdown of 2008. As demand for Chinese exports dried up in North America and Europe, Beijing introduced a massive stimulus package worth trillions of dollars in order to keep its economy rolling. In practice, much of that money was distributed in the form of loans through state-owned banks.
In Wenzhou, at least, only a fraction of that money went where it was supposed to, namely upgrading businesses and developing domestic demand for their products. Much more went into speculative real estate investments – Wenzhou residents famously played leading roles in driving up property prices in Beijing, Shanghai, even Hong Kong and Singapore – and living the high life.