According to a Bloomberg article, China houses the biggest P2P lending industry in the world, an achievement that has now become an albatross around the country’s neck. According to one report, outstanding P2P loans in China are worth an estimated $217.96 billion. This is more than the combined outstanding loans for the rest of the world. But the high-flying industry is now facing an existential crisis in China.
It is first important to understand the fundamental difference in the P2P lending ecosystem in the China versus the U.S. In the U.S., the platform is not on the hook if the borrower defaults. In China, P2P lenders provide explicit guarantees in the majority of the cases. This was the reason for the common sense-defying growth of P2P lending, and now it has become the iceberg that could sink the entire industry.
The Current P2P Lending Scenario in China
In 2018, nearly 247 Chinese P2P lenders defaulted in June and July, and around 2,305 platforms suffered from some kind of financial and operating issues. The count of operating P2P lenders has shrunk from 3,383 in 2016 to just 1,645 in August 2018. The flunked P2P platforms include those who ceased operations because either they were not able to repay investors or operators absconded with investors’ funds. A ‘domino’ effect is now taking place due to the collapse of these P2P lending platforms.
It all started in June 2018 when the number of platforms having problems was just 63. In July, this figure surged to 118. The initial months before June had only a paltry 20 firms facing such issues. Contributing to the downturn were outright scams. The biggest happened in 2016: Ezubao scammed investors over $7.6 billion through its well-known Ponzi scheme.
According to an estimate by the China International Capital Corp., only 10% of current P2P lending platforms would be able to survive the coming three years. Liquidity issues is one of the major reasons responsible for the failure of approximately 73% of the P2P lending platforms. As per analysts, the number of failures have risen primarily due to three factors:
- Panicked withdrawals from investors
- Increasing compliance costs
- And a stiffening credit environment, which prompted defaults
The Regulation Perspective
A critical reason for this meltdown is the harsh regulations ushered in post-Ezubao. The new rules set by authorities were intended to give existing surviving players a tough set of prerequisites for operating in the industry. China Banking and Insurance Regulatory Commission (CBIRC) has transformed the role of P2P lending platforms to something that will only assist lending between parties and will not engage directly in handling the funds. Promising any kind of guarantee has been expressly disallowed.
CBIRC has proposed several measures to keep a check on the business of P2P lending platforms. The new measures include:
- A mandate for P2P companies to self-review and report statistics like unpaid and non-performing loans.
- Inspection powers are vested with the National Internet Finance Association and local industry associations.
- Penalties have been set for deterrence.
- Setting up of communication windows to assist customers with complaints.
- Carrying out compliance inspections on platforms.
- A ban has been imposed on setting up of a new P2P lending company.
- P2P borrowers who fail to repay loans will be penalized in China’s social credit rating system.
- Platforms now cannot use independent capital pools to fund the business. They have to count on real investors who want to fund loans.
- Platforms are bound to make detailed disclosures with respect to their working.
- Legal consequences for operators of Ponzi schemes.
An Analytical Overview of P2P Lending in China
These new regulations issued by the Chinese regulators were termed by Moody’s as “credit positive.” According to the agency, the changes made to the system and the regulations introduced will provide better protection to individual lenders and help in avoiding risk spilling over into the overall financial system.
The regulations have had a positive effect in the sense that weaker and/or dodgy online platforms will not be able to survive in the industry. This will rehabilitate the image of P2P lending in China and allow strong genuine players to grow the P2P lending market again. Though the P2P lending industry has been known for its over-exuberance, it was many times the only source of borrowing for small businesses and individuals.
But the mess still remains for millions of investors who have been left high and dry by such errant platforms. These investors had hoped government will step in and make them whole. Instead, the government’s measures have centered only on policy changes. This has led to mass protests and have been covered extensively by local and international media.
Regulators have framed measures to tackle the online lending crisis, but there is still no official guideline on how to recover already lost assets. It is unlikely that investors will be able to recoup their invested money. The write-offs are devastating for some. Reports of investor suicides are common on Chinese social media platforms. The new regulations address the issues at hand, but an awareness campaign educating investors about the pros and cons of investing in P2P lending attempts to curb a similar showdown in the future. It has become all the more critical as, now, risk consolidates into fewer (though, hopefully, regulated and well-managed) players as the industry continues to shrink.
Written by Heena Dhir.