China’s 3 trillion dollar shadow banking industry, built around an artificial real estate boom and fake gold collaterals, is beginning to go bust as another one of its shadow banks have missed the deadline on payments to investors.
Previously Caixin, a Chinese media group based in Beijing known for investigative journalism, reported that China is at the centre of the discovery of the biggest gold counterfeiting scandal in human history.
Kingold Jewelry Inc, China’s largest privately-owned gold processing and jewellery company headquartered in Wuhan, took a loan of more than 20 billion Yuan, that is, 2.8 billion dollars with pure gold as collateral. But, when the shadow banks claimed the gold after the company was unable to pay back, they found that what the company claimed as pure gold is actually copper.
This sent shockwaves in the Chinese shadow banking industry and the shares of shadow banks, known as Trusts in China, collapsed. In the latest developments, Sichuan Trust, one of China’s largest shadow banks, apologized to investors for missing the deadline for payments on financial products.
“Affected by the global economic downturn, the new coronavirus outbreak, and the suspension of the issuance of trust products, some companies are unable to return funds on time. As a result, payments have not been distributed on time. Sichuan Trust sincerely apologises to you,” reads the statement published on company’s website.
“The company will go all out and strive to recover the funds by disposing the underlying assets within one year and allocate them in a timely manner in accordance with the progress of recovering our funds,” it added.
The shadow banking industry, a major lender to risky sectors like real estate, is under strain. In the last few weeks, many companies to whom shadow banks lent money have defaulted on payments, but when banks wanted to sell the collaterals like gold, it was found that what was claimed as pure gold is actually some cheap metal like copper. The shadow banks are also allegedly involved in off-balance-sheet lending and multiple violations of lending norms.
As per a report by Caixin, the same media house which revealed the Gold Scam, hundreds of Sichuan Trust’s investors protested in front of the company’s headquarter in the Chinese city of Chengdu. The Chinese regulators have launched an investigation but given the fact most of the fraudsters get away if they have Chinese Communist Party connections, the management of the Sichuan Trust is pretty much secure.
However, the chain reaction in the Chinese financial market has already started and the more shadow banks could collapse in the coming days, said the experts. “There will be a growing divide between well off provinces, such as Sichuan, and others, that can’t afford to back their provincially-backed trusts. This is part of a general trend where China will see an increasing split between the winners and losers in the economy. Some of these battles will be fought between provinces,” Andrew Collier, managing director at Orient Capital Research.
As per various reports, 64 out of 66 China’s trust firms have defaulted one product or other in the last few years. Just like the collapse of Lehman Brothers due to the housing price crash led to the 2008 financial crisis in the United States, the collapse of shadow banks due to the inability of the companies to pay back would lead to another financial crisis, this time in China.
The collapse of the shadow banks will not only hurt the banking sector but the insurance sector, too. The loans given to companies like Kingold are secured by state-owned People’s Insurance Company of China and other small insurers, and therefore, the insurers are set to suffer massive damage.
This is terrifying because whereas just after the financial crisis China was engaged in building ghost cities; everyone knew these were a symbol of demand that would never materialize, even if the cities themselves did exist. However, it now appears that a major part of China’s subsequent economic boom has been predicated on tens of billions in hard assets — such as gold — which simply do not exist.
“Borrowers behind the trust products are those with a higher risk,” said Yang Hao, an analyst at Nanjing Securities. “It represents the most vulnerable part of corporate financing and when a crisis comes, this is the first link to go awry.”
In conclusion, China’s 3 trillion dollars shadow banking industry is set to get a reality check in the next few days, as the whole counterfeit collateral unravels. As most of the loans by shadow banking companies went to the real estate sector which are unable to pay back, more and more companies would go to claim collateral- which never existed.
Therefore, the Chinese economy is set to suffer a big jolt in the next few days, shockwaves of which would be felt around the world. And as we have said before, China’s counterfeit culture and forced demand creation is to blame.