Based on my research of CFPA Microfinance, this will be CFPA Microfinance’s third wholesale loan agreement.  The first was with the China Development Bank back in December 2006 for 100 million yuan and the second was a revolving credit facility with Standard Chartered Bank in January 2008 for 20 million yuan.

Such wholesale loan agreement is a win-win for both parties.  CFPA Microfinance gets additional funds to expand its loan capital and ABC meets the three agricultural dimensions policy loan requirement (三农) mandated by the government.  Moreover, ABC doesn’t have to waste its time making microfinance loans on its own, which it has done poorly in the past.  Depending on how much leeway ABC with its auditors on how to classify the loan (whether it is considered to be implicitly government backed), it may only need to be put up minimum capital reserve requirements.

This agreement not only increases CFPA Microfinance’s loan capital, it solidifies the MFI’s lead in China’s microfinance sector.

Lately, there has been a few noteworthy news pieces on China’s microfinance development.  Dr. Yunus announced at the Clinton Global Initiative that it will be starting a bank in Sichuan.  Jack Ma’s Alibaba is said to contribute $5 million to kick start lending.  Dr. Yunus has been trying to start a true Grameen Bank in China since 2006.  I am not sure if the small loan company license (小额贷款公司) has been issued yet, but you have to give them credit for trying.  Perhaps the announcement is to increase pressure for the government to hand over licenses quick.

Vikram Akula of SKS recently wrote an Op-Ed in the WSJ about opening up investments in MFIs in China.  He is definitely correct in pointing out that most casual observers who sees China as ‘developed’ and don’t need microfinance is wrong.  He is also correct that the sector needs to open up.  But I would have like to see what his ideas are in terms of liberalizing the sector.  Allowing foreign investment is definitely one option (which he is, of course, interested in), but what else can China do domestically?  Are there different models that he can share given India and SKS’s experience?  As he pointed out, current regulations do not allow MFIs to take deposits.  What then, are the risks of the MFIs?  What should MFIs who do not take deposits be aware of in terms of managing risks?

Lastly, a press release from from HSBC came out yesterday that it has partnered with Women’s World Banking (WWB) in provided microloans through its rural banks in China, specifically in Hebei’s Suizhou branch and Chongqing Dazu branch.  According to a Caijing article, the product is called “Happy Loans” (”贷款乐”).  The product has been piloting for 3 months in Suizhou and is currently being expanded.  What is WWB’s role in this partnership?  Is it providing operational expertise?  If so, does this mean that WWB (and perhaps MFIs in general) is better at assessing credit worthiness of low-income borrowers than a large multinational bank such as HSBC?  Or is HSBC simply outsourcing it’s operation activities to WWB?  From previous research, it seems that HSBC Rural Bank’s branches tend to focus only on export oriented areas (mostly exporting mushrooms actually), specifically for SMEs.  Are they moving away from SME finance and moving towards ‘real’ microfinance?  What are the terms of the loans?

Questions to ponder during my midterms.

I noted the mention of China in the PR.  I’ve heard that Accion just hired a new operations person for their Inner Mongolia office, so I expect to see their MF efforts in China to kick back up soon.

The CBRC plan, if successful, will bring China’s rural financial institutions to 1,294 by 2011 with a compound annual growth rate of 120%. Of the total, 853 financial institutions will be in the Central and Western regions of China. Rural financial institutions include village banks, lending companies, and rural mutual cooperatives.

Under the proposed plan, rural financial institutions in China’s wealthier regions can set up branches in rural areas, allowing funds to flow between them. For every one institution set up in China’s 100 wealthiest counties or large and medium city, the institution is allowed to set up one branch in a nationally recognized poor county or two branches in Central or Western China. Alternatively, for every two institutions set up in China’s Eastern region (not in one of the 100 wealthiest counties or large and medium city), the institution is allowed to set up one branch in a nationally recognized poor county or two branches in Central or Western China.

Reviewing CBRC’s expansion plan, there is a clear preference for village banks. Roughly 80% of the 1,294 institutions will be village banks, with rural banks at only 12% and remainder being lending companies.

However, the announcement doesn’t address the existing challenges of village banks such as the need for a licensed banking institution to be the majority shareholder with at least 20% equity. Such requirement has led to village banks to function like traditional banks focusing on larger loans and clients instead of focusing on microloans for the poor.

While the plan is to increase capital and lending in rural areas, the opposite might happen. Deepening on how CBRC monitors funds between the branch and headquarter, there is be a possibly for village banks to take deposits in rural area and use them for loans in the wealthier regions.

Unless more guidance is provided about how funds could and could not be used, CBRC may get more banks in the rural area, but not a lot of credit.

Happy Fry Tofu Seller in Beijing

China’s State Council just issued a draft ordinance that allows street vendors and other microentrepreneurs to register for permits and recruit employees legally. The draft ordinance, titled “Individual and Household Business Ordinance (Draft)” / “个体工商户条例(征求意见稿)“, will allow micro-enterprises to get access to loans from alternative sources such as small loan companies and village banks.

Previous requirements only allow business to be registered at its place of operation, which is impossible for street vendors and hawkers. Under the draft ordinance, entrepreneurs would be able to register their business under their place of domicile, no matter where they operate. The permission to register will be delegated to the local State Administration of Industry and Commerce (SAIC).

If registered as a “personal business,” the person and his/her personal assets will be liable for the business. If it is registered as a “household business,” then the entire household, including the household’s assets are liable for the business.

According to statistics from China’s State Administration for Industry and Commerce, individual and household business registrations have been raising rapidly. In the first quarter of this year, there were 1.5 million newly registered individual and household businesses, a 28% increase year on year. As of March 2009, there are 29.5 million individual and household businesses registered in China, which employs roughly 58.1 million people in total.

The individual and household businesses will be allowed to engage in various industries, including wholesale, retail, hospitality, food and beverage, manufacturing, transportation, warehousing, post, agriculture, fishery, animal husbandry, construction, mining, and services.

Under the proposed draft ordinance, individual and household business will also be able to recruit employees legally. In the past, these businesses were only allowed to have one to two assistants or three to five apprentices if skilled labor is involved. Such measures would help migrant laborers get employed at small and micro-businesses with some protection.

Along with the proposed ordinance, there is a stipulation that no one can collect “management fees” or “bazaar fees” from individual and household businesses. Associations fees are allowed as long as it is voluntary. I wonder if this clause is included to snub existing extortion that commonly affect street and market vendors.

Yet not all of it is rosy. Along with registration, is responsibilities: taxes. After microentrepreneurs register they must also keep proper books and file for taxes like other businesses. Or else, fines can range from 100 to 1,000 RMB.

More information on the ordinance, in Chinese, can be found here.

Standard Chartered Flyer

The hype around Village Banks is finally delivering something real.  Standard Chartered Village Bank in Inner Mongolia made an announcement yesterday that it will offer unsecured credit to farmers.

Established in August 2007 by the CBRC, Village Banks (VB) were seen as the path to bring credit to China’s rural areas.  Like microcredit companies, VBs can only mobilize deposit and make loans within their county of incorporation.  Three foreign banks have established local branches under the VB structure: HSBC, Citigroup, and Standard Chartered.  Of the three, HSBC is the most aggressive with five branches in the rural counties of Hubei, Chongqing, Fujian, Beijing, and Guangdong provinces.  Citi established its branch in Gong’An and Chibi counties in Hubei (areas not served by the HSBC branches).  Standard Chartered opened its branch in Helingeer County in Inner Mongolia.  Up until yesterday, Standard Chartered’s operation was limited to only deposits and remittances.

It is excellent to hear that Standard Chartered is offering loans to farmers without the need for collateral, especially in a poor county. Despite HSBC and Citi’s move into rural lending, they’ve only incorporated in wealthier counties with export-led industries.  One of HSBC’s branches caters mostly to industrial mushroom “farmers” who produce fungi for export.  Standard Chartered’s venture into unsecured lending is a breath of fresh air for rural financial development.  It will be interesting to see what the loan sizes are and how loans are disbursed, collected, and monitored.

(Click on the thumbnail above for the flyer.)

1) Small Loan Company (小额贷款公司) is really Microcredit Company version 2 (小额信贷公司).

Apparently the CBRC never intended for the microcredit company to be completely “credit” base. They wanted them to provide loans with collateral / guarantees; hence the rename and new law.

In effect, this has made SME their main clients, as they are the only ones who can provide titles and assets for collateral. This isn’t exactly “microfinance” as most of us understands it. Even though some might translate 小额贷款公司 as “microloan company,” I prefer to call them “small loan company” since they don’t really serve the poor and their loan amounts are 100K+ RMB.

The upside is that with the 1000+ small loan companies being formed currently, some may move in the rural finance / true microfinance direction. The legal status is there, it’s just a matter of having willing, patient, and socially-focused investors step up.

2) There’s a serious lack of sustainable / commercial microfinance expertise in China.
Aside from expansion capital and legislation, there’s a serious lack of sustainable / commercial microfinance expertise in China.  Microfinance in China has largely been an NGO experiment for the past 15 years.  As a result, there lots of NGO people who have microfinance background; however, they haven’t been exposed to managing for financial sustainability at all. On the other hand, there are lots of finance people / bankers in China, but they don’t really understand microfinance or how it really works.  As a result, there’s a gap in expertise.

It would be wonderful if we can either a) send Chinese NGO microfinance managers for training at a financial sustainable MFI to learn how it works and what it takes or b) send finance people who are truly interested in doing microfinance into the fields and bring their expertise into the NGOs.

Option B is probably easiest, but could lead to mission drift.  Option A is probably best, but most costly.  Option A is more effective in nurturing existing dedicated talent and more inline of the philosophy of microfinance and developing from the ground up than option B.

The Uyghur Autonomous Region Government issued a pilot test program guideline for SLCs in February 2009. A total of 11 firms applied to register and 5 were provided the license. The largest is Huachun Small Loan Company (华春小额贷款股份有限公司), the focus of the press release.

A few facts of particular interest from the press release that I noticed were:
1) Huachun has 100 million RMB of registered capital (~14.6 million USD)
2) 90% of the capital came from private investors and 10% came from an investment company
3) Investors include enterprises, individuals, and “society organizations” (I am not sure if this means NGOs? associations? the state poverty alleviation office?)
4) The loans are aimed at small-medium enterprises (SMEs) and can be on credit, on guarantee, or secruitized. Loan amounts are from 10K RMB to 5 million RMB (~$1.5K USD to $731.7mn USD)
5) New customers will need only 4 days for approval; repeat customers only need 4 hours!
6) 60% of the loans will be for rural areas as part of the “Three Agricultural” initiative
7) The people present at the signing ceremony (which tells us what’s needed to get an SLC approved):
a. Urumqi Economic Committee’s Party Secretary
b. Urumqi Economic Committee’s Party Chairman
c. Urumqi Small Loan Company Pilot Working Group’s Chairman
d. Urumqi State Administrative Industry and Commerce’s Bureau Chief

The PR directly referenced that Huachun, if successful, will transform into a village bank within 3 years
9) If successful, Huachun can apply to incorporate an affiliate in Yiwu County

Some Quick Analysis

It is interesting that the PR explicitly stated that Huachun is allowed to expand into another county if they are successful.  Current CBRC and PBoC regulations only allow Small Loan Companies (SLCs) to incorporate at the county levels (县), not at the provincial level.  It seems that the Xinjiang government government is thinking about experimenting on a higher level, which would make SLCs more profitable and sustainable in the long run.

The reference to become a village bank in 3 years is also noteworthy.  There is clearly an “end-game” for Huachun.  They want crack into the banking market and the SLC license is the way to do that.  Having a successful venture with proven credit and risk management records will give them leverage later on as they court a banking institution investor required for a village bank license.

The fact that Xinjiang only issued its pilot guidelines in February and in 5 months they have issued licenses indicate that the model is effective.  It reflects the national build up of these SLCs (now 500+ of them).

However, this is still not a “microfinance” company still.  From the surface Huachun is explicitly targeting SMEs and in fairly wealthy counties in Xinjiang, not poor individuals / micro-enterprises.

I wonder if by “social organizations” they mean NGOS or multilateral organizations.  The World Bank has a significant presence there.  However, it is most likely that it’s a state civil organization like the State Council’s Poverty Alleviation office, which has been active in promoting microfinance with CFPA.

Photo Credit: FXCaliber

The Chinese government is so eager about it, it has tried to promote it (by my count) seven different times: Rural Credit Cooperatives, Agricultural Development Bank loans, Microcredit Companies, Village Banks, Rural Mutual Credit Cooperatives, Small Loan Companies, and Postal Savings Bank loans.

The private sector is also excited with thousands of registered guarantee companies and small loan companies. Not to mention the hundreds of companies registered with consulting / management licenses that engage in lending-like business model.  With the latest round of government push for microfinance to help the rural poor and the unemployed, even web entrepreneurs are jumping in for some action.  Many of these online sites are throwing around the word “microfinance” along with “P2P lending” and “social responsibility” for added chic.

But are they really microfinance?

A quick browse through their websites demonstrates otherwise.  While most might associate microfinance with loans for the poor farmer, these Chinese “microfinance” websites tend to target the urbanites and youth of China.  Instead of funding income generating activities like animal husbandry or farming, their loans are mainly for consumption.  One website encourages loans for purchases of digital products, home appliances, piano, home renovation, tuition, and even gym membership!  Another website, called “ChinaMFI.com”, makes loans for hawkers, taxi drivers, study abroad, tuition, vehicle purchases, and bank loan collateral. How did sub-prime lending start again?

The misuse of the word “microfinance” probably has to do with the lack of a clear definition in the Chinese context in combination with the market demand for credit in China.  Many view microfinance as providing credit to those who lack formal access to credit often referred to as the “unbanked.”  Due to marketing, serving the “unbanked” became synonymous with microfinance.  In many developing countries, the unbanked and the poor are often the same group.  In China, however, it is often not the case.  The Chinese poor are indeed unbanked, and outside of mortgages and car loans, so is the Chinese middle class and its entrepreneurs.

As one of the final few industries that have yet to go under serious market reform, the banking sector is still heavily dominated by the state.  The state-owned banks account for 53% of total bank assets.  Moreover, the state-owned banks prefers to lend to state-owned enterprises, who dominated over 80% of bank loans.  This predicament has left everyone else from small and medium enterprises to micro-enterprises and individuals starved for credit.

The loans from these supposed online “microfinance” companies is just meeting the demand for private credit which is severely undeserved .  However, calling them “microfinance” is inappropriate.  They should be called SME loans or individual loans instead.  As an industry stand, microfinance as defined in the CGAP Microfinance Consensus Guidelines is “the provision of banking services to lower-income people, especially the poor and the very poor.”

By calling what they do microfinance, these online loan companies severely damages the credibility of microfinance in China.   It would be seriously tragic if people associate microfinance with someone’s gym membership instead of a farmer’s needs to buy a few chickens to make ends meet.