Coal Industry and Shadow Lending in China
Video Transcript:
Video Transcript:
Increasingly frequent legal disputes in China’s northern Shanxi and surrounding provinces over small-scale coal mine owners’ inability to repay loans from non-bank lenders -- known informally as “grey” or “shadow” lending -- underscore new systemic risks in China’s already embattled economy.
As China’s economic growth slows, so does its demand for the raw materials and resources needed to keep the economy running. By far the most important of these resources is coal. Thermal coal makes up roughly 65 percent of China’s electricity generation and 75 percent of its total energy mix. Likewise, coking coal is a critical input for steelmaking -- a key industry in China, where since 2009 economic growth has been fueled by investment in infrastructure and real estate construction, both major consumers of steel.
Today, China is by far the world’s largest producer and consumer of coal. It accounts for 45 percent of global coal consumption. Moreover, in the three years since China became a net importer of coal in 2009, it has come to shape the rise and fall of global prices, with important implications for the economies of Indonesia, Australia and South Africa, some of its major suppliers.
In the 1980s and 1990s, the majority of domestic Chinese coal production came from the tens of thousands of small-scale, largely private township and village mines that dotted north and northwest China. In recent years however, Beijing has worked to consolidate the coal industry under the control of major state-owned coal producers in an effort to raise efficiency and reduce risks. In doing so, it seeks to close these small mines by setting minimum production quotas and cutting off lending from state-owned banks.
In an effort to save themselves, small-scale mines have turned to the murky world of shadow lending. These loans come from a wide variety of semi-legal non-state sources, from websites that link lenders and companies anonymously to wealth management funds with personal ties to investors at major state-owned banks. Most importantly, because they lack state backing, shadow loans typically carry extremely heavy interest rates -- as much as 36 percent in some cases.
When coal demand and prices are high, as they were in 2009 and 2010, these high interest rates are manageable. But when business slumps, as started happening in 2011, small-scale coal miners are suddenly unable to pay back their loans. Faced with two options -- default and close shop or borrow more -- miners understandably borrow more. Eventually, the downward borrowing spiral snowballs and mine owners in places like Shanxi province (China’s traditional coal heartland) find themselves owing billions of yuan they can’t repay.
Most unnerving is that many of those loans, while typically from private lenders, are in fact connected to China’s largest state-owned banks. In recent years, in an effort to boost their own off-balance-sheet profits, these banks have also become active, indirectly, in shadow lending.
Shadow lending is not a new problem in China. Southern coastal manufacturing hubs like Wenzhou, where small privately owned factories similarly lack access to government funds, have been meccas of shadow lending for more than a decade. But where in the past shadow lending was primarily a localized phenomenon, it now appears to be spreading rapidly to a variety of industries across China, aided in large part by the Internet. And as the geographic and industrial distribution of shadow lending widens, the systemic risk of widespread defaults grows.
