Chinese companies act as banks to prop up failing operations

Chinese companies are increasingly stepping in as lenders, as banks reduce their funding to struggling industries and the country’s mammoth bond market comes under strain.

Company-to-company loans in China jumped by 20 per cent last year to 13.2 trillion yuan ($2.5 trillion), according to research firm CEIC. That is roughly double the size of the loan book at Wells Fargo, the biggest lender in the US. This entrusted lending, so named because banks serve as middlemen, is now the fastest-growing major component of the country’s elaborate system of informal, or shadow, banking.

The most recent surge came during the sell-off in China’s $US9.3 trillion ($12.2 trillion) bond market late last year. Big, cash-rich companies — mostly state-owned enterprises and some private companies — stepped in: new entrusted loans rose to 405.7 billion yuan in December, more than double the month prior, according to data tracker Wind Information, and the highest monthly issuance in two years.

But the practice poses broader risks for China’s economy.

Instead of investing in their core business, companies can earn interest rates of up to 20 per cent making entrusted loans, often with only cursory checks on borrowers’ creditworthiness. Such lending often props up companies in sectors like mining and property where Beijing wants to reduce excess capacity. It also adds to China’s $US18 trillion corporate debt pile, already equal to 168 per cent of gross domestic product, according to the Bank for International Settlements.

Some entrusted loans are between a company and its own subsidiaries, similar to how many big companies globally loan cash to different parts of their businesses. Still, between 2007 and 2013 more than 60 per cent of entr