Dr. Luke Deer is a Research Affiliate with the Department of Government and International Relations at the University of Sydney and a Research Associate with the Cambridge Centre for Alternative Finance and the University of Cambridge Judge Business School. Luke researches on the political economy of finance in China’s transition, with a focus on the emergence of alternative finance in China. Visit Dr. Luke Deer’s research website.
The article below is based on research funded by a 2014 Australian Endeavour Research Fellowship. Dr Deer’s fieldwork was hosted by the Centre for Research of Private Economy (CRPE) 浙江大学民营经济研究中心 at Zhejiang University 浙江大学. He is grateful to Professor He Sijiang 何嗣江 and Associate Professor Zhu Yanjian 朱燕建, both of Zhejiang University, for their assistance and support.—The Editors
Despite the mass of ‘micro’ rural, commercial and industrial enterprises in China today, many entrepreneurs find it difficult to access credit through the formal banking system. According to a recent estimate, less than five percent of micro-enterprises in China are covered by the formal credit system. This is one reason why there is talk in China today about the need for ‘inclusive finance’ 普惠金融, with a focus on the potential for ‘microfinance’ 微型金融. In China as elsewhere in the developing world, microfinance has been discussed as a way to provide access to credit for the entrepreneurial but financially disadvantaged. But microfinance in China has its own unique set of characteristics.
In its early phase from the early to mid-1990s, the microfinance model in China was purposely designed around Policy-Oriented Microfinance Poverty Alleviation Projects 政策性小额贷款扶贫项目. The aim was to provide subsidised lending. Microfinancing was initially provided by domestic and international development agencies. Its expansion from the mid-1990s saw the introduction of technical assistance by the Agricultural Development Bank of China (ADBC) under the formal leadership of the Agricultural Bank of China (ABC).
In the past decade, microfinance in China has been subsumed under a broader category of lending, and has become more mainstream and commercially oriented. While the development of micro-lending 微贷款 remains as an explicit policy objective, it is typically bundled under the mainstream banking category of ‘small micro-lending’ 小微贷款. This category of lending covers small enterprises — in China, this means enterprises with between fifty and one hundred employees and a net income (profit) of less than twenty million yuan a year. By the end of 2010, 395 new rural financial institutions had opened in China, holding microfinance loans valued at a total of 60.1 billion yuan, of which eighty-four percent were loans to farmers and rural small-micro business loans. By 2013, there were over 3,200 formally registered financial businesses offering some form of ‘small micro-lending’ across China.
To what extent then is ‘small micro-lending’ reducing the financing constraints on small and micro enterprises in China? I gained insights into this question through local fieldwork conducted in mid-2014 with research partners in two rural counties in Zhejiang province. We investigated the microfinance programs of two county-level Rural Cooperative Banks (RCBs) 农村合作银行 in the counties of Tonglu 桐庐 and Jiangshan 江山. We also interviewed around twenty microfinance clients and received survey responses from 119 local microfinance clients, all of whom were small and micro local entrepreneurs.
The small and micro lending programs at the Tonglu and Jiangshan RCBs were recently established and had many new and young clients. At the end of March 2014, after a year of operation, the microfinance centre at Jiangshan Rural Cooperative Bank 江山农村合作银行 had issued a cumulative total of 2,277 loans, worth 6.3 billion yuan, with an average household loan balance of 190,000 yuan. Seventy percent of the total 1,775 current small and micro clients were reported to be new clients. Their average age was twenty-seven years. The clients’ business lines included a mix of sectors from manufacturing and agriculture, as well as retailing and wholesaling.
The rural RCBs we visited allow easy lending assessment of households at the village level through the use of computer tablet technology. Local access to this technology has reduced the previously high information costs associated with small-scale lending and has extended the reach of microfinance into the villages. It has also reduced the time needed to assess and approve loans from a week to a matter of days. Both programs we visited had a loan pre-approval system in which individual households could be approved for credit, even if they did not have a current need for it.
Microfinance draws on collective social incentives, which have traditionally been used in informal financial networks. At Jiangshan Rural Cooperative Bank, for instance, the household rather than the individual is treated as the basic borrowing unit. Further, the bank’s sub-branches are used to establish a Credit Village ranking system, in which all eligible households in a village are pre-evaluated for borrowing. Villages with higher borrowing and repayment rates get a lower borrowing rate and vice versa. The business model also uses performance-based management incentives to reward local loan officers and managers using indicators such as the number of pre-approved households, lending volumes, repayment rates and, crucially, the borrowers’ evaluation of their loan officers’ conduct.
These small and micro-lending programs have clearly increased access to credit for thousands of small and micro local entrepreneurs, and in some cases, they have even provided start-up capital. At Tonglu Cooperative Bank 桐庐农合行 we met with clients who were able to take out micro-finance loans without any assets as collateral. Instead, they could use forms of trade credit such as purchase order agreements from potential buyers or third-party guarantees from existing clients.
Yet questions remain about the cost and availability of credit for small and micro enterprises. One issue is the cost of credit for borrowers which, at the time of our survey, was typically 13.8 percent for a one-year loan. This was more than three times China’s official lending rate at the time. Moreover, it is much higher than comparative SME lending costs in the developed world. The comparable base lending rate for SMEs in Australia in 2014, for instance, was around five percentage points for a similar one-year loan. Nevertheless, all the entrepreneurs we surveyed expressed a preference for borrowing from these RCBs, rather than from family and friends, because the obligations with the RCBs were more transparent and were seen to entail lower transaction costs, including a shorter processing time.
This begs the question as to why small and micro borrowers in China still face such high barriers to credit access, including from the formal banking sector. At Jiangshan Rural Cooperative Bank, for instance, lending to small and micro clients account for a mere three percentage point share of their current total lending. This suggests that formal lending by these RCBs is still dominated by lending to large state-owned, large private enterprises and government-led investment projects. Yet rural households make up the largest set of depositors. All of this suggests that the practice of inclusive finance in rural China still has a long way to go. Nonetheless, the potential for the rapid growth of lending to small and micro enterprises in China, based on programs like the ones I visited, is enormous.
 Although there are different classification standards for different industries, a micro enterprise in manufacturing is categorised as an enterprise with fewer than twenty employees and a net income of less than three million yuan. Yan Gujun 严谷军, ‘Microfinance Related Theory’ 微型金融的相关理论 in He Sijiang, Yan Gujun, and Chen Kuihua 陈魁华, eds, ‘Microfinance Theory and Practice’ 微型金融: 理论与实践, Zhejiang: Zhejiang Daxue Chubanshe, 2013, p.17.
 ibid, p.15.
 Rural Cooperative Banks (RCBs) 农村合作银行 emerged out of the restructuring and corporatisation of county-level Rural Credit Cooperatives (RCCs) 农村信用社 and other rural cooperative institutions. The RCBs are joint-stock ownership banks and include non-state stockholders.
 Zhejiang Jiangshan Rural Cooperative Bank 浙江江山农村合作银行, ‘ “Smile lending”, Warm to Vulnerable, Serving Small and Micro — Jiangshan Rural Cooperative Bank Micro-Lending Business Practices and Thinking’ “微笑”贷款，温暧弱势、服务微小 — 江山农村合作银行微贷业务实践与思考, Zhejiang: Zhejiang Jiangshan Rural Cooperative Bank, 2014, p.3.
 Interview with Microfinance Centre Manager, Jiangshan Rural Cooperative Bank, 23 April 2014.