Debt Panic In China

Debt Panic in China 's Wenzhou may auger wider woes

WENZHOU, China (AP) — Wenzhou's private entrepreneurs, scrappy survivors in an economy ruled by state industries, once thrived on a formula of cheap backstreet loans and low-cost manufacturing.

Now, they're at the center of what some have dubbed China's own subprime debt crisis, a festering mess of borrowings gone sour that has become one of the weakest links in the economy — at a time when strength here is most needed to offset weakness in the U.S. and Europe.

"Do anything, but not manufacturing in China!" exclaimed Yang Guanghua, boss of a Wenzhou electroplating factory. Unable to collect from customers who themselves have no money, Yang said he stopped paying salaries two months ago. "I can't get raw materials because suppliers are afraid I will run away," Yang said.

"It's just impossible to get loans from the bank unless you have connections," he said. Wenzhou's factory bosses are caught in a dire credit crunch. Pyramids of high-interest private lending are collapsing as companies whose profits are dwindling due to rising costs and weakening demand default on their debts. Dozens of tycoons have skipped town. The government has intervened, but many worry the stopgap measures will not prevent the problems from getting worse.

"I have to conclude that this business is now a Ponzi game, relying on new money to pay off the old money," said Andy Xie, a Shanghai-based economist who traveled the Wenzhou region over the past two months researching the situation. "If not checked, this could lead to a national calamity."

Much of the estimated 500 billion yuan ($79 billion) in private borrowing in Wenzhou went not to manufacturing, but instead to potentially higher return investments in property or commodities — or to still more lending by the borrowers themselves.

"When banks cut off lending, businessmen went to the high-interest informal lenders, figuring that a month or two later they'd get loans again to repay their other debts. But the banks are not lending so they ran out of cash," said Yu Jingliang, owner of Zhejiang Pacific Paper Co., which deals in disposable moist towelettes and toilet seat covers. What might in normal times have been a brief liquidity squeeze became a death grip, as banks ordered to keep record levels of funds in reserves to fight inflation withheld even routine loans.

"Up to now most of what we have done is cheap cost, cheap priced production," said Zhou, who trained as an economist. "Our industries need to upgrade. They need new technology and innovation. They need to create their own brands." Such is true for many Chinese manufacturers, who are ceding low-cost competitiveness to other developing countries such as Vietnam and Bangladesh.

With the problems spreading to other regions, including the Gobi desert boomtown of Ordos, China's leaders stepped in, ordering banks to lend more and to relax repayment terms for small and medium-sized enterprises. Loan sharks and other informal lenders were reminded not to use violence or other drastic measures to collect debts.

My view:

We are seeing just the tip of the iceberg in China's boom that is going sour.

Banks have over-leverged their deposits, thanks in part to meddling bureaucrats who force banks to make loans, and now customers can't pay their bills to manufacturers.

Compounding the problem is the slowdown of buying in the Eurozone and America. 

As economist Andy Xie warns, "the whole business is now a Ponzi game." 

We are likely only months away from another, greater economic meltdown.  The chance that American and European governments and regulators had to correct the 2008 crisis has been wasted.

Commodities, bonds, and stocks will all head down.

In my opinion, we are now on our own.

Prepare yourselves for global deflation. 

It is coming whether we want it to or not.