About ten years ago, farmers in northern Jiangsu Province's Yancheng municipality began setting up farmer cooperative mutual funds (农民资金互助合作社)to pool their savings and loan out money to local farmers. The organizations functioned like small, local banks and were considered to be a promising microcredit model for meeting the credit needs of Chinese farmers. The mutual fund cooperatives are not visibly different from commercial banks but they are located in townships where they are convenient for farmers to make deposits.
Depositors display receipts outside closed farmer cooperative bank (Beijing News).
Yancheng municipal officials started up 138 such mutual cooperative funds in rural townships all over their district, enlisting village officials to recruit their friends and neighbors as depositors. Many villagers were eager to move their savings from other banks because the cooperative funds offered a higher interest rate. However, many of the cooperative funds abandoned the original intent of lending to farmers. Instead, they invested in ill-fated projects that had nothing to do with farming, and dozens have gone out of business. Farmer-depositors are left holding the bag.
A lengthy article by Beijing News says the cooperative funds attracted a lot of attention as the "bank for China's poor" or "farmers' own bank." The so-called "Yancheng model" was adopted all over the country.
A Beijing News reporter visited one of these cooperatives and found the door locked and the gate covered with dust. Upon learning of the reporter's investigation, he said more than 10 people came to show the reporter receipts for their deposits that they could not collect.
A man named Tian Rongfu told the reporter that he had gladly transferred his deposits to the cooperative fund several years ago because their interest rate was 6.8%, more than double what commercial banks were paying. It was later raised to 10% and 12%.
The cooperative fund employed agents--often village officials--who got a 400 yuan monthly salary to recruit depositors. They got awards for recruiting more depositors. The city and township governments endorsed the funds and held promotional events where all village leaders were invited. There were posters everywhere.
Farmer cooperative funds enlisted village officials and used publicity campaigns to recruit depositors (Peoples Net).
Problems began in January 2013 when rumors spread that some of the banks were in trouble. This created a run on the troubled banks which ran out of cash to pay depositors. Problems spread, and now dozens have closed.
The mandate of the cooperative funds was to make micro-loans to local farmers who are members. Their local orientation was--in theory--supposed to make the funds better able to serve the credit needs of farmers than commercial banks.
Like the commercial banks, however, the failed funds had little interest in lending to farmers. They invested in real estate and bridge-building projects in a neighboring provinces that failed to generate returns.
The director of one cooperative fund, when contacted by phone, said he was in Anhui Province trying to recoup depositors' money from a failed investment. Someone else claimed to have seen him on his way home in a state of drunkenness.
Depositors who lost hundreds of thousands of yuan--the life savings and retirement funds of many--have petitioned the town and municipal governments to get their money back. The depositors say the government endorsed the financial cooperatives and promoted them heavily, so they should take responsibility for the losses. The local government disavows any responsibility.
China News Network investigated a closed financial cooperative in 2014 and found a document issued by the Yancheng government that promised to stand behind the cooperative if illegal business or moral hazard caused a run on the cooperative that threatened social stability or other unfavorable results. Depositors, however, were alternately sent to the police, the town government and the city government with none willing to take responsibility. The problem was blamed on a rogue manager who was under arrest and accused of multiple financial crimes. An official said the government would see how much of the manager's assets were left to repay the depositors after his case was resolved and consider a solution.
Beijing News said the rural financial cooperatives fell "like dominoes." In one district, only 9 of 24 financial cooperatives were still open for business. Problems with rural financial cooperatives have also been reported in other cities of Jiangsu: Lianyungang, Nanjing, and Suqian.
Several years ago, the Yancheng County promoted its model for rural financial cooperatives as a new breakthrough to help farmers get financing, Now, Beijing News describes the cooperatives as a "hot potato" that is a big headache for the government.
Yancheng officials were aware of problems before the closures began early in 2013 and tried to address them. Many meetings were held and officials called for stricter supervision, crackdowns on illegal fund-raising, curbing excessive expansion by the organizations, and controlling interest rates, all to no avail.
One of the problems for these cooperatives is their ambiguous legal standing. The cooperatives are registered as public-interest type organizations with the Ministry of Civil Affairs. Such organizations are not legally authorized to conduct business for profit. Neither are they under the supervision of bank regulatory officials.
Rural banking problems are not new in China. During the 1990s, many rural officials in China launched rural credit funds almost identical to the current mutual aid cooperatives. Those earlier funds also resulted in a nearly identical collapse when the 1990s real estate bubble popped in China. A much larger nationwide system of "rural credit cooperatives" was largely bankrupt by the late 1990s until a huge bail-out and reform in 2003. The rural credit cooperatives officially had a nonperforming loan ratio of 4.1% at the end of 2015, up from 3.8% the previous year. That's much higher than considered healthy but far lower than the pre-reform levels in the early 2000s. These rural credit cooperatives are supervised by the bank regulatory commission, but it seems unlikely that these more established rural banking organizations were immune to the same vulnerabilities that brought down Jiangsu's mutual cooperative funds.
China will need to deal with the legal ambiguities and lack of oversight in its rickety banking system as the country moves to inject billions of dollars into the countryside to overhaul farming, address chronic rural poverty, and upgrade environmental protection. Greed and miscalculation is just as much a threat in small, "cooperative" institutions as it is on Wall Street.