BEIJING • China has been struggling to tame its shadow banks for years. Now, a stock market crash has hamstrung some of the fastest-growing ones in a matter of weeks. Loans from sources such as online lenders for equity purchases have plunged by at least 700 billion yuan (S$156 billion), a drop of 61 per cent from this year's peak, after the authorities banned them from funding stock buying last month, according to a Bloomberg survey conducted last month.
Peer-to- peer Internet lending for the purchases had more than tripled to eight billion yuan in the second quarter, data from research firm Yingcan Group shows.
The reversal has helped cull riskier lenders in China's online market, which was surging before the equity rout wiped out more than US$4 trillion (S$5.5 trillion).
President Xi Jinping has already curbed traditional forms of unregulated funding - such as trust loans - as part of his effort to wean the economy off debt-fuelled growth after corporate defaults mounted.
"The new regulations are making the industry more disciplined and transparent," said Mr Wei Hou, a senior equity analyst for Chinese banks at Sanford C. Bernstein & Co. "There may be short-term pain of a number of small players closing down. But it's good for the industry in the long term."
While peer-to-peer lending was pioneered in the United States by companies such as Lending Club, China is where it is really taking off. Origination of such loans will exceed US$332 billion by 2017, according to Maybank Kim Eng Securities. That compares with only US$6 billion in the US last year.
The China Securities Regulatory Commission said on July 12 that it would stop online sites from handing out loans for share purchases. Internet finance firms will need approval from financial as well as cyberspace regulators, the People's Bank of China said on July 18.
Zhongxin Quick Loans, a lender to companies and individuals in the eastern province of Jiangsu, said last month that it is liquidating assets because borrowers cannot repay loans and investors are demanding their money back. Bangcheng Financial, another online lender based in the southern province of Fujian, said it is restricting redemptions for investors who offer loans on its site after too many tried to cash out.
"Chinese regulators realised how much risk stock financing had brought," said Mr Zhu Mingchun, founder of Yingcan Group in Shanghai. "P2P sites that focused on stock finance will change their focus back to smaller company funding - what the government originally wanted such lending to serve."
China's government-backed banks are limited by interest rate controls and pressure to lend to large state-owned enterprises, prompting expansion of shadow lending that Moody's Investors Service estimates reached 41 trillion yuan last year. That is 65 per cent of the nation's economic output, up from 56 per cent a year earlier.
"There is little control in place to ensure quality of lenders and borrowers on some of these platforms," said Mr Barry Lau from Adamas Asset Management HK, which manages about US$630 million.
While the shadow-banking industry can help to channel funds to productive businesses, the increase in new kinds of financing tied to the stock market shows the difficulty regulators have in managing risks, said Mr Stephen Schwartz, a senior vice-president of credit policy at Moody's.
Chinese shadow banks' push into Internet finance comes as the slumping real estate industry demands less cash.
"Funding demand for the property sector and local government financing vehicles has come down because fixed asset investments slowed," said Mr Liao Qiang, a banking analyst at Standard & Poor's in Beijing.