A WEEK after news broke of China’s monumental stock market crash, stories of suicides and the role the country’s shady underground banking system may have played in the catastrophe have begun to emerge.

At the urging of the Chinese government, ordinary citizens pumped their life savings into dodgy investments in this “shadow” banking system, and as the losses mount, a violent backlash has begun.

Fan Xiaolin, an engineer in Changsha in central China, thought he was safe when he deposited his family’s savings of 800,000 yuan ($A173,000) in a private finance company he said was recommended by employees of state-owned Bank of China.

The company, part of an informal industry of lenders and investment managers that operates outside China’s state-run banking system, collapsed six months later as economic growth slowed and businesses struggled. Today, Fan said he and about 100 other depositors in Hunan Bofeng Asset Management Ltd. protest several times each week outside state banks and government offices, demanding their money back.

“The security people at the bank hit us,” said Fan, 50. “The police ask us to go home and wait.”

Thousands of Chinese savers like Fan who entrusted money to an informal finance industry that operates with little government oversight are suffering painful losses as borrowers default and real estate and other ventures fail.

Beijing allowed underground finance to flourish over the past decade to support entrepreneurs who generate jobs and wealth but get little credit from state banks. Communist leaders reaped the benefits of a thriving private sector without tackling the political challenge of giving entrepreneurs more access to an official financial system supports government companies.

Now, as losses rise, Beijing faces political tension and pressure to help investors recover their money.

“Many investors don’t realise the risk until something goes wrong,” said Guo Tianyong, director of the Banking Research Center at Central University of Finance and Economics in Beijing.

The industry’s popularity reflects the Chinese public’s urgent search for an alternative to low interest paid by banks, which has driven repeated bouts of boom-and-bust speculation in real estate and other assets. It propelled the flood of money from novice investors that fuelled this year’s explosive rise of Chinese stock prices, which peaked in June and have plunged since then. Last week it was revealed $3.2 trillion had been wiped off the Chinese stockmarket in just three weeks, prompting the Chinese government to begin lending money to investors to prop up the flailing market.

One portion of informal finance is allowed by Chinese law: small loans from individuals to entrepreneurs. For a fee, brokers put borrowers in touch with small savers. They provided trillions of yuan (hundreds of billions of dollars) that supported the growth of Chinese private business.

The status of other activities is murkier. Some entities operating under names such as “investment guarantee fund” act like banks, raising money from depositors to lend, invest or speculate in stocks or gold. They promise two times or more the interest paid by banks.

Regulators have tried to keep official banks separate from the underground industry, but complaints in Changsha that Bofeng was recommended by employees of Bank of China and another state-owned lender, Industrial & Commercial Bank of China Ltd, or ICBC, highlight the tangled connections between the two sides.

“I went to deposit money in the bank and the bank manager recommended this to me,” said an ICBC customer, Sheng Weimin, a 48-year-old engineer for an aviation company. He put 100,000 yuan ($A21,600) into Bofeng in January 2014.

Fan, the engineer, said he got similar advice at Bank of China to put money into one-year Bofeng contracts that promised 7 per cent annual interest — double the rate at state banks.

“There was no talk about risk,” said Fan, who earns 4,000 yuan ($A860) per month. “The counter staff at Bank of China said anybody who still uses certificates of deposit is a fool.”

Bofeng raised 400 to 500 million yuan ($A86 million to $A108 million) by selling “trust products” to several hundred investors, according to the official Xinhua News Agency. It cited local authorities as saying the company was not authorised to do so.

Bank employees were paid a 2 per cent bonus for selling the investments, Xinhua said.

Where that money went is unclear. Bofeng’s website says the company is an investor and asset manager. But the Web portal Sina.com reported it also traded stocks and made high-interest loans to real estate and other businesses.

Strains on the industry worsened as growth in the world’s second-largest economy tumbled to a two-decade low of 7.4 per cent last year, barely half of 2007’s high of 14.2 per cent. It is due to decline further as communist leaders try to steer China toward self-sustaining growth based on domestic consumption, replacing a worn-out model driven by exports and investment.

Two farmers killed themselves after losing their savings in a failed finance company in rural Xiping County in the central province of Henan, according to the Beijing Times newspaper. It said the chairman of Haochen Investment Guarantee Co. was detained while police investigate possible “illegal fundraising.”

Such a charge can be applied to an individual who receives more than 200,000 yuan ($A43,200) of informal loans or causes losses to lenders of 100,000 yuan ($A21,600), according to a 2013 document issued by China’s supreme court. Enterprises can face charges if they receive 1 million yuan ($A216,000) or cause losses of 2.5 million yuan ($A540,000).

Depositors in Bofeng said they heard the founder, Deng Lin, was detained by police but they have yet to receive word on its status.

An employee of the Changsha city government propaganda office, who would give only his surname, Fang, confirmed police are investigating Bofeng but declined to give other details. He said investors would be informed once the investigation is completed.

Asked whether Bank of China staff had sold Bofeng financial products, a spokeswoman for the bank’s Changsha branch, who would give only her surname, Zhou, said, “We have not signed a franchise agreement with Bofeng.” She repeated that when asked whether Bofeng products ever had been sold in Bank of China.

“Bank of China is fully cooperating with the investigation and will fight to keep investors’ losses to a minimum,” Zhou said.

A spokesman for ICBC, Wang Zhenning, declined to comment.

Elsewhere, grifters have taken advantage of the industry’s popularity to fleece investors.

In Shanghai, operators of a phony finance company disappeared with 100 million yuan ($A21.6 million) from mostly elderly investors who were promised annual returns of 36 per cent, according to the Shanghai Morning Post newspaper.

Chinese lawmakers are considering legal changes to curb misconduct, according to Xinhua.

“Underground banks, which run without financial supervision, not only threaten the economy and financial security but also encourage smuggling, money laundering and state assets embezzlement,” the agency said in a report in May.

The pain is politically thorny for the Communist Party because those hurt often are entrepreneurs and professionals who have benefited from its market-style economic reforms and should be a pillar of support for one-party rule.

Deng Mei, a 29-year-old employee of an electronics company in Changsha, said her family deposited money in Bofeng starting in 2011 using annual contracts bought from an ICBC branch. Last year, her family put their savings of 250,000 yuan ($A54,000) into new contracts that promised 7 to 8 per cent interest.

The first sign of trouble was a mobile phone message Dec. 17 inviting her join a protest at an ICBC branch.

“I took a day off, went there and found a lot of victims like me,” Deng said.

Sheng, the aviation engineer, said some depositors wanted to sue ICBC but a lawyer told them they would lose because their contracts were signed only by Bofeng, not the bank.

“At least there should be someone to give us an official answer to tell us when we get part of the money,” said Sheng. “I ask the bank staff and always am told, ‘It is being processed, wait.’”

EXPERTS SPLIT ON BEIJING'S NEXT MOVE

China’s stockmarket crisis promises long-lasting political and economic fallout, according to investors, executives, analysts and diplomats, following days of government intervention intended to prop up share prices.

Chinese authorities stabilised the country's stock market late last week with a package of direct and indirect government action valued at more than a trillion yuan, including buying shares, funds and index products. Added to that were trading lockups on half the listed stocks, easier credit terms for investors, and police warnings against some traders from betting on share prices to fall.

The episode will set back development of stock markets that have long been wobbly, according to people interviewed. Some predict damage to an already struggling Chinese economy and a dent in the Communist Party's credibility for stewarding it. In Beijing's defence, some said the government's unorthodox strategy prevented a cataclysmic outcome and could now force policy makers to embark on structural economic overhauls.

Government leaders face a bigger challenge to make the economy less debt-dependent. One post-crash strategy leaders could pursue is to limit the economy's debt build-up by slowing the economy itself.

"We need to see a slowdown in growth because the only way to keep up growth is to keep up credit growth," said Michael Pettis, a professor at Peking University.

Without a strong stock market, analysts said Chinese businesses are likely looking at fewer funding channels to pursue job-creating projects. More than 1,000 companies like Shanghai Film Group and China Nuclear Engineering Group were in line for initial public offerings and other stock sales when regulators this month shut the window on them. Several analysts said the suspension is counterproductive because it penalises dynamic new companies and will add volatility.

The IPO suspension affects nearly 30 companies that hoped to raise more than 9 billion yuan ($A1.97bn). It could possibly further entrench a process for picking companies eligible for IPOs that officials concede is too politicised and delay a restructuring to make it easier to list. Fewer listings also means less revenue for investment banks that handle such deals and the lawyers who craft them.

Among the companies facing new funding challenges are those that had hoped to sell stock to pay for projects built around core political goals of China's leadership. For example, a prospectus from Urumqi-based Guanghui Energy shows it applied for approval to raise 1bn yuan on the Shanghai Stock Exchange to fund a liquefied natural-gas project in the central Asian country of Kazakhstan, a spin-off of the government's plan to spend tens of billions of dollars in a regional development program. Officials of Guanghui Energy couldn't be reached for comment.

President Xi Jinping has staked enormous political capital promoting that program, called "one belt, one road," which is designed to extend Chinese influence into nations along the country's perimeter while tapping the country's overcapacity in industries like rail and construction.

The market jolt has left a third of the nearly 2,800 total listings down 50 per cent since selling began, according to Wind Information, and will saddle China's banks with a dose of fresh bad loans, as well as unwanted stock that borrowers pledged as collateral, analysts said. The Shanghai Composite Index has declined 25 per cent from a 52-week high hit on June 12.

Up to 2 per cent of the banking system's total assets are exposed to the stock market, according to UBS's Wang Tao. She said in a recent report that "we do see heightened stress in certain parts of the financial system, but systematic financial risk still looks highly unlikely."

A bigger hit awaits Chinese brokerages, which official data suggest have supplied as much as 2.27tn yuan in loans to investors, some of which are bound to be uncollectable.

Internationalisation of China's financial system seems sure to slow, at least in the short term, said some investors. Stock-market regulators may have a harder time attracting foreign investors who only represent a fraction of activity now, they said, as well as winning inclusion in influential benchmarks like the MSCI Emerging Markets Index.

Young, tech-savvy Chinese professionals, who just a few weeks ago traded stocks via mobile-phone apps, now espouse a distrust already evident with older generations who have experienced previous boom-bust cycles. "Stir-frying stocks in China means not stir-frying rice," said one Shanghai man, using a colloquial for trading.

Just before the market correction, a CLSA survey found 66 per cent of individual investors confident the government would protect the market. "All believed it was a bubble, and all thought they would get out in time," said Mr Pettis, the Peking University professor.

Now, investors are asking whether the government's lifeline to the market was designed to protect household nest eggs or the standing of state-owned enterprises. The market's biggest stock, PetroChina, gained 12 per cent last week, while the Shanghai Composite Index rose 5.2 per cent. Despite the recent plunge, the index has climbed 20 per cent this year.

Many investors got in late: Just days after the market correction began in June, a regularly published China Household Finance survey found 40 per cent of families sitting on profits and predicted that most would be in the red if the fall deepened, as it did.

Even investors who sit on paper profits can't sell many stocks, after regulators permitted about half of listed companies to halt trading in their shares. Regulators now appear to be frowning on newly inaugurated financial tools meant to modernise Chinese markets, like short selling of stock-index products, or wagering that prices would fall. Police said they are checking that activity for possible criminal manipulation.

Despite heavy downward pressure on the market, short selling has in recent days "basically gone extinct," Steve Wang, research chief at Reorient Financial Markets, said in an investor note. "The risk-reward for going against the state is not worth the effort."

CHINA SHARES LIFT ASIAN MARKETS

China shares led Asia higher Monday as Beijing’s efforts to reverse the massive stock sell-off appear to be holding up, and Greece inched closer to a bailout deal.

The Shanghai Composite Index was up 1.1 per cent. The benchmark was up 5.2 per cent last week at 3877.80, its first positive week in four, but remains down nearly a quarter from highs reached in June.

The smaller Shenzhen Composite Index was up 2.8 per cent and the small-cap ChiNext rose 3.8 per cent.

In Hong Kong, stocks fell 0.9 per cent, while a gauge of Chinese companies listed on the city’s stock exchange, known as H-shares, were down 1 per cent.

Despite the gains, investors are cautious after four weeks of volatility. Trading suspensions remain a frustration for investors, who might otherwise have sold stocks for cash. Some 303 firms have halted trading in Shanghai, and 883 in the smaller Shenzhen market, of the 2,873 stocks are listed on the two exchanges, according to FactSet. While that has come down from last week, it means only about half of the Chinese stockmarket rebounded strongly on Thursday and Friday.

The set of direct and indirect government measures — valued at more than a trillion yuan — included buying shares, making it easier to borrow to invest and the police warning some traders against betting on share prices to fall.

The amount of money borrowed from Chinese brokerages for stock investments increased to 1.44 trillion yuan ($US231.83 billion) on Friday, marking the first increase since June 18 when margin financing peaked at 2.27 trillion yuan.

“All of the ham-fisted policy support pouring into the Shanghai market right now is likely to end up propping up the blue chips,” wrote analysts Michael Parker and Derek Lam of Alliance Bernstein in a note. “Of course, at some point, that support has to end so, check your seat belts.”

Elsewhere, Japan’s Nikkei Stock Average was up 1 per cent after booking its sharpest weekly decline since mid-October last week. Australia’s S&P ASX 200 was flat and Korea’s Kospi was up 0.3 per cent.

European leaders on Sunday edged closer to a new bailout deal for Greece that would require a near-total surrender of the government of Prime Minister Alexis Tsipras to creditors’ demands.

The euro was roughly flat at $US1.1127 early in Asia, from $US1.1162 late in New York on Friday, as a deal had yet to be reached and the country’s future in Europe’s currency union still hangs in the balance.

The Japanese yen was at 122.50 against the US dollar, after hitting four-day high of 122.88 on Friday. The currency has been strengthening recently as investors seek haven assets.

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