By Zhang Chenghui

(Note: The "non-State economic sector"referred to in this report mainly covers self-employed and privately-owned economies, excluding enterprises with foreign investment. )

Recently, the author carried out a field study in four regions, namely, Shandong, Jiangsu, Shanghai and Zhejiang, on the financing situation of non-state enterprises (NSEs). During the study, the author had discussions with entrepreneurs of the non-state economic sector and listened extensively to the opinions of certain departments and agencies. These departments and agencies included the Peopl's Bank of China, the public finance departments, the Economic and Trade Commission, the Industrial and Trade Association, commercial banks, guaranty agencies, venture investment companies, technology and property right trading markets and service centres for small and medium-sized enterprises. The results of the study demonstrate that despite the great effort of local governments, there is no significant change in the difficult situation of financing of privately-owned enterprises.

I. Basic Development of the Private Economy in the Four Regions

I.1 Jiangsu Province

By the end of 2000, the total number of privately-owned enterprises (POEs) in Jiangsu Province reached 174,000 with a total number of employees of 2.342 million and a registered capital of RMB 94.864 billion. In 2000, the private economies of the province contributed RMB170 billion to GDP, representing 20 percent of the total GDP of the province. Currently, the total value of taxes paid by self-employed businesses (SEBs) has exceeded 12 percent of all taxes of the province and their labour force accounts for 16.7 percent of the total of the province.

In terms of industrial structure, NSEs mainly concentrate in the manufacturing, wholesale/retail and restaurant sectors. In terms of regional distribution, 47 percent of them are found in the five cities of Nanjing, Suzhou, Wuxi, Changzhou and Zhenjiang.

I.2 Zhejiang Province

Over the past 20 years of reform and opening up, Zhejiang Province developed from the previous agricultural province with a weak economic foundation to the present industrial province with fairly developed light industry and processing industry. Its aggregate economy has risen from the 12th to the 4th in China. One of the major reasons why Zhejiang has become the fastest developing province in China's economic development is its active promotion of the development of SEBs. At present, the private economy has become a major component of Zhejiang economy, and the proportion of such economy is as high as 80 percent in some areas. In 1999, the total number of self-employed businesses in Zhejiang was 1.6444 million, with a workforce of 2.8143 million people; while the total number of POEs in Zhejiang was 146,400, with 340,400 investors and a workforce of 1.5785 million people. The proportion of total workforce in the self-employed and privately-run economies (SPEs) was 16 percent of the total in the province. Total value of registered capital of SPEs reached 120.36 billion yuan, exceeding the net assets of all state-owned industrial and commercial enterprises in Zhejiang Province. In 1999, the total value of industrial output by SPEs amounted to 399.34 billion yuan. It was 45 percent of total value of industrial output in the whole province and represented a growth rate of 25.8% over that of the previous year.

In terms of regional distribution, the non-state economy has changed the previous echelon form of development characterised by faster development in the coastal areas and slow growth in the inland regions. The strength of SPEs in Ningbo and Hangzhou has already caught up with that in Wenzhou and Taizhou. In terms of sectoral structure, there is still a concentration in the secondary industry and the commercial wholesale, retail and restaurant services of the tertiary industry.

I.3 Shanghai Municipality

By the end of 1999, there were 188,800 self-employed industrial and commercial households (SICHs) in Shanghai. They employed a total workforce of 233,800 people, owned a total capital of RMB1.84 billion, and realised an annual output value of 1.23 billion yuan. Meanwhile, there were 110,000 POEs with a registered capital of 78.06 billion yuan, a workforce of 1.163 million people and an accumulative annual output of 29.55 billion yuan. The total values of annual output and sales of NSEs in Shanghai rose by 30 percent over that of the previous year, representing 5 percent of the total GDP. Total taxes paid by them reached 4.88 billion yuan, representing 11.2 percent of the local fiscal revenue. One of the distinctive characteristics of non-state economic development in Shanghai is its large size. In 1999, the average registered capital of POEs was 710,000 yuan, more than that in the other three provinces (685,000 yuan in Zhejiang, 545,000 yuan in Jiangsu and 428,000 yuan in Shandong). As importance was attached to SPEs by all district governments, their development tended to become balanced between city districts and suburban counties, which corrected the previously imbalanced development concentrated in suburban counties. In terms of industrial structure, more and more POEs are engaged in manufacturing and technology industries. The number of those involved in the primary and secondary industries rose rapidly and the rate of growth exceeded that in the tertiary industry.

I.4 Shandong Province

In 1999, the total number of SICHs and POEs in Shandong Province was 2.995 million which employed a total workforce of 6.718 million, owned a total registered capital of 23.09 billion yuan, produced a total output of 68.36 billion yuan and paid a total tax of 5.55 billion yuan, representing 13.7 percent of local fiscal revenue of the province.

Based on our survey, the NES has turned out to be the most active and the fastest developing sector in the regions. Since 1997, the economic growth pulling role of the state-owned enterprise (SOEs) has obviously weakened as a result of asset restructuring, labour reduction and product-structure adjustment in a large number of SOEs. In contrast, China's NES has developed rapidly and become a vital force in sustaining growth of the national economy. In 1999, the growth rate of tax revenue paid by SEBs in Shanghai was 20 percentage points higher than that of the whole municipality. In Jiangsu, the average annual growth of taxes paid by SPEs per annual reached 32 percent over the past few years. In Shandong Province, the proportion of taxes paid by SPEs to the provincial fiscal revenue rose from 11.5 percent in 1996 to 13.7 percent. In particular, while SOEs laid off a large number of workers and were generally incapable of absorbing any new labour force, the NES served as an important channel to absorb the laid-off workers and lighten employment pressure. By the end of 1999, SEBs in Shanghai and Jiangsu recruited an accumulative of 228,000 and over 500,000 laid-off workers respectively. During 1998-1999, Shandong Province re-employed 280,000 laid-off workers. The picture in the four regions demonstrates that the NES has played an important role in promoting market competition, improving commodity supply and services, facilitating commercialisation of science and technology results and co-ordinating State-owned enterprise reform.

II. Main Measures Adopted by Local Governments to Promote Development of the NES

As the NES is playing an increasingly important role in economic growth and system reform, local governments have strengthened their support to the NES over the past few years. In particular, they have formulated certain policies to solve financing difficulty of NSEs. Such supportive policies mainly cover three aspects.

II.1 Establishing Guaranty Agencies

To support the development of small and medium-sized enterprises (SMEs), under the enthusiastic advocation of relevant departments of the Central Government, local governments at all levels are focusing their effort on setting up credit guarantee agencies for small and medium-sized enterprises. Such guarantee agencies are regarded as a breakthrough point for solving the problem of financing difficulty. For example, except in specific cities, all the 13 cities under the direct jurisdiction of Jiangsu Province have set up credit guarantee agencies for SMEs. There are 14 such agencies in the whole province, holding a total value of 400 million yuan in registered capital. In 2000, they issued letters of guarantee to over 200 enterprises, with an accumulative number of over 1800 and a total value of 2.5 billion yuan. Based on incomplete statistics, by September 2000, over 50 guarantee agencies were set up in the cities, counties (districts) and townships in Zhejiang Province. They owned a total value of 218 million yuan in registered capital and issued over 1490 guarantees with a total value of 771 million yuan in favor of over 1,000 enterprises. At present, Jiangsu, Zhejiang and Shandong Provinces are actively engaged in preparation to establish provincial guarantee agencies. Shanghai Municipality has adjusted its public finance budgeting system and established credit guarantee agencies for SMEs supported mainly by the municipal treasury with the balance shared by all levels of public finance. By the end of 2000, this guarantee system has issued guarantee for 1,833 projects with a total value of 2.28 billion yuan.

II.2 Improving Financing Environment for NSEs

Over the past few years, in order to improve the financing environment for NSEs, effort has been made by the governments of the four regions in the following aspects:

First, strengthening contact and cooperation with banks. In order to support the development of privately-owned SMEs, relevant provincial and municipal departments of Jiangsu and Zhejiang have signed lending co-operation agreements with the Agricultural Bank of China, the Industrial and Commercial Bank of China and Minsheng Banking Corporation, on financing issues of SEBs. They have also maintained frequent contact with the banks to exchange views and analyse market changes and operational status of typical enterprises, and co-ordinated with the banks in their field studies on NSEs.

Second, solving actual problems for small and medium-sized NSEs in the course of getting loans. For example, the provincial government of Zhejiang Province has issued several specific policies to help such enterprises solve the problems of multiple registration, multiple charges and repeated assessment for real estate mortgage in the borrowing process. The Government of Hangzhou City specified policies for NSEs to acquire public land assets, which has improved the financing environment for numerous township enterprises after their system reform.

Third, establishing special agencies to provide services to SMEs. In order to support these enterprises in an active way, the Shanghai municipal government has established a financial accounting management centre and a SME service centre to provide them with information, consultancy and management services. Meanwhile, in order to fundamentally relieve financing stress from SMEs and put the market in order, the Shanghai municipal government plans to establish a standard credit rating agency and a credit system for small and medium-sized enterprise within 3-5 years.

II.3 Setting up Venture Investment Fund

In order to promote the development of small and medium-sized science and technology enterprises, many local governments have set up venture investment funds and venture investment companies. For example, Jiangsu Province has established a venture investment company with provincial government finance and started market trial operation, and major cities of the province also followed suit. The government of Zhejiang Province supported the establishment of three venture investment companies and some of its city governments also set up renovation funds for SMEs. In Shanghai, the municipal government has built up a venture investment system, which includes certain specialised agencies such as Shanghai Chuangye Investment Company, Shanghai Science and Technology Investment Company, Shanghai Lianchuang Investment Management Company and Shanghai Technology Property Right Exchange. By the beginning of 2001, the total value of venture investment funds raised by Shanghai Municipality exceeded 5 billion yuan, while more than 40 various venture investment and management companies came into being.

III. Financing Status and Problems of the Private Economy

In general, with efforts made by all areas concerned, financing difficulty encountered by NSEs has been relieved to some extent. However, the problem has not been solved fundamentally. Based on statistics of Shanghai (Trade and Development) Service Centre for Small Enterprises, after a year of its establishment, 80 percent of its clients demanded financial assistance. In Jiangsu Province, the proportion of the outstanding balance of loans to SPEs in 1999 only took up 4.8 percent of the total. Although there was a small increase in 2000, it only reached 5.2 percent. In Zhejiang Province, the proportion of total lending by all commercial banks to township and privately-owned enterprises only took 6.5 percent of the total in 2000. The proportion of lending by urban commercial banks was slightly higher at 8.2 percent. In Wuxi City of Jiangsu Province, there were 6700 new POEs in 2000 with a total registered capital of 5.024 billion yuan. However, new credit funds for them was only 54 million yuan. There were 20 POEs with excellent performance that took part in the bank-enterprise co-operation project, but only three of them obtained loans, totalling 7 million yuan. Obviously, this situation is tremendously out of line with the status of NES in the two provinces of Jiangsu and Zhejiang.

III.1 Banks Generally Compete for Large Enterprises and Reluct to Give Loans to Small Ones.

Although the credit policy of the Central Bank encourages commercial banks to increase lending to SMEs, for safety considerations, however, all commercial banks compete for large clients and reluct to lend to small borrowers. This has created a situation where more than sufficient funds are made available to the large enterprises, whereas the small ones are unable to have financial support enough to get out of the corner. The consequence is capital abundance of both banks and large enterprises, resulting in significant increase in enterprise savings and loans flowing to consumption and stock market. Take Wuxi city for example, enterprise savings last year increased by about 17 percent, representing 52.5 percent of increased savings. Meanwhile, short-term lending by banks for housing and consumption increased by 38.3 percent, making up 51.9 percent of the total increase. In contrast, lending to industries only increased by 6.1 percent, remarkably lower than the 14.4 percent growth rate of industrial output. In addition, bill acceptance business has developed rapidly over the past few years, but it has also focused on the large enterprises, the banks hardly give any bill acceptance quota to the small ones.

III.2 Discrimination against Private Ownership System Still Remains in Various Degree.

Except in Zhejiang Province where the NES is universally accepted for the sake of its particular historical and cultural background, we found in those places of our study various degrees of discrimination against SEBs. With the long-term influence of the planned economy and traditional ideology, financial departments generally tend to "be afraid of" private ownership. Some localities reported that, for the same amount of a bank loan, if it was defaulted by a SOE, the bank staff may be free from any responsibility, but if it was defaulted by a POE, the bank staff may be investigated for responsibilities by the judicial organ. For the fear of the lending responsibility, the credit personnel acted very prudently in specific operations, which is featured in restrained loans, complicated procedures, harsh mortgage terms, overly strict requirements on mortgages and extremely low mortgage rate. Some POEs said that they usually had to spend a half year's time obtaining a loan, thus having missed lots of business opportunities. With 550 million yuan of its own capital and 1 billion yuan of annual sales, Zhongda Industrial Group in Jiangsu Province was awarded the title of Excellent Enterprise by the Agricultural Bank of China Head Office and was granted a loan quota of 50 million yuan. In practice, however, the business department of the Agricultural Bank of China only allowed a loan of 30 million yuan to Zhongda Group.

III.3 Guarantee Companies and Various Funds Are Utterly Inadequate.

At present, there are over 340,000 SEBs in Shanghai. In the past two years, however, only over 2000 enterprises (including State-owned and shareholding enterprises) received financial services from the Shanghai Branch of China Investment Guarantee Company, the Technology Exchange, the venture investment companies and all kinds of district-and county-level guarantee funds. By the beginning of 2000, the proportion of financing loans obtained in all forms of guarantee only made up around 5 percent in Shanghai, of which loans to small enterprises merely took up 30 percent. In other words, loans obtained by small enterprises through the guarantee channel only accounted for 1.5 percent. In Zhejiang Province, despite a large number of guarantee agencies, most of them only have a registered capital ranging from 3 to 5 million yuan. Take the total registered capital as 218 million yuan and multiply it by five, it could only produce a guarantee capacity of 1 billion yuan, merely 1.1 percent of new loans in 2000 in the province. In Wuxi City, Jiangsu Province, the registered capital of the 30,000 POEs was 17.8 billion yuan. If matched on a 1:1 basis, the working capital shortage would aggregate 12 billion yuan. However, the aggregate capacity of the guarantee agencies in the province was less than 1.5 billion yuan. Moreover, as generally reported by all localities, the guarantee funds are operating on thin ice because they cannot prevent risks for themselves. They have to meet too strict qualification appraisal and counter-guarantee requirements, and go through very complicated procedures, which not only add burden to enterprises but also let slip business opportunities.

III.4 Maturity Schedule of Bank Lending Cannot Meet Enterprises' Needs.

In the existing indirect financing system, the term of lending loans to NSEs are usually shorter than one year. With an incomplete reform in the investment project approval system and the banks' worry about the risks of long-term loans, almost no bank has ever launched capital construction and technology renovation loans to SEBs. Therefore, it is basically impossible for the latter to obtain long-term loans from banks. To meet their needs for long-term working capital, some enterprises had to use short-term loans for multiple extensions, thus raising their financing costs. More important, the current financing channel cannot fundamentally meet the needs of SEBs for setting up new businesses as well as for technical renovation and high-tech project development. In particular, enterprises that have acquired certain financil strength over many years' of development and aim for greater goals cannot have their capital constraint relieved only with short-term loans.

III.5 Indirect Financing Channel Is Blocked.

Currently, there is yet no small capital market that can meet the needs of SMEs in China's capital market system. Capital suppliers and capital users in the private equity market are not yet linked up. The level of development of long-term securities market is extremely low. Under such circumstances, even very successful POEs will encounter significant difficulty in raising funds through listing or issuance of bonds or commercial bills. On the other hand, with various restraints, it is impossible for the secondary market that will soon be approved to become a major financing channel for SMEs.

III.6 Non-official Financing Remains to Be a Major Channel for NSEs to Obtain Funds for Start-up and Operation.

As privately-owned SMEs cannot satisfy their financing needs through normal channels, non-official financing activities have emerged in areas where the NES is highly developed. Although the supervision departments apply stringent restrictions to all kinds of non-governmental financing activities and strictly ban all non-governmental "chaotic fund raising" activities, the existence of non-governmental financing activities is an indisputable fact. Among the dozens of enterprises that have discussed with us, none of them have ever received start-up capital from authorized financial institutions, and enjoyed little assistance from them during their development process. To date, the main capital sources of these enterprises are self-raised and non-official funds.

We have tried to make a rough analysis on the scale of non-governmental financing, unfortunately, none of the local officials are willing to touch this issue and no relevant statistical data are available. Based on our survey, the current non-official financing generally takes the following forms:

First, non-governmental loans. In spite of strict control by the financial supervision departments, the non-governmental lending market has never ceased but remained vigorous. As non-governmental loans guarantee 1% monthly interest rate, while bank saving rates continue to drop and other investment channels are rare, many urban and rural residents have invested their funds in this market, and consequently guaranteed the financial sources for non-governmental financial activities.

Second, debt default. At present, there is a significant debt default problem characterised by debt default of large enterprises to small ones and inter-enterprise debt defaults. Some enterprises even rely on defaults for their circulating funds. This method of financing does not only worsen the problem of chain-debt in society but also deteriorates the competition environment and the creditability of enterprises.

Third, illegal fund raising. After the State decided to set up the primary market, some entrepreneurs of NSEs took advantage of people’s speculative psychology to rush for the initial public offering of stocks on the primary market, and thus raised a significant amount of capital. According to estimates, the total amount is at least around 10 billion yuan.

Fourth, mutual guarantee. A few years ago, mutual guarantee was quite popular among NSEs. In view of significant risks, however, well-performing enterprises are no longer willing to bear joint responsibilities for other enterprises. At present, a new method emerged in practice, which is characterised by mutual guarantee plus debt-equity swap. With this method, the guaranteed enterprise uses its equity stock as counter-guarantee pledge to the guarantee enterprise. Once the guaranteed enterprise is unable to repay its debts and needs the guarantee enterprise to repay the debts for it, the bonds held by the guarantee enterprise of the guaranteed enterprise shall become stock rights. As this financing method is related to the development strategy of the guarantee enterprise, it is not yet popular in practice.

IV. Conclusions

IV.1 Financing Difficulty of the NES is Still a Practical Issue Requiring Attention.

Although all walks of life have attached great importance to the status and role of the NES in economic and social development, SEBs still face significantly difficult financing at present. This situation does not match the contributions made by the NES and its impact on future economic and social development. It should be observed with a clear mind that broadening the financing channel for the NES and actually solving their financing difficulty remain to be practical issues that require attention from the decision-making and management departments.

IV.2 Current Policy Measures Cannot Fundamentally Relieve Financing Difficulty of the NES.

Objectively speaking, relevant central government departments and local governments have made great efforts to solve the problem of financing difficulty of the NES. However, implementation results demonstrate that these measures are superficial and temporary, and have not fundamentally solved the problem of financing difficulty.

1. The measures are useful with limited effects as a whole.

Minsheng Banking Corporation (MBC) is the first joint-stock commercial bank in China financed by shares of non-state ownership enterprises. Its major task is to serve NSEs. Since its establishment, MBC has input over 60 percent of its credit capital in small and medium-sized as well as NSEs. However, by June 2000, total outstanding balances of deposits and loans were only 39.76 billion yuan and 24.36 billion yuan, respectively. They merely made up 0.33 percent and 0.26 percent of the total amounts of financial institutions in the same period. Even taking urban credit co-operatives into account, the proportions of deposits and loans were still as small as 6.2 percent and 5.7 percent respectively. Obviously, the problem of financing difficulty of numerous SEBs cannot be solved only by MBC and urban credit co-operatives.

Likewise, however, it is unrealistic to pin hope on large commercial banks. On the one hand, lending by large banks to SMEs will inevitably generate huge management expenses. On the other hand, along with the deepening of the management system reform of state banks and the transformation of their internal management system, capital risk reduction has become the major factor guiding business activities of banks. The particular measure adopted by banks is the widely-introduced "credit life-long responsibility system", which has made bank credit staff extremely prudent in making loans. In addition, in recent years, all large banks are undertaking restructuring and implementing a strategy concentrated on "two larges", namely, large cities and large enterprises. As a result, their previous lending to SMEs gradually shrinks and is even zero in some regions.

As mentioned above, although guarantee agencies have drawn general attention at present, their roles are extremely limited. In addition, as the problems of follow-up funds and risk guarantee remain, the guarantee agencies have to repay debts for the guaranteed, they will have difficulty to sustain and, therefore, have a dismal development prospect.

2. Administrative force is greater than market force in terms of operational mechanism.

In our research, we noticed that the currently policies and means are mainly adopted by administrative force with strong government characteristics. In some areas, as guarantee agencies are financed by governments at various levels, sometimes, lending has to be approved even by the district/township fiscal office, thus giving rise to a lot of trivial disputes. Similar problem exists in the operational system of venture investment. As venture investment companies are financed by governments, which dispatch representatives to manage the companies, it violates the objective rules of venture investment.

Undeniably, under the circumstances of extremely incomplete financial system and financing mechanism, it is a practical option for the government to solve the problem of financing difficulty of the NES by administrative means. Some NSEs will surely benefit substantially from either guarantee policies or venture investment activities. The problem is, however, the government has limited financial resources. It is impossible for the guarantee policy based on government fiscal revenue to become a generalised system of preference. This practice, therefore, will cause new inequality and generate new rent-seeking opportunities for government officials. In addition, capital allocation by the government will inevitably lead to low allocation efficiency because it is impossible for officials or quasi-officials to be as familiar as private investors with market and enterprises.

3. Policy components show the lack of strategic and systematic designs.

At present, local policies supporting the development of SMEs in general lack supporting measures and have serious operational problems. For example, the problems of taxation, follow-up capital infusion and risk reserves of guarantee agencies have not been solved. Guarantee agencies are widely dispersed and do not form into a system. Venture investment is but allocation of fiscal resources to establish funds and investment companies. The necessary before-event and after-event linkages for venture investment, such as the market fund-raising system for venture capital and the exiting system for venture investment, have not yet been established. The Company Law, the Securities Law and the Insurance Law are obsolete and there are many conflicts between policies and laws. Intermediary agencies that can provide effective services are far from enough. As many policies are not operational, they only remain in documents and have not been well implemented.

IV.3 Deepening Reform Is the Effective Way-out. Based on our research, we believe that to solve the problem of financing difficulty of the NES, our way of thinking needs to be changed. As reality shows, although the superficial cause of financing difficulty is the narrow financing channel, the deep-rooted reasons lie in the system and the mechanisms. Such problems cannot be solved only by issuing policies, they will be solved by deepening the financial system reform and accelerating institutional adjustment in a comprehensive way based on the overall situation of national economic and social development.

In our research, the problems that were most prominent and caused most concern mainly lie in the following areas: