ESTRATEGIAS DE PRODUCTO

At present, VTBs are restricted from taking deposits outside the region of their registered location. An Opinion of the CBRC clearly clarifies its attitude of forbidding VTBs’ cross-regional business from the aspect of controlling risk and maintaining local system stability, as well as keeping VTBs’ inclusive feature of serving the rural household and small enterprise.801 Under this Opinion, a VTB registered in County A is not allowed to take deposits or give loans to a resident living in nearby County B. It can only provide services to local residents living in County A. One consideration of this prohibition is to avoid VTBs giving up their local feature: if the cross-regional business is allowed, then there will be risks that

797 _{Minggui Zhang, '发展村镇银行难在何处' [What are the obstacles to village and township}

bank development?] [2011] Modern Financiers.

798 _Ibid. 799 _Ibid.

800 _{CBRC, 城市商业银行异地分支机构管理办法 [Measures for the Administration of Non}

Home-City Branches of City Commercial Banks ] (2006 No. 12).

801 _{CBRC, 关于加强村镇银行监管的意见 [Opinions of China Banking Regulatory Commission}

a VTB would use local residents’ deposits to serve individuals and enterprises outside its registered place to earn better profits. Local depositors’ access to loans, on the contrary, would be harmed. This condition that the regulator proposed to avoid, in fact, actually happened in the 1990s, when local RCCs were described as ‘pumping’ out local deposits to urban areas. Therefore, VTBs are prohibited from providing cross-regional loans and from taking deposits to avoid similar cases.

However, this prohibition would also constrain VTBs’ ability to take deposits and, more importantly, lead to the loss of its inclusive feature. Since a VTB is prohibited from providing loan and deposit services outside its registered region, the only way it could expand its market is to open a new branch. However, according to the CBRC, a VTB is not allowed to open a branch outside its registered region. It can only set up a branch in towns within its registered region, if the VTB is well operated and prudential supervision standards are met; for example, if a VTB is registered in County A, then it could open branches in towns B, C, D. In contrast, if a VTB is set up in town E, then it c annot expand its market since a township is the lowest level of the administrative regions in China. Other towns are parallel with its registered region, so it will not be able to expand the market. Therefore, VTBs would tend to register at county level in order to avoid such restrictions.

Ideally, local residents who live in towns and villages could still have access to the bank if there are branches in their town. However, at present, the majority of VTBs do not qualify to open branches, nor would they have enough capital to do so. The limitation on providing services to residents outside their registered location would cause VTBs to lose their feature of ‘village and township’, and serve local enterprises rather than low-income rural residents.

For example, the Commissioner of Ministry of Finance Guangdong Office worried about the deviation from VTBs’ original purpose in an official news article,802 which mentions that among the total of 16 VTBs operating in that province, only two had issued more than 40% of rural households with loans of

802

Guangdong Commissioner Office Ministry of Finance, ‘Stay Alert for Village and Township Bank’s Tendency’

<http://gd.mof.gov.cn/lanmudaohang/caizhengjiancha/201201/t20120109_ 621990.ht ml> accessed 2 March 2015.

the total loan amount.803 The article shows that the main customers of VTBs are actually small enterprises at county level rather than township and village residents.804 Moreover, those VTBs would usually require guarantees for personal loan products rather than base the loan on personal creditability. 805 The commissioner therefore suggested that VTBs set up at township level and, furthermore, richer regions with mature market competition should not be allowed to set up new VTBs.806

However, it should be noted that the restrictive rule of cross-regional businesses could not solve the problem; restricting VTBs from setting up at county level will also lead to an unwanted result, namely of reducing the firm’s sustainability, since a VTB set up in a town is not allowed to serve residents in nearby towns and can only serve the limited small market in subsidiary villages. If a VTB cannot grow to be self-sustainable and has to rely on its controlling bank, the percentage of loans to individual low- income customers would be further reduced. This is contrary to the CBRC’s purposes.

A recent change in this regulatory barrier is the pilot ‘municipal’ VTBs set up in selected provinces.807 According to the CBRC, VTBs are able to register in cities in the western provinces (except for the provincial capital city) and in under- developed cities in the middle part of the country, which has areas that are traditionally regarded as under-served when it comes to financial services. The headquarters of a VTB is allowed to be registered in municipal cities, with its branches located in the counties of the municipal city, so the whole municipal region is blanket-covered. Deposits taken by the headquarters shall be mainly used for the local branches’ loans, while deposits taken by branches shall be entirely used for local loans. The headquarters could provide RMB services, except issuing loans. This rule in general provides another way of solving the restrictive rule of prohibiting cross-regional business. However, if not properly regulated, the danger would be that VTBs would become another city commercial bank and not mainly serve local rural residents.

803 Ibid. 804 Ibid. 805 Ibid. 806 Ibid.

3.4. Summary

This chapter discussed the legal and regulatory arrangements of alternative access to credit for low-income customers in both the UK and China. Two kinds of firms are discussed: (i) mutuals, including credit unions in the UK and RMCs in China, and (ii) VTBs in China. Both are regarded as an alternative solution to the credit gap left by commercial banks. Therefore, how the law and regulations facilitate their growth is analysed in this chapter.

For the issue of financial exclusion in the respect of consumer credit, the establishment of mutuals or co-operatives is a useful way of enhancing people’s access to affordable credit. The member ownership structure of the firm gives mutuals more special benefits than corporates do, making it possible for low- income members who are usually ineligible to prove their creditability through the traditional manner of assessment in commercial banks. Mutuals are also suitable for maintaining long-term relationships between firms and members, and promote the development of the firms. In both the UK and China, the significance of a mutual-style credit firm is recognised by governments as one way to solve financial exclusion, since commercial banks are usually reluctant to provide services to low- income customers or in deprived remote areas. In fact, it appears that the main solution taken by both countries for financial exclusion is to set up new institutions that focus on the lower end of the market. Credit unions in the UK and RMCs in China are examples of the attempts made in this regard.

As those mutual firms are usually small in asset size, their capacity to serve more members’ credit needs is usually limited by firms’ available fund resources. For mutuals, available funds mainly include members’ deposits and external investments or grants. Therefore, ways to strengthen mutuals’ sustainability include two aspects: first, permitting the mutual serves multiple groups of people to enlarge its membership size, thus taking more deposits. This requires regulations to reduce the strict common bond or eligible membership rule. Second, mutuals may also need external investments or grants, especially in the setting-up stage. Whether statute and regulations could support mutuals in these two aspects is therefore essential. Furthermore, in respect of prudential regulation, the small

size of a firm decides that they shall be treated differently from large commercial banks; otherwise regulations may become another burden for mutuals.

Generally, the legal and regulatory environment for credit unions in the UK is appropriate for firms’ development. Through several legislative amendments, the rules of common bonds have now been relaxed for multiple groups, leaving enough space for UK credit unions’ future development. In respect of prudential regulations, small and large credit unions are also distinct in avoiding a rigid application of the rule regardless of the differences in size of the credit unions. In contrast, eligibility for membership rules of RMCs in China still have the most stringent status, which partly reflects the nascent stage of mutuals in the country. The prudential regulation for RMCs adopts the ‘one-size- fits-all’ approach and treats RMCs on the same level as commercial banks. However, before the licence issue of fake RMCs can be settled appropriately and RMCs be covered by the deposit insurance regime, it is unlikely that the CBRC would reduce current regulation standards to support industry growth. The prudential attitude of the CBRC is, however, a hindrance for any further developments in the industry.

Issues related to VTBs in China were also noted. As China’s banking regulator, the CBRC maintains the prudential attitude of setting up depository institutions : only commercial banks are allowed to ‘lead’ the process of setting up a VTB. However, owing to the regulatory requirement, only larger and medium banks and part of the smaller banks that score 2 or higher are eligible, while the former usually do not have enough incentive to do so, nor do regulations provide appropriate rewards for participating banks. After the VTB has been set up, its operation is further limited by regional restrictions. The effect of the restriction is, however, contrasted with the CBRC’s original purpose of maintaining VTBs’ inclusive feature. In fact, although being endowed with an inclusive orientation by the CBRC, the essence of a VTB is still that of a commercial bank or, in other words, a profit- maximizing corporate. This is essentially the distinction between VTBs and RMCs, as the latter are non-for-profit- maximizing firms.

In fact, it is inevitable for those alternative lenders who are set up within the mainstream to make a profit. Irrespective of whether it is a mutual or VTB, they all need to grow and expand to increase sustainability. Before the access problem

to credit for low- income residents is solved, the law and regulations shall give the sustainability of the firm priority. There are legal and regulatory barriers that could be removed to fulfil this aim. At the same time, it should be recognized that as these alternative community small lenders develop, they are inevitably going to include more affluent customers in their customer base, who are, in fact, the backbone of the firms’ sustainability. In order to facilitate firms to serve more low- income customers who are both risky and less profitable, the regulatory system shall not be ‘one size fits all’ to provide additional space and rewards for small firms operating in deprived communities, and if the regulation standard is distinguished by firm size, mature prudential regulation experiences are also essential to avoid potential liquidity problems. Regulations shall therefore maintain a balance between supporting firms’ growth and keeping firms stable.

Chapter 4: Responsible lending: Customer protection