In 1979, China opened its economy to the world. Accordingly, two substantial transitions have taken place in its economy, including a transformation from a centrally planned economy to a market-based economy, and a structural transformation from an agricultural base to a non-agricultural-based economy (Meyer and Nagarajan, 2001). At the same time, the rural financial system has undertaken a series of reforms during the last three decades. In general, these reforms can be divided into three stages: the preliminary experiments in the 1980s, the national financial reforms from 1994, and the pilot program from 2003 (Cheng, 2006: 26).
Reforms in the 1980s
The first stage of the economic reforms in the 1980s focused on the institutional rearrangement of the banking system, creating a two-tiered banking system. A central bank was created from the People’s Bank of China (PBOC) and four specialized banks (namely, Agricultural Bank of China (ABC), Industrial and Commercial Bank of China (ICBC), Construction Bank of China (CBC) and Bank of China (BOC)) were established, owned fully by the central government (Meyer and Nagarajan, 2001).
In the rural sector, after the dismantling of the collectives and the initiation of the household responsibility system, there was a rapid increase in agricultural production and income, which led to a transition from subsistence farming to commercialized production in the rural areas of China. A number of township and village enterprises (TVEs) emerged and engaged in non-farming production activities. The demand for credit from rural household, township and village enterprises surged during this period. In order to accommodate such change, the Chinese government facilitated the ABC and RCCs as major credit suppliers in rural areas (Meyer and Nagarajan, 2001: 241).
In particular, along with the re-establishment of the ABC in February 1979,4 which was responsible not only for various rural savings and agricultural loans, but also for rural industrial loans, loans for procuring agricultural products and by-products, and loans for the cooperative supply and distribution system (IFAD, 2001: 7), the control of the RCCs shifted from the PBOC to the ABC.5
From 1982 to the early1990s, the RCCs had undertaken a number of reforms, in pursuit of the following fundamental objectives, including (Cheng, 2006: 28–32):
1 The government aimed to restore the ‘three characters’ of the RCCs, including the mass character of organization, the democratic character of management and the flexible character of operation.
2 The RCCs were to be responsible for their profit and loss, while being independent to run their businesses. Specifically, the RCCs could in principle decide to whom the money should be lent, provided that they deposited the required reserves in the ABC. To reduce the intervention of the ABC in the RCCs, the government established Rural Credit Cooperative Unions (RCCUs) at the county level to coordinate the member RCCs (Cheng, 2006: 27).
However, the performance of the RCCs seemed not to achieve those goals. Citing Shang (1989), Cheng (2006: 27) pointed out that the reforms at this stage were ‘reportedly more nominal rather than real’. In particular, the reforms were specifically confusing regarding the full autonomy of the RCCs, with respect to the issue of establishing RCCUs at the county level and their unclear role in operation. Although by the end of 1984 around 1,136 counties had established RCCUs (Shang, 1989), the ABC continued to intervene in the operation of the RCCs. Moreover, the RCCs also suffered from some other complicated problems, such as constraints on the flow of funds, the surrender of a significant share of deposits to ABC and an unreasonable interest rate structure (at many times – the lending rates were even lower than the deposit rates). Consequently, the performance of the RCCs was very disappointing. It was estimated that in 1989 over 40 per cent of the RCCs in China were loss-making (Xu et al., 1994).
Despite these problems with the RCCs, they still experienced rapid financial growth during this period. For example, from 1978 to 1990, the total deposits of RCCs increased from RMB16.6 billion to RMB214.5 billion; and the total loans supplied by RCCs expanded from RMB4.5 billion to RMB141.3 billion (Cheng, 2006: 27, quoting Xu et al., 1994).
During the same period, the ABC also experienced rapid financial growth. Its outstanding loans increased from RMB168.8 billion in 1985 to RMB377.4 billion in the 1990s. However, similar to the performance of the RCCs, the ratio of non-performing loans (NPLs) of the ABC was recorded as 17.5 per cent (Xu et al., 1994: 31).
In addition, due to an incredible demand for credit from rural households during the 1980s, various types of informal financial institutions were rapidly emerging in rural areas as an alternative to formal financial institutions. In the late 1980s, private lending in rural China was estimated to be between about RMB40 billion and RMB60 billion. Specifically, one type of institution – rural cooperative foundations (RCFs) – which were internal financial institutions of rural collectives (Cheng et al., 2003) were rapidly expanding. The funds gathered by them were estimated at between RMB8 billion and RMB10 billion in 1990 (Xu et al., 1994: 4). However, they suffered from the lack of proper supervision and the inability to ensure the quality of their loans. Those shortcomings led to their eventual closure in 1996.
National financial reforms and rural finance reforms, 1994–2000
After the experimental reforms in the 1980s, in 1994 the Chinese government launched a further essential phase of financial reforms – national financial reforms, with an aim to achieve two major objectives (Cheng, 2006: 28–32):
1 Institutional building of financial institutions, i.e. building up a new financial system characterized by differentiated roles of financial institutions.6
2 Management of the non-performing loans (NPLs).
Starting with the separation of policy and commercial lending activities, the first objective of the reforms focused on the commercialization of four specialized banks. The measures, such as ‘the attempt to reduce government intervention, the removal of credit allocation, a narrowing of the scope of business, interest rate and entry deregulations, and a gradual tightening of accounting and prudential regulation’ (Shirai, 2001: 50), had all been conducted to facilitate this goal. Regarding the second objective, the government adopted techniques such as ‘recapitalization of wholly state-owned commercial banks (WSCBs), the disposal of NPLs held by WSCBs, and the merger and closure of proble...