Intimidation, crackdowns blow the lid off Chinese rural banking scandal

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A massive scandal worth tens of billions of yuan is rocking the critical rural banking sector in China. Authorities blame a "criminal gang" for illegally siphoning off depositors’ money and preventing more than a hundred thousand Chinese from accessing their accounts for months.

Authorities in China’s central Henan province, located around 680 kilometres south of Beijing, finally issued a promise this week. Days after security officials violently broke up a protest of angry bank customers, Henan authorities said they would begin reimbursing account holders at the heart of one of China’s largest financial scandals in recent years.

The pledge, however, is unlikely to reassure hundreds of thousands of account holders denied access to their funds for months, the South China Morning Post reported on Wednesday.

For starters, the reimbursements only concern small account holders, whose bank deposits do not exceed 50,000 yuan (7,414 euros). For customers with larger deposits, their redressal time has been postponed to a hypothetical "near future".

More alarming though are the reports of harassment and intimidation that customers have faced for daring to publicly voice their grievances. "I received a call from the police urging me to express my 'concerns' in a legal manner and not to participate in demonstrations that could be considered riots," Wang, a customer of one of the banks, told the South China Morning Post.

Police and local Chinese Communist Party officials also visited other customers to warn them that protesting could cost them their jobs. A woman who was injured during a protest on Sunday told Reuters that men in black arrived at her house on Tuesday to try to intimidate her. Others said party officials were harassing their families and some were even going to their children’s schools to get the kids to tell their parents to back off.

Covid app turns ‘red’ – and sparks national outcry

But when the authorities began using China’s mandatory anti-Covid app for less than sanitary purposes, they crossed a threshold.

The Chinese Covid-19 prevention app displays a "green" status for those who are not sick and "red" for those infected with the virus as well as contact cases. Several customers of the troubled banks discovered that their status had suddenly turned “red”, severely restricting their ability to travel and preventing them from ... protesting.

"It was the misuse of the app, much commented on social networks for more than a month, that transformed this case, initially a regional issue, into a national scandal," explained a Chinese national who preferred to remain anonymous for security reasons.

In late June, Henan authorities sacked five officials suspected for tampering with the anti-Covid app.

By Sunday, July 10, the Henan bank customers case made the international news when roughly 1,000 bank customers gathered in front of the headquarters of the Bank of China subsidiary in Zhengzhou, capital of Henan province.

This was not the first time in recent months that protesters demanding access to their money had gathered in Zhengzhou. But on Sunday, the protest was violently broken up by plainclothes police charging at the demonstrators. Video clips of the clashes promptly went viral.

An extraordinary criminal case

Chinese authorities, obsessed with maintaining social order at all costs, urgently need to find a way out of this scandal, which is undermining the weakest link in the Chinese financial chain: village or township banks.

In April, customers of four banks – Yuzhou Xinminsheng Rural Bank, Shangcai Huimin Rural Bank, Zhecheng Huanghuai Rural Bank, and Guzhen Xinhuaihe Rural Bank – suddenly discovered they could no longer withdraw their money. "In fact, there are two more banks in the neighbouring province of Anhui that are also affected, but they have a small number of customers,” reported The Paper, an independent Chinese news site.

The official reason supplied at the time was that an update of the bank’s internal network had blocked account access from outside the network. But four months later, the explanation lacks credibility.

Things got more bizarre the next month when Chinese banking authorities announced that they had opened an investigation into several of the shareholders of the banks’ holding company, the Henan Xincaifu Group. To the distress of customers deprived of access to their savings, an extraordinary criminal case was opened.

After two months of investigation, the Chinese police "were able to confirm that a criminal gang, led by the suspect Lu Yi, was able to use the Henan Xincaifu Group since 2011 to control the banks in question and influence and manipulate the bank staff [to enrich themselves]", reported Ycai Global, a Chinese business news media outlet.

The charges against Lu Yi, who is currently on the run, suggest a massive fraud was premeditated and planned in great detail, according to Ycai Global.

The suspect allegedly obtained the operating rights for highway tolls in the Henan region in 2004. He then used the prospect of juicy profits from these tolls to convince a bank to grant him a large loan. The funds were used to set up a vast network of front companies that bought stakes in several financial institutions, including the Henan Xincaifu Group.

The criminal mastermind, according to the official explanation, then sought to recruit more and more customers for these four banks by promising interest rates far higher than those offered by similar financial institutions. "That's how these banks were able to get customers all over China, not just from local communities as is the norm for these village banks," said Xin Sun, an expert on the Chinese economy at King's College London.

In total, more than 100,000 Chinese people across the country have accounts in these banks, whereas similar small local financial institutions usually have only a few thousand clients at most.

Lu Yi and his accomplices would then have diverted part of the funds to finance their own investments, pushing these banks to the brink of bankruptcy. No one really knows the extent of this financial disaster. Several media outlets have estimated that 39 billion yuan (5.75 billion euros) have been deposited in the blocked bank accounts. “The Paper”, which was able to analyse some of the accounts, estimates the sums at stake "at a maximum of 20 billion yuan (2.95 billion euros)".

Banks tasked with ‘revitalising’ rural China

Henan authorities on Monday announced that they had arrested some of the suspects and were on the trail of the money to replenish the coffers. "The aim is clearly to make this story an isolated case linked to a purely criminal matter, whereas it is symptomatic of wider problems," said Xin.

The rural banks scandal illustrates the fragility of the network of local banks, which are important tools in Chinese President Xi Jinping's economic policy. "There are more than 1,600 of them all over the country, and they are supposed to facilitate the rural revitalisation programme deemed important by the government," he added.

Rural China is one of the great losers of the national economic miracle, prompting President Xi to vow in 2021 that he would do everything possible to close the gap between the countryside and the cities.

The rural banks have been given a very political mission without necessarily having the means to carry it out. "These are often institutions with weak governance rules, so they usually serve the interests of major shareholders and local authorities. It's usually this kind of illegitimate influence that leads to the problems we are seeing here," said Xin.

The London-based economist believes other local Chinese banks are also involved in the misuse of their clients' funds. But the irregularities have been on a smaller scale compared to the Henan banks.

As long as China was experiencing healthy economic growth, these manipulations went unnoticed since there was sufficient money to cover up the schemes of unscrupulous shareholders.

"The economic slowdown and the crisis in the real estate sector have accelerated the problems," explained Xin. The financial health of Chinese banks heavily depends on loans granted for real estate projects and their repayment. With the economy slowing down, the defaults have been multiplying.

The banks are then crushed by the increasing weight of bad debts. If they are in the hands of shareholders, as they are in Henan, the banks can quickly find they have completely empty coffers. That’s a similar fate facing small rural customers who thought their money was safe in the banks.

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