Online Financing: Ponzi Scheme or Engine for Growth?

By Bill Lee

China’s 1.4 billion people are reportedly sitting on US$16 trillion of personal assets. The problem for the people is how to maximize gains from those assets, and for the government how to utilize that cash hoard for the economy. China’s ingenious answer: online financing, or, as it’s called in China, Internet finance.  

People want the highest returns on their investments, and with many individual investors stung by the rollercoaster ride of China’s stock markets, they are looking for other roads to riches. Online financing companies post offerings for private-sector SMEs looking for investment on the Internet. With only a smartphone, an individual can read information about the company, including the company’s credit history, and with only a few clicks, invest in it. The fin-tech companies promise returns of up to 30%.

For the government, wishing to rid China of the label as the “world’s factory,” online financing provides a way to channel much-needed capital to private-sector SMEs such as steel subcontractors, which have been hit by the glut of Chinese steel. Banks are normally supposed to function as conduits for providing capital to companies to grow the economy — the Lehman shock in America showed what happens when banks ignore that function and get greedy — but China’s banks have their hands full financing huge SOEs. It all seems an elegant solution for all.

The main pitfall of course is the Internet finance companies scamming their investors. Up to a third of these companies have reportedly received complaints, not the least of which involve the president of the company pulling up stumps and leaving town. Though not as big as the Bernie Madoff scandal, the Ezubao online finance company duped more than $7.5 billion from investors in a Ponzi scheme. Although these scandals are what always generate the headlines, they don’t give an accurate picture. It may have problems, but online financing has made China a venture capital superpower.

Photo: Andrew Erickson via Flickr

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