One concrete — and growing — example of the shadow banking system is the Chinese "pawn-shop" industry, who have $43B in outstanding loans, mostly made to business-owners for working capital, and largely secured by real-estate holdings. These are essentially payday loans for businesses, and come with exorbitant interest rates.
While $43B is a drop in the bucket of China's shadow banking sector, which is estimated to comprise $9T in transactions, the pawn industry is growing like crazy, possibly as a result of state crackdowns on other forms of shadow finance. The industry has doubled in size since 2010, and the average loan is about $26K — meaning that these "pawn brokers" have issued loans to millions of borrowers.
The pawn brokers themselves are borrowing from mainstream financial institutions, creating a hard-to-quantify, largely invisible source of systemic risk to the Chinese banking system. The state regulators are expected to publish new, stricter guidelines for this lending, and for insurance underwriting of pawn brokers.
My guess is that this will only create new shadow finance firms. China's growth has been fueled by easy credit (and stock bubbles) and the alternative to shadow finance is default, and people will go to extraordinary lengths to avoid defaulting.
A typical loan in Shanghai comes with an interest rate of about 2 percent a month, or 24 percent annually, compared with the benchmark one-year lending rate of 4.35 percent. Pawn shops will typically lend up to 40 percent of the value of an apartment pledged as collateral, renewing the loan every six months.
A recent court case in Beijing showed how large such sums can get. The dispute involved a three-month, 4.35 million yuan ($648,000) property-backed loan with a 30 percent annualized interest rate. The borrower ultimately defaulted.
China Scrutinizes $43 Billion Pawn-Shop Lending Boom [Bloomberg News]