The origin and subsiding of the loan dispute
This article takes a loan dispute in the Wenzhou Private Lending Service Center (hereinafter referred to as the “service center”) as an example to analyze the phenomenon of government intervention in market governance. The service center was an innovative institutional arrangement for “regulating and developing non-governmental financing” after the outbreak of a debt crisis in Wenzhou in 2011.Footnote 12 The organizational model of the service center is a combination of government leading and enterprise operation (Xiang and Zhang, 2014). The Wenzhou city government and the Lucheng district government set up the Wenzhou Private Lending Registration Service Co., Ltd., which was jointly funded by 14 members of the Lucheng District Federation of Industry and Commerce and eight natural persons. The service center does not engage in the private lending business. Instead, it offers a common platform to provide P2P financing information servicesFootnote 13 and other related supporting services for relevant agencies and organizations (such as a loan company, a notary office, and law firm). The service center aims to attract both lenders and borrowers by providing the services of information release, information consulting, and registration. The P2P financing information service agency and related supporting service agencies on the service center platform provide financing information, loan matching, asset evaluation, contract notarization, legal consultation, and other professional services to both lenders and borrowers.
Although the service center is set up by the local government to govern private lending transactions, the local government emphasizes that the main body of funding and operating the service center is private enterprises, and the government is only the rule maker and market regulator for the service center. Since its beginning, the service center always emphasizes that lenders and borrowers take their own risk,Footnote 14 and it even requires lenders to sign a statement agreeing to assume their own risk. This author found, however, that the local government was often involved in loan disputes in the actual operations of the service center. From June 2012 to August 2014, the author entered the service center four times and accumulated 4 months of observations. The author also collected considerable detailed information on the process of settling loan disputes by conducting in-depth interviews, a literature review, and other methods. The author paid especially close attention to the meaning which the parties of disputes and local governments placed on disputes and their respective actions. The following section shows a typical case of a loan dispute. In this case, the local government intervened when the principal of a loan was not due, and the dispute was quickly resolved after the government intervened.
Formal contract and risk warning
In September 2012, Guo Xinsheng, a Wenzhou public institution employee,Footnote 15 came to the service center to offer a loan. After a careful review, he chose an intermediary agency, Tengfei Economic Information Consulting Co., Ltd. (referred to as “Tengfei Company”) on the service center platform, to help him find borrowers.
The Tengfei Company soon matched the borrower Peng Jianguo with him. Peng was a business owner in Hangzhou and had real estate in Wenzhou as collateral. After an introduction, Guo decided to give Peng a 6-month loan of 1.5 million yuan, from September 29, 2012, to March 28, 2013, with a monthly interest rate of 1.35%. The guarantee was a secondary housing mortgage. The real estate evaluation price was 5.5 million yuan for the first mortgage, upon which the bank had loaned 3.3 million yuan; for the second mortgage, the real estate evaluation price was 7.2 million yuan, upon which Guo lent 1.5 million yuan.Footnote 16
On September 29, 2012, however, the borrower, Peng, was not in Wenzhou. Thus, his representative Peng Jianye signed a mortgage loan contract with Guo, and he also signed an information advisory service contract with the Tengfei Company. After notarization, the lenders remitted the money to the borrower, the borrower confirmed the payment, and they both paid a service fee to the Tengfei Company and registered with the service center.
Prior to signing a contract and registering lenders, borrowers, and the intermediary agency, the service center always reminds every lender of their risk and requires them to copy out a letter committing to assume their own risks. Before signing the contract, Guo signed a formal letter of risk warning.
Loan disputes and risk transformation
According to the agreement, the borrower needed to pay interest on the 28th of every month. Guo did not, however, receive any interest for the first month. Guo sensed the risk and quickly contacted the Tengfei Company to start off interest collection procedures. On November 12, 2012, the Tengfei Company issued a letter of attorney to the borrower to collect interest, but Peng replied that it was temporarily difficult for him to pay the interest. On November 19, 2012, accompanied by a lawyer and a salesman of the Tengfei Company, Guo went to Hangzhou to collect interest, but Peng could only dispose of the mortgage since he could not pay back the principal and the interest.
The Tengfei Company first proposed that both sides negotiate the disposal of the mortgage, but Guo and Peng could not reach a consensus on the property price. Soon, Guo learned that Peng already owed a large amount of debt in Hangzhou and other places and had been sued by creditors. In this case, buying Peng’s real estate was high risk because the real estate transfer would require writing off the mortgage and would take time before the removal of mortgages and the transfer of ownership. Since the borrower was in debt, the real estate would likely be seized by a non-local court while the mortgage was being written off for the complete transfer of ownership. This risk was uncontrollable; thus, almost no one dared to buy the real estate at that time.
This failure of negotiations—plus the fact that the mortgage could be seized by the court—made Guo feel his risk of loss too high. On the grounds of the Tengfei company’s early oversight and credit investigation, Guo demanded that the company share responsibility and risk, such as by jointly paying for the real estate. The Tengfei Company expressed its willingness to assist in the recovery of the loans but refused to share the risk, claiming that Guo could sue the company if he was not satisfied.
Guo was very dissatisfied. While continuing to ask the Tengfei company to solve his problem, he immediately decided to report the situation to the service center. On November 23, 2012, Guo filed a complaint at the service center. The service center, however, refused to get involved but instead required the Tengfei Company to coordinate and recommended enforcement by the courts, which caused Guo to feel as though his risks were even higher. As a result, he began to prepare both a legal battle and a petition. On November 28, 2012, Guo wrote many petition letters.
Facing the requirements from Guo and the Service Center, the Tengfei Company recommended Guo to try a second method, namely, to apply for a certificate of enforcement at a notary office and then apply for enforcement at court. On December 6, 2012, the legal advisor of the Tengfei Company went to the notary office to apply for the issuance of a certificate of enforcement. The notary office said, however, that because the principal of the loan was not due and only the interest had not been repaid; therefore, the certificate could not be issued where there was no court’s judgment. The next day, the legal advisor of the Tengfei Company, a notary official, and Guo went together to the court to discuss the application for the certificate of enforcement. The court’s executive chamber refused to accept their case because the borrower’s registered place of residence was in Hangzhou, not in Wenzhou.
The unsuccessful initiation of enforcement procedures worried Guo, and he consulted the feasibility of civil litigation. The feedback from the court was that it would take at least 2 years from prosecution to execution. At that time, however, housing prices were declining rapidly in Wenzhou. In addition, the bank as the first mortgagee had priority for repayment. Therefore, if Guo chose civil litigation, he could lose everything. The time constraint became a matter of life and death.
I am a retired worker, a patient who has undergone liver cancer surgery. My wife is also a retired worker, suffering from severe diabetes, high blood pressure, and heart disease. My daughter and son-in-law have been laid off from their company and have nowhere to live. Our entire family accumulated the 1.5 million yuan through a lifetime of hard work, our pensions, and layoff compensations. We hoped to earn some interest as income so that we could get better medical treatment and live a few years longer, and we wanted our children to have money to start up their new business... But now everything will come to nothing! We will face the tragic situation of ruin and death, while financial reform in Wenzhou also faces serious threats and challenges.
Because the estimated price for the mortgaged real property was far higher than the actual market price, and because the intermediary company did not do a good investigation in advance, this “deadbeat” seized the chance to deceive. A few months ago he was prosecuted and seized by individuals and local banks in Hangzhou. The amount of money involved was huge, and the problem was very serious. We are afraid that Wenzhou would be affected, so we sincerely request the government to help us quickly, to protect our rights and minimize our losses, to comfort our hearts, to prolong our lives, and to avoid this tragic situation! We hope that financial reform in Wenzhou can continue to develop healthily and achieve greater success! (Petition Letter, 20140822)
Faced with the hindrances of the legal channel, Guo formally started a petition. In December 2012, he repeatedly visited the district and municipal offices of financial services, as well as the municipal petition bureau, where he submitted a number of petition letters, stated the process of the loan dispute, the detailed reasons, the significant impact, and his urgent demand, and of course, he asked the government officials to solve the problem. Guo’s petition letter written to the secretary of the Municipal Communist Party Committee was particularly detailed and comprehensive. The above quote was part of the letter.
Government intervention and risk sharing
After Guo’s petition, the Lucheng District Bureau of Financial ManagementFootnote 17 issued a “rectification notice” to the Tengfei Company. The company agreed to rectify and fully assist in resolving the dispute but refused to share the potential loss. The District Office of Financial Services urged the company to seek a solution and suggested that Guo should try to solve the problem via private negotiations with the borrower or by legal means of enforcement. But they could not solve the problem in a short amount of time.
Guo’s petition to the municipal government attracted considerable attention from the government leaders. After receiving petition materials, the secretary of the Municipal Communist Party Committee instructed the relevant departments to quickly deal with the issue. On January 16, 2013, the Municipal Office of Financial Services held a coordination meeting for resolving loan disputes at the service center, which the financial offices, the courts, and the real property management authorities at the municipal and district levels attended, as well as the notary office, banks, the service center, and the Tengfei Company. The meeting agreed that if the borrower cooperated, the fastest solution would be a court mediation and then an application for enforcement. The problem of applying for enforcement, however, was that the principal was not due, making the matter controversial in law. If the lender, Guo, were to buy the mortgaged property, the housing management authority could shorten the transfer period to 3 days, but the risk of the property being seized still remained.
After this coordination meeting, Guo frequently went to the service center and the District Office of Finance Services to demand implementation. The financial office then urged the Tengfei Company to contact the borrower, Peng. On January 22, 2013, the finance office called on the parties to conduct an on-site negotiation. Peng agreed to come but insisted that his mortgaged property price must be more than 4.5 million yuan. Taking into account the risk of property seizure, Guo decided to pursue litigation, quick court mediation, and enforcement.
The lawsuit was put on the record by the court on January 28, 2013. Because the borrower would not dispose of his property at a price less than 4.5 million yuan, the court decided to open a session instead of going through mediation first. On February 26, the court delivered its verdict that the defendant Peng should repay the principal and interest within 3 days from the effective date of the judgment; otherwise, the property would be sold by force and the income would be paid to the plaintiff, Guo, after priority repayment to the bank. On February 28, both the plaintiff and the defendant signed the verdict. Guo applied for enforcement on March 19, and the court filed the case on March 25 to begin organizing an auction. On May 29, the property was successfully auctioned for 4.33 million yuan. The bank took priority and was compensated 3.5 million yuan, after which Guo received a repayment of 860,000 yuan. Peng thus still owed Guo 640,000 yuan and interest. On July 9, 2013, the court made a ruling for the enforcement.
The whole process of this dispute lasted only 6 months from occurrence to resolution. With government intervention, the court filing, trial, and enforcement were all shortened.
Why did the government intervene in the loan dispute?
According to my framework of risk transformation, the government intervention in this loan dispute included two aspects: the transformation of economic risk into political risk and the government’s response to the risk transformation. First, when the lending relationship was formed, the lender faced uncertainty about the loss of their principal and interest, and the economic risk became salient when the borrower was unable to repay and disposal of his collateral was difficult. When various solutions failed, the lender did not follow the rule of assuming his own risk but instead continued to appeal to government authorities for help. In addition, the lender linked the solution of the loan dispute with the success or failure of Wenzhou’s financial reform, transforming an economic risk into political risk. Second, facing this risk transformation, the government did not choose to remain neutral or withdraw, but instead intervened in the dispute and mobilized public resources to speed up the handling of the dispute. So why did the lender instigate risk transformation? Why did the government respond as such?
The structural sources of risk transformation
As previously described, risk transformation is affected by structural factors as well as transaction characteristics and individual attributes. In this case, I recognize that the loan amount, the lender’s risk-bearing capacity, the borrower’s repayment ability, the mortgage market price, and so on, all affected the risk transformation to varying degrees. However, in this article, I only focus on studying the structural sources of risk transformation.
Low completeness of the law
Studies have shown that the low completeness of the law is particularly evident in transition economies (Murrell 1996; Djankov and Murrell 2002). Although the Chinese Civil Law and the Chinese Contract Law regulate private loans, the laws suffer problems such as low completeness, vague language, uncertain enforcement, and a high cost of legal operation (Dixit 2004; Chen, 2008; Xiang and Zhang, 2014). Loan risks are to a large extent not easily covered by the law, and lenders thus have a high incentive to reduce their risks by other means.
In this case, the low completeness of the law first manifested itself in the fact that the court’s enforcement conditions for notarization and mortgage disposal were relatively vague. Under the condition that the principal of the loan was not due while the lender discovered the borrower’s indebtedness, there was considerable controversy in judicial theory and practice regarding whether the court can enforce the disposal of collateral. So, Guo felt difficult to protect his creditor’s rights through court enforcement when the borrower defaulted. Since there was little hope for enforcement, Guo had to turn to general civil litigation, but the long-running time and the low efficiency of the legal system could be an additional uncontrollable risk—another important manifestation of the low completeness of the law. Guo made a statement about this.
There was also notarization. Now we see it was totally useless, as notarization basically only offered psychological comfort, and indeed without the notary, we would be more vigilant... In normal procedures, it takes six months to accept a prosecution and half a year to enforce the law. When we went to the court to inquire, the court’s staff suggested that we do not sue because it would take a long time. And, after all, Peng owed the bank more than 3 million yuan, and his mortgaged house price was only enough to pay back the bank. We, of course, were not reconciled to this situation, no matter what, I had to appeal to the higher authorities for help, to ask the party secretary to help us ... we had lost so much. If I did not appeal, we would lose more. Meanwhile, the bank was not as worried as we were. (Interview, 20140810)
In fact, after the outbreak of the Wenzhou debt crisis in 2011, civil financial disputes increased sharply, and the local courts were overloaded, which showed the problem of inadequate judicial resources and the time cost of law enforcement. For example, in 2013, the average time for a trial of a financial case in the Lucheng court was 120.04 days, with complex cases that could take two years. It can be seen that the low completeness of the law was an important driving force for Guo to initiate risk transformation, while situational factors (the continued decline of the mortgage market price and the second mortgagee status) aggravated the possibility of risk transformation.
A close relationship between the government and market players
If the low completeness of the law is a kind of structural impetus for risk transformation, the characteristics of a mixed governance structure at the service center provided normative legitimacy for lenders to initiate risk transformation. Given its corporate nature, the service center carried out a risk warning to the lender who made a voluntary commitment to undertake the risk. However, the government background of the service center provided a legitimate rationale for the lender to initiate risk transformation. Guo emphasized this point.
We are just asking the government to help. We’re not saying it’s government’s responsibility. If the service center doesn’t have a government background, we wouldn’t seek their help. Besides, the government is responsible for not helping, and, after all, the government’s credibility counts. We used to work in public institutions and agencies, and we surely trust the government ... If the Tengfei company were not [doing business] in the service center, I would not get involved with it. I buy services from the company because it was under the supervision of the government. When I invested my money, I didn’t know it was a company, I thought it was a government agency while not using the government’s title. Anyway, I am not an expert in this respect. (Interview, 20140810)
It is not difficult to find that Guo selectively identified the role of the government in the market, that is, by recognizing the government’s role as a referee before the dispute and stressing its role as a player after the dispute. This is clearly embodied in several discourse strategies of the normative game (Binmore 2003; Liu, 2011). The first is the traceability strategy, namely, looking back at the premise of the contract’s formation. By emphasizing that the service center’s government background was the basis for signing the contract, the lender was trying to get rid of the contract’s constraints and highlight the inherent responsibility of the government to resolve the dispute. In particular, when there was a flaw in the company’s behavior, the lender traced the responsibility for regulating market access back to the government. The second was the fuzzy strategy, namely, obfuscating the enterprise nature of the service center. The lender denied the pure corporate nature of the service center and refused to acknowledge the relevant information which he was given. The mixed governance structure of the service center provided Guo with the strategic space and the basis of legitimacy for risk transformation. The third was a deterrence strategy. The lender was aware of the legitimacy limitations of the above two strategies. Therefore, on the one hand, he sought the help of the government and, on the other hand, he took a deterrent strategy to enable the government to perceive the potential political risks of withdrawal from negotiations so as to prompt the government to solve his problem. In fact, the local government was well aware of this, and the District Office of Financial Services had tried to change the service center’s mode of operations.
The Wenzhou Private Lending Service Center is a public service platform for private loans that do not take loan risk and is not responsible for the disposal of risky loans. Because intermediary financial agencies have entered the center, however, most lenders believe that this is a government-built platform and that the intermediary agencies on the platform are certified by the government. They mistakenly treat the intermediary agencies and the service center as one, and once lending risk appears, lenders frequently appeal to the service center or even appeal to the relevant government departments. The high risks of private lending will lead to high pressures for the government and the center to maintain social stability for a long time. (Source: “A Report on the Transformation of the Mode of Operations of the Wenzhou Private Lending Service Center”)
It can be seen that the government clearly perceived the political risk contained in this mixed governance structure. In that structure, the relationship between the government and the service center and the relationship between the service center and intermediary agencies caused the government to have a relationship with the intermediary agency. Therefore, when there was a flaw in the intermediary companies’ behavior, the lender was quick to initiate risk transformation, and the government faced the contradictory roles of referee and athlete.
The government’s low ability to withdraw from society
Studies have shown that under centralized regimes, the central government is highly sensitive to political stability (Cao, 2014a, 2014b). The top-down system of administrative responsibility requires the local governments to maintain local political and social stability (He and Wang 2012a; Cao and Luo, 2013). This kind of institutional environment is familiar to the populace, and it easily results in the people’s tactical expression of their interests (Tian, 2010; Lü, 2013). This leads to the potential transformation of economic risk into political risk. This point is clearly reflected in Guo’s description.
At first, they didn’t want us to petition. This was a matter of political accountability. If we petitioned, then the performance of the private lending service center would be questioned. The center found it inconvenient to directly tell us not to petition. They actually did not want us to bother the government. Anyway, we were going to petition to all of the local financial offices. When we went to the municipal government to make our petition, they didn't accept our letter. But I thought that no matter what I would leave them with the letter, so I left the petition letter there. Later on I heard that the secretary of Municipal Party Committee read the letter very seriously. Without the secretary’s attention, the process would have certainly been very slow. (Interview, 20140810)
More importantly, the form of state-society relations in China for thousands of years has profoundly shaped the people’s perception of the state and the government (Gan, 1998; Jiao, 2010). Under the influence of the structure of family-state isomorphism in Confucian cultural tradition and the “paternalistic” type of state authority (Qiu and Xu, 2004), government officials are regarded as “parental officials” by the public. The relationship between the government and the people is naturally defined by the society as the “officials-civilians” relationship (Wu 2007; He and Wang 2012b). Regarding this, Guo also stated the following.
We trust the government. Its purpose is to “serve the people.” My petition is mainly about telling the current difficulties of my family. My family worked so hard to earn this money. We just wanted to increase a little income and solve some small problems in our lives. We have all been pinching and scraping. Yet we were unexpectedly treated in this way — we did not mean to say who is not good, we can only say that we support our mayor and government... We are all very honest. (Interview, 20140810)
Combined with the content of the aforementioned petition letter, we find that the people’s discourse carries the cultural understanding and expectation of government responsibility. Although the populace may use a deterrent tactic to ask the government to solve its problems, it will still use plenty of words to state its difficulties and grievances and put the government in a position of a “life-saving” “parental official.” This conceptual understanding and habits of the populace have become a stable institutional environment that the local government faces in the process of economic and social governance. In this respect, the head in the district finance office said the following with a strong feeling.
If these disputes happened outside the service center, the people who suffered the loss would have still come to complain and ask the government for our help. No matter if it were related to the service center or not, they would still come to us. After all, these people knew that this was a risky investment, and in the end the benefit will be theirs, not the government’s... The municipal government also considered not assuming responsibility, but when people have disputes they always come to the government. When the common people have an issue, they always want to ask the government first. (Interview, 20140813)
For the populace, the law is not the only way to resolve disputes, and it has never even been the primary institutional approach. The populace is full of expectation regarding the government’s responsibility, and the boundary of the government’s responsibility is very vague. If the government is unwilling or unable to solve a problem, it might provoke public doubt or dissatisfaction. This constitutes the cultural root of risk transformation. Therefore, even if the service center does not have a government background, risk transformation could still occur. In my case, the service center happened to have a government background, which further increased the likelihood of risk transformation.
From neutralization to intervention: the logic of the government’s response
Facing risk transformation, why do the local governments not adhere to the rule of law but choose instead to intervene in disputes and mobilize resources to accelerate processing? According to my explanatory framework, there are two particularly important factors, namely, the intensity of potential political risk perceived by the government and the government’s sensitivity to political risk. In the following interview, a director of the financial office said that the government’s response to the situation was very contingent and would vary depending on the developing trend of risk transformation. It is in this sense that the rule of risk-sharing in practice was unsure (Zhang, 2003).
According to common sense, the government does not have to solve the problem, but due to the special regime of our country and the government background of the service center, the people will always ask for the government to solve their problems. It also depends on the petitioner’s degree of persistence. If they hold on consistently and persistently, the government has to solve the problem... No matter if the service center is involved or not, they petition to the government, just like people always petition to the government, even if they are involved in cases involving illegal fund-raising. In this situation, they may be unreasonable, but they nonetheless appeal to the government for help... In order to maintain social stability, when petitioners refrain from making a terrible scene we will guide them through the judicial path according to the normal regulations. As long as the people do not petition, the government will not intervene … Just like in this case, if the government refused to help him with coordination, he said he would demonstrate outside the municipal government, after which our leaders must have felt the pressure. (Interview, 20140727)
Thus, it can be seen that the logic of the government’s response is not only legal logic but also, to a larger extent, political logic. Under normal circumstances, the government usually chooses to be neutral. That is, it requires market players to resolve disputes through legal channels. Only when facing higher political risks does the government choose to intervene. In reality, the logic of the government’s response is well known by the public. The following interview shows that both the lenders themselves and the business staff of the Tengfei Company were well aware of this logic. By knowing it, even the company helped to push the developing trend for risk transformation.
The lender continued to make a big disturbance, so we suggested two ways to him. One was litigation, and the other was a petition to the service center. This is because these two ways have nothing to do with us, we [the Tengfei company] are not affiliated with the government, and the financial office can’t control us. Before [Guo] petitioning the municipal government, the court did not want to be involved and didn’t work on his case, and so we told the lender to write a petition letter to the municipal government, as they would certainly give him a solution. The party secretary informed two courts and requested them to resolve the dispute quickly... If he made a big disturbance, they would help him to solve the problem immediately. After all, they have to maintain social stability... The operation of the service center does not follow legal logic. (Interview, 20140804).
In summary, under the premise that the Chinese local governments are highly sensitive to political stability, the main factor that affects the local government’s choice to intervene in transaction disputes is the perceived intensity of political risk. In this case, Guo continued to petition the service center, the district government, and the municipal government. His description of a “family ruined” as the consequence and his use of the deterrence discourse about the failure of Wenzhou’s financial reform put pressure on the local government. At that time, the service center just opened and if the government did not resolve Guo’s loan dispute properly, it would likely instigate more intense discontent and petitions, with possible diffusion—a signal of bad political performance in financial reform (Spence 1973; Zhou, 2005). Thus, officials felt high political risk intensity and the possible great loss of political credits. In this context, the local government had no choice but to intervene and quickly solve this loan dispute.