China: A long journey beckons: after the first year of e-financing era

Last Updated: 5 May 2015
Article by Roy Zhang

Some people believe that the e-financing era started in 2014, nevertheless the 2015 year signifies the arrival of spring for this industry. Indeed, there will be a great growth in the e-financing sphere this year.

After decades of development of the traditional financial industry in China, banking licenses have become increasingly scarce. Meanwhile interest rate liberalization in China is still in its initial stages. Therefore the environment is not conducive to the development of new generations of financial products. Financial regulators tend to impose excessive rules upon the industry as a result of the lack of investor protection as well as the lack of a class actions system. Some say that a registration system should be implemented and that a detailed information disclosure requirement instituted. Even if everything is clearly documented, once a party breaches a contract, how can be the other party achieve a remedy? Under the current regime, a lack of mandatory punitive measures leads to fairly low default cost. Additionally, the disclosure of false information will not necessarily result in severely unfavorable consequences. This is the general background and the reason why financial regulations are becoming increasingly tough.

Inspired by three landmark events

Even though strict financial regulations are enacted, people continue to pursue assets in the marketplace. What cannot be ignored is the huge demand for financial products from individuals and private enterprises, especially for small and medium enterprises as well as micro businesses. Several landmark events occurred last year offering market participants an insight into the demands and changes in the financial market, providing preconditions for the development of e-fi nancing including: a) huge demand in the market and b) financial regulations not necessarily "hindering" e-financing and the demand being satisfied by similar financial services. So what can we learn from those landmark events?

  1. Yu'e Bao

The creation and popularization of Yu'e Bao, an on-line investment fund, is the first landmark event enabling us to appreciate the changing market. Within half a year, it attracted a scale of investment exceeding two hundred billion RMB, which is inconceivable in the past. Nevertheless, another similar financial product would not necessarily make such a hit today. What we can learn from Yu'e Bao is that it appeared in the right place, at the right time and satisfied the market demand at that time.

  1. Virtual credit card

The second landmark event occurred when China CITIC Bank cooperated with Tencent and Alibaba to jointly issue virtual credit cards. This has had a huge impact on the traditional credit card business. Prior to this, UnionPay did plenty of groundwork to build a traditional credit card system, dedicated to achieving the goal of interconnection. We could find unified POS machines installed and utilized with the logo of UnionPay appearing on the counters of many signed up stores. It demonstrated that a high quality business environment had been established.

However, all of a sudden, internet companies are starting to cooperate with many stores in the same way, enabling many users to connect their credit card accounts to the payment system. The public began participating in the development of the fast payment system and discovered that it was an innovative product several years ago. While it has become standard nowadays, the fast payment system made a strong contribution to consumer market development. Although products like "Baitiao"(namely,"IOUs") are not called "virtual credit cards", they share similar functions. If we promote e-financing products and services which perform like credit cards and consumer finance in order to satisfy the financial demands of individual customers, these products are essentially the same. Accordingly they will revolutionize the current credit card system.

  1. Hongbao

Another landmark event is the "Hongbao"("lucky money") phenomenon. Using Hongbaos, people are able to make transactions conveniently via mobile phones, and plenty of business owners are aware of the social finance and social e-commerce being the development trends in the future. Wechat and Alipay provide a social and transaction platform not only for their members and consumers, but also for those who wish to utilize the mobile internet to promote their marketing plans. Numerous users are accustomed to making mobile payments on this platform. So this landmark event will clearly stimulate the development of the e-finance market.

The three events mentioned above deal with products which do not fall within traditional financial regulation covering the introduction of new products and risk management. This is understandable because traditional financiers always comply with established macroeconomic frameworks depending upon the classification of each financial product (such as investment banking, commercial banking and fund businesses). In any event, investors do not find it complicated because they are fully aware of the pay back they want as well as the risks they have to endure. E-financing attracts users, enabling them to make transactions conveniently and to purchase the financial products they want. This is a developing area of the market that we can see from these landmark events.

We can conclude two key points from those products. One concerns the payment system. It is either developed by ourselves individually then connected with other users' accounts, which is difficult for novices, or we can use services provided by UnionPay, Alipay or Wechat, which results in the creation of a public infrastructure. I find the latter one preferable. The second key point is that we should design our own products based on the environment and our strengths. We must figure out where our focus lies. For example, the financial systems of Alibaba are established on Taobao and Tmall, Tencent is based on Wechat and JD (Beijing Jingdong Century Trading Co., Ltd) on JD mall. The same principle applies to every web newcomer who has to decide whether its business is vertical e-commerce services or entertainment and media industry or something else. This involves a great deal of financial complexity, including the following three aspects. The first is the requirement of payment itself, the second being the cost of capital, i.e. transaction made today and payment completed tomorrow. The last aspect is the cost of credit, i.e. which party bears the cost? Financial products can be provided by dealing with a combination of the aspects above, on the other hand if one uses license holders, one can use the "channel services" (such as the channel between banks and trust companies or between banks and security companies) provided by licensed financial institutions. When e-financing products of licensed financial institutions are eventually presented to customers, they may have a complex underlying structure but they are easy to use.

The new market niche of licensed credit investigation services

The People's Bank of China issued eight licenses to authorise third-party credit investigation institutions in 2014. We can now see that these will open up another big market. Users will place more value on their credit records. Additionally all kinds of financial products may be developed based on these records. For example, some companies take advantage of "telemetry" technology to collect operational information about their trucks, including their departure point and destination. They can easily find out where those trucks leave from, how long they will stay, where they will refuel, even incidents of violating traffic regulations or accidents. What can we do with this information? A simple financial calculation can be made with this information to estimate how much a driver can make in a year. Based on this data, companies can decide whether they should lend money to drivers to buy a second truck, whether they should hire someone else to buy a second truck, doubling their business volume and increasing their efficiency. Despite a lapse in judgment sometimes, companies still know exactly how much a person can make in a year, how much they can lend to him and how long it will take him to pay back the loan through his business operation. This is similar some securitization products, where loans are issued based on cash flows.

I wish to share some of my reflections on the industry. First of all, the arrival and growth of the e-financing environment is of great significance. After all, what really matters is whether customers are willing to use your products and whether your products are userfriendly. Secondly, accounts and cash rule. Whoever controls more account information will attract more customers, and thus will have more access to information about transactions and cash. It is easier to deliver targeted advertisements, seal deals or develop new products based on this information because it is real and complete. Last but not least, companies must be innovative. If we look at traditional enterprises or even traditional internet companies, we can see that during their transformation process, what frustrates them the most is how to switch from traditional mechanisms to new ones. This is actually a very complicated process. However, the market has witnessed many successful cases of business transformation over the years and it goes without saying that there will be more in the future. We are exhilarated to see the huge potential for new market development, the dynamism of the e-financing market, and more importantly, people's enthusiasm about mobile and internet payment brought about by "Hongbao" craze.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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