Tightened policies

Xinhua News Agency recently reported on a survey of 2,835 SMEs in Zhejiang province done late last year that found almost all of them had had difficulty getting loans. (The report did not reveal who conducted the study.)

About 15 percent had seen applications to commercial banks either rejected or "downsized", it said. And for those who did get loans, 86 percent said there were "additional conditions", such as a requirement to buy financial products or pay high consulting and service fees, which pushed up the cost.

Ultimately, the findings in the Xinhua report showed companies are being pushed into the arms of private lenders, who offer fewer rules but higher interest.

The Supreme People's Court deems private lending illegal when the interest rate is four times higher than that of a commercial bank. Yet, while the current average is from 6 to 7 percent a year, some underground banks are lending at an annual rate of up to 90 percent.

According to the survey of Zhejiang businesses, roughly 9 percent of respondents said they "frequently" borrow from private lenders to ensure cash flow, with 47 percent doing it "occasionally".

The most recent data from China's central bank also supports this theory. It stated that private lenders had loaned 3.38 trillion yuan ($536 billion) last year by May.

One of Zhejiang's most vibrant industrial hubs is Wenzhou, where economists say underground banks have become a lifeline for small businesses.

Despite a robust economy and a large collection of nouveau riche, the city's largely light industry relies heavily on labor, and therefore is often passed over for loans by official financial institutions.

"In Wenzhou, 90 percent of enterprises need private lending to get their production lines running. It's high time to legalize private lending," said Zhou Dewen, director of the Wenzhou Small and Medium-sized Enterprises Development Association. "It's not that businesspeople prefer private lending to (commercial) bank loans, but they have little option."