In tough times, China must act against personal bankruptcy
Last November, Chinese media reported that a 42-year-old restaurateur in central Henan Province – who made a name for himself distributing free meals to medical staff – died by suicide after severe flooding and news local COVID epidemic. -19 left his business mired in desperate debt.
That same month, a court in the southern mega-city of Shenzhen grabbed national headlines by approving a bankruptcy petition from a single mother and former owner of a small business. The court ruled that if the woman agreed to undergo an “observation period” in which all of her income, less a base amount to meet her daily needs, would be returned to her creditors. Its remaining debt would be discharged at the end of the three-year period.
The Shenzhen ruling was the first time a Chinese court has approved a request for personal debt liquidation. While not related to the Henan affair, it represented a brief ray of light for embattled Chinese debtors, giving them new hope – not only for potential financial relief, but also for stigma reduction. social.
If public reactions to the Shenzhen affair are any indication, however, there is still a long way to go before personal bankruptcy is widely accepted in China. Online, reports of the Shenzhen ruling have some jokingly questioning whether they still have to pay off their credit card debts. The popular response reflects both long-term institutional issues as well as cultural prejudices regarding personal bankruptcy. There are very few cases of legally sanctioned debt cancellation in Chinese history. Although the People’s Republic experimented with a corporate bankruptcy law from 1986 and then formalized it in 2007, the right to bankruptcy was never granted to natural persons.
Between the nationalization of industry in the early 1950s and the advent of “reform and openness” at the end of the 1970s, this was less of a problem. Since the economic reforms of the 1980s, however, the debts of many Chinese individuals and families have accumulated alongside their assets. Reforms in the non-state sector and in particular financial institutions have made lending more accessible to individuals, and people are saving less while increasing their investments, spending and debts. Leverage – investing with borrowed capital – has become common practice among entrepreneurs and shareholders, leaving them vulnerable to fluctuations in the stock and bond markets, while the end of social housing provided in the workplace associated with a booming real estate market and rising consumerism are crushing many ordinary Chinese people under a mountain of mortgage and credit card debt.
These problems have worsened over the past decade, as largely unregulated informal and digital financial services with low thresholds and high interest rates have flourished across the country. As the number of people struggling with insurmountable debt continued to rise, so did the frequency of debt-related tragedies: murders, suicides and organ sales.
Part of the problem is that Chinese legal and social standards have not kept pace with the country’s increasingly complex financial reality. Our current institutions are unable to effectively share and resolve the burden of personal debt. Although China has a corporate limited liability system in place to protect shareholders from corporate losses, in practice, financial institutions often require shareholders or controllers of companies to take joint responsibility for debt. of the company, so “limited liability” often only exists in name. As a result, bankrupt entrepreneurs can end up with astronomical debt when their businesses go bankrupt.
After the rise of informal financial practices, like usurious lending, led to chaos and began to threaten social stability and economic growth in the mid-2010s, the central government finally intervened. Yet the system, which endangers debtors and overprotects creditors, has not fundamentally changed. Insolvency caused by the failure of businesses and business investments is still widely viewed as a personal tragedy that must be taken on by an individual, rather than a societal problem that can be resolved through legal means.
In fact, the financial failures of many debtors have little to do with their own personal shortcomings. A combination of factors beyond their control, such as economic downturns, natural disasters or disease, can lead to massive debt accumulation. For example, coronavirus outbreaks and lockdowns have strained small businesses over the past two years, as have disasters like the Henan flooding. Although the Chinese government has put in place relief plans to help small business owners cover rent and taxes, businesses and individuals who are already in debt up to their necks need more variety. relief options, up to and including access to personal bankruptcy.
Over the past two decades, academics and legal practitioners have called for a national system of personal bankruptcy. In the absence of national legislation, some regions have started to test legal methods of reorganizing or liquidating personal debts. Since the end of 2018, courts in eastern Zhejiang province have heard more than 500 personal bankruptcy cases. Neighboring Jiangsu Province has designated “pilot courts” for personal bankruptcy claims, which heard a total of 170 cases. A similar pilot program has been set up in the northern town of Zibo. And in August 2020, Shenzhen used its unique legal status to promulgate city-wide personal bankruptcy regulations, including a set of court proceedings for handling bankruptcy cases.
However, these experiments all encountered institutional and cultural obstacles. Take Shenzhen, for example. Although the city theoretically allows people to file for bankruptcy, its rules only apply to residents of Shenzhen who have participated in the city’s social insurance program for at least three years. In other trial programs, the absence of formal legislation means that the scope of debt forgiveness is usually determined through negotiations between debtors and creditors. The fate of debtors therefore depends to a large extent on the generosity of creditors. Where there is a significant power imbalance between debtors and creditors – for example, when individual debtors are grappling with a dispute with large financial institutions – the creditors clearly have the upper hand in the negotiations. In other cases, creditors may decline to participate. And even if they get an interest waiver, debtors often still have to repay the full principal.
With personal bankruptcy law finally on the horizon, it is imperative that the Chinese legal community act quickly to test and improve any potential regulations in local lawsuits. This requires widening the scope of pending litigation, empowering courts to accept and hear personal bankruptcy cases more effectively, and promoting cooperation and mutual recognition of bankruptcy decisions in all regions. It is then up to the courts to ensure that the amount debtors are expected to repay is in line with their capacity, future income and expenses. Only then can a possible personal bankruptcy system offer a real “new beginning” to desperate debtors and their families – many of whom have been hit hard by the pandemic.
The problems facing debtors are both social and legal. Traditional norms requiring full repayment of all debts remain deeply rooted. Although it is increasingly recognized that some debtors are honest but unhappy or otherwise vulnerable, negative attitudes towards debt and debtors continue to be shaped and reinforced by pro-creditor policies and media coverage. In 2010, the Supreme People’s Court introduced a policy that prohibits parties who have not fulfilled their legal obligations, including the settlement of their debts, from participating in so-called high-level consumption such as traveling by plane or buying a Property. Anyone subject to these restrictions is added to a publicly available online list. News organizations, confusing people’s inability to repay their debts with malicious debt evasion, often reflexively refer to list members as laolai, or “deadbeats”. This reductive and moralizing language has reinforced the stigma attached to the debt and made life even more difficult for the honest but “unhappy” or “vulnerable” debtors of the country.
It should also be borne in mind that, unlike in the past, the majority of creditors today are financial institutions. In today’s regulatory environment, new technologies have given institutional creditors a significant advantage when it comes to anticipating and controlling risk, and they should take on an even greater degree of responsibility. Blindly defending the interests of creditors encourages irresponsible lending behavior, insulates them from risk and creates moral hazard. Not to mention that the same losses can be much more devastating when they befall individuals and families. They can sometimes amount to a matter of life and death.
The way we view debt reflects the way we view each other. The world will only get more uncertain in the future. Any of us could one day take on excessive debt and find ourselves in dire straits. Making personal bankruptcy accessible to the public does not allow debtors to get away with it. It simply ensures that, if and when we encounter problems, we still enjoy the right to dignity.
Translator: Lewis Wright; editors: Cai Yineng and Kilian O’Donnell; portrait painter: Wang Zhenhao.
(Header image: Aflo / People Visual)