China has seen a sharp rise in online investing in recent years, but as shadow banking defaults increase, many investors are seeing their life savings wiped out.

A spate of defaults in China’s shadow banking industry – particularly among peer-to-peer (P2P) lending platforms – is wiping out the wealth of China’s middle class, the Financial Times reported Thursday (behind paywall).

As part of its broader crackdown on debt and financial risk, Chinese authorities have been trying to rein in the country’s shadow banking industry, which has ballooned in recent years with the rise of peer-to-peer lending and wealth management platforms. As a result, investors are rushing to withdraw their funds, placing pressure on such lending platforms, many of which have questionable funding structures.

Rapid Growth

P2P lending has seen rapid growth in China, where large segments of the population – rural residents and smaller entrepreneurs in particular – lack access to consumer credit. At the same time, the country’s emerging middle class is awash with cash, and online investing offers them a chance to receive higher returns than offered by cash deposits.

The paper cited figures from a Moody’s report, which noted that 12 percent of China’s population, or 169 million people, have invested in wealth management products online, up from 66 million in 2016. Money under management by P2P platforms  also doubled during this period.

Widespread Fraud

Fraud in the P2P industry is widespread, but regulations to standardize the industry were introduced in 2016, following the collapse of Ezubao, once China’s largest P2P lending platform that turned out to be a ponzi scheme that defrauded 900,000 investors of almost 60 billion yuan (US$9 billion).

As a result of the regulations, the more problematic platforms are being weeded out. According to Moody’s, China’s shadow banking sector now totals about 70 percent of the country’s GDP, down from its peak of 87 percent at the end of 2016, while outstanding P2P loans currently stand at 800 billion yuan (US$116 billion), down from 1.2 trillion yuan in Q1 2019.