ROSCAs in China: A Useful Compliment to Formal Financial Markets
In recent articles, we have described how Trusted Lending Circles known as hui are used throughout China, and how those same hui are popular among the Chinese immigrant community in America. But using these hui doesn’t mean rejecting the formal financial system. In fact, a 2006 research paper from the University of Wisconsin shows that in China, hui and other informal lending circle practices are used to complement formal financial markets.
The paper focuses on huis in Wenzhou, a city in Southeastern China long famed as a financial center. It refers to huis as ROSCAs, an acronym standing for Rotating Savings and Credit Association, and notes that participants in these lending structures “reported borrowing from the formal credit market to fulfill their [hui] obligations and saving their extra [hui] winnings to the formal credit market.” In other words, Chinese people in Wenzhou would both borrow money from a traditional bank to participate in a hui, and would save their earnings from a hui into a traditional bank to earn additional interest. The paper challenges ideas from previous research which state that ROSCAs like hui are only used by those who do not have access to the traditional banking system.
The paper goes on to develop a model for participation in both huis and in the traditional banking system, and uses the model to conclude that the hui allows participants an additional way to share risks and income shocks among a community. As the paper puts it, “while the formal credit market allows individuals to smooth their intertemporal income risks by borrowing and saving, [hui] provides an additional instrument for its participants to share contemporaneous income shocks amongst them. […] In ths model [hui] provides insurance to its participants even in the presence of the formal credit market.”
As the example of the hui from China shows, even with our highly developed financial markets and banking system, there is still a role for Trusted Lending Circles in mitigating risks and income shocks.
