The Strike on Economy (2): the Collapse of Trust

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So, how did the burst of bubble impact the financial system? 
The answer is: by destroying the trust system.
In order to solve the financial disaster of trust companies’ huge amount of investment in real estate, on August 18, 1995, the Hainan Provincial Government led the establishment of the Hainan Development bank，which is also called as the Haifa bank.




 The governor of the People's Bank of China Hainan Branch said that Hainan, which was in the process of large-scale development, still needs a lot of construction funds and local companies need better financing services.




 The Hainan Development Bank lives up to his expectations. At the end of 1996, its total assets issued was the US $ 8.63 billion, and 59% of its debts were paid off. 

 Sounds wonderful, right? It's a trap!
The method of achieving such high-speed development is mainly ultra-conventional high-interest deposits and interbank borrowing. The interest rate for deposits issued at the end of 1995 was 15%, compared to 22% in 1996. Stimulated by the provincial government's endorsement and high-interest rates, agencies and individuals are eager to issue deposits to the sea. Some deposit rates are as high as 25%.

However, with such high capital costs, the benefits could never cover the costs. Under the impact of the Asian financial crisis in 1997, many smaller credit cooperatives collapsed.

 In December 1997, 28 local credit cooperatives were merged into the Haifa bank. As the bank could not afford the high interest, hence announced the guarantee to pay back the principal and "legal interest" of the original depositors. The unit deposits were regarded as debts and were settled after the debts and debts were liquidated.




What really worsen the situation was that people were getting uproar. 
After the Spring Festival in 1998, many savers began to take out the principal and interest and transfer it to other banks and said that because of the lower interest, they no longer trust in the Haifa bank. 

 The anxious people finally rushed to Haifa’s branches to withdraw their money, the Haifa was facing the first bank run in China’s history since 1949. The Chinese government had to take over the situation and tried to supply cash to save it.




Depositors were so angry and desperate, that the 4 billion China Yuan of reloan could not fill the gap. On June 21, 1998, the State Council and the People's Bank of China decided to close the HaifaBank.




How is it now?
Since China has lacked specific regulations for the settlement of financial institutions, and the settlement work has so far been sluggish, Haifa's liquidation commitments have not been fully fulfilled. Many people are still waiting for their cashback in nearly 20 years.

 In sum, the failure of the housing market spread quickly to the financial system,  and the immature system suffered from the crisis.


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