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The lack of enforcement on defaulted loans in China presents banks with incredible hurdles in collecting collateral. The economic times have not been the best in Qingdao,the Chinese trading hub in the country’s northeast and this is further complicating an already difficult task.

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The Economist reports companies are currently being investigated for defrauding banks by promising their aluminum and copper holdings to multiple banks several times. Metal sitting in Qingdao warehouses are being claimed by multiple holders. (Image: Qingdao, China)

Regulators in China have attempted to limit credit extended to metal traders as measure to ward off hasty, shoddy construction. However, traders have found that banks have been willing to provide them with credit to buy metal, which they would sell a portion of and then resell it and use the proceeds to invest in high-yield shadow bank products. The gap between the investment returns and funding costs can reach ten percentage points. Then, traders obtain credit from other institutions for the same metal to increase their returns. According to one Chinese newspaper, the 21st Century Business Herald, receipts tied to the Qingdao metal had been issued ten times.

By Goldman Sachs’ estimation, commodity-backed deals may account for as much as $160 billion  of China’s short-term foreign-exchange borrowing, or roughly 30%. Though most of that is not believed to be at risk, fraud such as that in Qingdao is common at China’s financial fringes.

To read the original article in the Economist.