ALARMED by a surge in defaults, fraud and investor anger, authorities are planning to wind down small and medium-sized peer-to-peer (P2P) lending platforms nationwide, sources with knowledge of the matter said.

Regulators may also order the largest platforms to cap outstanding loans at current levels and encourage them to reduce lending over time, one of the sources said.

The planned shakeout, which broadens a city-level purge in the P2P hub of Hangzhou, is the clearest sign yet that the authorities want to dramatically shrink the US$176 billion sector, which is part of the US$9 trillion shadow banking industry.

“This is a long overdue area for crackdown in China, because many of these platforms are simply zombie platforms that spend a lot of money to build up scale and many of them have simply failed,” said Martin Chorzempa, a research fellow at the Peterson Institute for International Economics in Washington.

Marketed as an innovative way to match savers with small borrowers, P2P platforms have had a rocky run globally. U.S.-based LendingClub Corp., battered by a corporate a governance scandal and investor withdrawals, has tumbled 77 percent since its 2014 listing in New York.

In China, P2P platforms comprise one of the riskiest and least regulated slices of the shadow banking system. The lack of oversight has allowed for world-beating growth, with outstanding P2P loans ballooning from almost nothing in 2012 to 1.22 trillion yuan (US$176 billion) in December 2017.

At first, the platforms worked mostly as intended. Savers enjoyed double-digit yields with few defaults, while small borrowers who lacked access to large banks got a new source of financing.

About 50 million Chinese investors signed up — more than the populations of New York state and Texas combined — as P2P platforms opened at a rate of three a day.

Problems began to emerge as China’s economy slowed and liquidity conditions tightened.

Not long after, policymakers started a campaign to clean up the country’s shadow banking system. The clampdown further restricted access to credit and fueled a wave of P2P platform closures.

China Banking and Insurance Regulatory Commission Chairman Guo Shuqing warned savers in June that they should be prepared to lose all their money in high-yield products.

More than 80 percent of China’s 6,200 P2P platforms have now either closed or encountered serious difficulties, due to factors ranging from take-the-money-and-run schemes to poor investments, according to Shanghai-based researcher Yingcan Group. The platforms had more than 1.5 million clients and 112 billion yuan of outstanding loans.

In Hangzhou, regulators have told some P2P platforms with less than 100 million yuan of outstanding loans to wind down and repay customers within 12 months, Bloomberg reported earlier this month.

Authorities now plan to issue similar orders to platforms in other cities and provinces, including Shanghai and Beijing, sources said.(SD-Agencies)