Using a unique panel of fixed-site household survey dataset as well as historical bank
performance and documents, this paper reveals a significant—but seldom externally
recognized—reversal in China’s rural financial policy some time in the early 1990s. This reversal
undid much of the rural financial policy of the 1980s, which was quite liberal in its systematic
efforts to make credit available to the private sector, reform existing financial institutions, and
tacitly permit the operations of informal finance, with a clear goal to support rural households’
transition to nonfarm rural entrepreneurship. Two waves of rural household surveys, from 1986
to 1991 and from 1995 to 2002, reveal that rural households’ access to both formal and informal
loans was far more substantial in the 1980s than in the 1990s, so was the performance and
growth of financial institutions in rural areas as the bank performance data show. We examine
various possible endogenous economic reasons for the reversal, including the declining
profitability of township and village enterprises, entrepreneurship migration, and substitution of
informal financing. The empirical evidence, however, provides little support for these
assumptions, but exactly mirrors the exogenous political reasons that are unrelated to economic
issues yet bring about the policy changes.