China plans to roll out financial sector reforms in the Shanghai special economic zone in the next three months and most will be implemented in a year, suggesting authorities are accelerating the pace of dismantling capital account controls.
A People’s Bank of China (PBOC) statement for the first time gave a timeline for launching deep reforms in the zone, adding they could then be duplicated in other similar zones around the country.
The statement came after the PBOC provided additional detail for its plans for financial liberalization in the Shanghai free trade zone (FTZ) in a separate document published on Monday.
However, cross referencing the two statements does not provide a specific deadline for any one reform. It also is not clear if major reforms, such as allowing the yuan to trade freely, would be included as part of “most” of the reforms.
Still, analysts suggested the statements point to more significant action than seen in the past, especially as they follow a meeting of the Communist Party leaders in November that set a bold agenda for nationwide reform in the years to come.
“Financial reform in the pilot zone is not in the past tense, nor the future tense, but the present tense,” PBOC Shanghai chief Zhang Xin said in a statement posted on the bank’s Shanghai branch website.
The announcements have boosted investor optimism - at least temporarily - that Beijing is serious about reforms in the FTZ.
Expectations had eased off the back of a lack of detailed announcements and timelines after the zone was launched in September. The absence of major leaders at the opening event also prompted speculation the zone lacked top-level support and had become the focus of a bureaucratic turf war, and in fact state media had repeatedly warned that implementation would take time.
This caused many foreign banks and other multinationals to hold off on plans to establish subsidiaries in the zone as they awaited more details.
Chinese domestic investor enthusiasm had also waned and they have steadily sold off shares in zone-related stocks in recent weeks - some of which had risen up to 300 percent. But Wednesday’s announcement saw tickers like Shanghai Waigaoqiao Free Trade Zone Development (600648.SS) rise by the maximum daily amount of 10 percent.
Because the zone risks setting off waves of arbitrage and destabilizing cross-border capital flows if it is not properly firewalled, many expected China to begin with other, less risky reform areas, like easing controls on trade in services, developing commodities futures, and reducing bureaucratic red tape.
Tracy Tian, China strategist at Bank of America Merrill Lynch, said that she was surprised regulators committed to a 12 month timetable, which she said would be “challenging.”
“Our observation is that when PBOC officials comment on (capital account opening) in speeches or articles, they tend to target 2015-2020 for national rollout.”
To address concerns about arbitrage - onshore companies finding ways to use the freedom of the zone to move funds offshore and vice versa - the central bank said it will use specially tagged bank accounts for companies and individuals in the zone. But how a company or individual will be defined as having a “presence” in the zone has yet to be published.
Dariusz Kowalcyzk, economist at Credit Agricole CIB in Hong Kong, said he was startled not only at how quickly the FTZ plans to implement reforms but also at the extent of the reforms.
He pointed out that plans to allow Chinese individuals employed by companies in the zone to freely invest in overseas assets, while at the same time opening the Chinese securities market to foreign investors in the zone, would qualify as dramatic changes impacting capital flows.
“If these are implemented in the first three months that would be shocking,” he said.
Many Chinese economists have publicly warned against opening the capital account before distortions to the domestic economy - especially interest rate controls - are eliminated.
Even many executives at foreign multinationals have said that opening the capital account is not a major priority for their companies at present, although Western governments have called for Beijing to allow the free movement of capital for years.
“Capital account reform ... is not on my priority list,” said Michelle Liu, chief financial officer at German chemical maker Lanxess AG (LXSG.DE), speaking at a conference in Shanghai on Nov 27.
“In terms of yuan internationalization, I would wish the general rules be clarified; I mostly want rules to be more transparent and stable.”
Ryan Hershberger, Asia Pacific treasurer for Ford Motor Co (F.N), speaking at the same conference, said his priority was domestic capital market liberalization to reduce dependence on bank lending.
The apparent tempo of reform in the FTZ is consistent with other moves by China to promote the use of its currency in global trade, including seeding offshore yuan centers in London, Paris and Singapore and allowing banks and companies to freely move the yuan across its borders for trade-related services.
While this may not be a priority for foreign treasurers, it serves other policy goals, in particular reducing foreign exchange risk for Chinese exporters and decreasing the need for China to add to its already massive foreign exchange reserves.
China’s yuan overtook the euro in October to become the second-most used currency in trade finance, data from global transaction services organization SWIFT showed on Tuesday.
China’s share in various markets has also increased, particularly in Asia. For example, China now takes a quarter of New Zealand’s entire volume of merchandise exports, compared to a 5 percent five years ago and it is the biggest foreign direct investor in Sri Lanka.
“The size of the Chinese buying also means that the ability of the buyers to demand that payment be accepted in the yuan rather than U.S. dollars is increasing, and the product seller has needed to accommodate that change and put in place local currency facilities for product payment,” said Sean Keane, a director of Triple T Consulting and formerly a markets trader at Credit Suisse.
China now conducts nearly a fifth of its trade with the world in its own currency compared with about 1 percent at the start of 2009. That share is expected to rise to as much as a third in the next couple of years, various estimates suggest.
It has also whetted demand for Chinese assets, with the Chinese currency flirting with a record high, yuan deposits at Hong Kong banks swelling and signs of growing foreign demand for offshore assets, particularly Chinese stocks listed in Hong Kong. (Reuters)