China and Capital Outflow Reform
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China and Capital Outflow Reform

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There’s a key reason real estate is hot in China–it’s one of the few investment options available to Chinese citizens. The stock market is super volatile, interest rates on savings accounts lag behind inflation, and there are significant overseas investment restrictions. Regarding the latter, citizens are allowed to send $50,000 a year out of China for “current account transactions” such as tourism, but not for “capital account transactions” like most types of investment. There are several investment products allowed, including foreign currency-denominated financial products issued by foreign commercial banks and the gold trade, according to WantChinaTimes, but they are limited. 

However, the Wall Street Journal estimates that from September 2011 to September 2012, $255 billion left China–3% of China’s economic output for that period.   If Chinese want to invest overseas, there are a number of ways to do it. One very popular method is to set up a corporation to channel funds abroad, though corporate income taxes are levied.  There are also a spate of quasi-legal methods, such as using “underground banks” (which are straight-up illegal), and other methods detailed in Quartz including: exchanging gambling chips in Macau; getting foreign currency to pay fake foreign invoices; and buying art and selling it for foreign currency. The WSJ comments that a cottage industry has developed to get money out of the country, including money-transfer agents and private jets, and adds other money-moving methods such as corporate bank transfers that include private money and private funds rolled into export and import transactions. 

There has been an effort on the part of the government to expand investment opportunities.  In 2006, the central government launched the QDII (Qualified Domestic Institutional Investor) program, which allowed citizens to buy securities in overseas market, but via asset managers and funds.  In 2007, the “through-train” program provided an opportunity for citizens to invest in Hong Kong stocks, but was ended in 2010, in favor of the QDII program, according to the State Administration of Foreign Exchange (SAFE), and also over fears that it would hurt the mainland stock markets.  The QDII program was expanded in 2008 to allow investment in U.S. stocks.

On a less encouraging note, a pilot investment program launched last year in Wenzhou and Tianjin that allowed for direct overseas investment lasted just a short time. The pilot program in Wenzhou permitted $200 million of investments, albeit with such restrictions as no investment in property, stocks, or in any countries without diplomatic ties to China. SAFE allowed the program for just 2 weeks, after which it was cancelled, potentially because of inter-agency power conflicts, according to some analysts.

Last April, SAFE commented that it would open more channels for capital outflows and allow for increased overseas investment.

This spring, speculation was rife on the topic of the QDII2 program, which would allow for direct overseas investment, but for now, will likely be limited to allowing investors to participate in the Hong Kong stock market, according to The South China Morning Post. In a January 2013 work report, the People’s Bank of China stated that the QDII2 initiative is a “major goal” for 2013. 

However, the enthusiasm about QDII2 is measured–analysts believe that it would have a limited impact due to the length of time it would take to develop and the fact that the investors the program is trying to attract are most likely already invested in the Hong Kong market, again according to SCMP  Analysts also cited the brief tenure of the “through train” program as a reason for caution.

Capital outflow reforms have thus come in fits and starts, but the overall trend is certainly toward a more open system, which is fitting, considering that capital outflows occur anyway through semi-legal and illegal means.  This area is something to watch as the new leadership becomes more comfortable and more able to effect policy changes, particularly since Xi Jinping has a reputation for pro-market liberalization.  What happens in this arena will significantly impact other areas such as the currency and the balance of international payments.

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