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SAFE News
  • Index number:
    000014453-2019-0162
  • Dispatch date:
    2010-07-02
  • Publish organization:
    State Administration of Foreign Exchange
  • Exchange Reference number:
  • Name:
    FAQs on Foreign Exchange Management Policies(1)
FAQs on Foreign Exchange Management Policies(1)

Editors Note: As an important part of foreign-related economic and financial activities, foreign exchange management has always been in the spotlight. The State Administration of Foreign Exchange (SAFE), in an attempt to communicate with the public, increase the transparency of policies and management, and facilitate and enhance public understanding of foreign exchange management, has extensively surveyed and collected issues of common concern in the media and among the public  and has compiled a list of frequently-asked questions on foreign exchange management policies. These questions will be answered in succession in future issues for public discussion and reference.

 

Q1: How did Chinas foreign exchange reserve assets come into existence? Can these assets be allocated for free?

A: Foreign exchange is bought and sold by businesses and individuals through the commercial banks. If such foreign exchange is sold by commercial banks on the interbank market and bought by the Peoples Bank of China (PBOC), it becomes part of the foreign exchange reserves. When the PBOC buys foreign exchange, it pays the equivalent amount in RMB to the holder of the foreign exchange. There are three main channels from which foreign exchange flows:

The first is businesses. When companies provide goods or services to foreign customers or accept foreign investment, they are paid in foreign exchange, which can then be converted into RMB in commercial banks before it is used in China. During the exchange settlement, the companies sell the foreign exchange to the commercial banks in exchange for an equivalent amount of RMB, thereby converting their foreign currency assets into RMB assets at the current exchange rate. The second channel is individuals, who sell their foreign exchange to the commercial banks in exchange for an equivalent amount of RMB. The third is commercial banks. After buying foreign exchange from businesses and individuals, the commercial banks, as required according to the foreign exchange asset liability allocation, will resell the foreign exchange to businesses and individuals in various business outlets and will sell the remaining foreign exchange to the PBOC in exchange for an equivalent amount of RMB. Taken as a whole, during the formation of the foreign exchange reserves, businesses, individuals, and banks are not handing over their foreign exchange to the state without compensation; instead, they are selling their foreign exchange to the state in exchange for an equivalent amount of RMB. This is completely different from taxation and fiscal revenue.

It should be emphasized that all these transactions are conducted in an equivalent and voluntary manner. The economic interests of the banks, businesses, and individuals are realized when their foreign exchange is converted into RMB and the PBOC acquires this foreign exchange by paying the corresponding amount in RMB. The formation of foreign exchange assets comes with a cost; therefore, they cannot be allocated for free.

 

Q2: How can foreign exchange reserves support the development of the domestic economy?

A: Foreign exchange reserves play an important role in the development of Chinas domestic economy because, first of all, an abundant amount of foreign exchange reserves is conducive to safeguarding Chinas economic and financial security. In  recent years, we have witnessed the benefits of keeping a large amount of foreign exchange reserves, in terms of maintaining the capacity for international payments, guarding against financial risks, upholding national economic and financial security, and robustly supporting the healthy and stable development of our national economy. After the outbreak of the recent international financial crisis, foreign exchange reserves played a prominent role in cushioning the blow of the external disturbances. Second, sufficient foreign exchange reserves can facilitate foreign-related economic activities of businesses. Only when there are sufficient foreign exchange reserves can enterprise demands for the use and purchase foreign exchange be fulfilled. If a company wants to invest in a foreign country, as long as the company is economically viable it can make the investment after purchasing foreign exchange with RMB. In this sense, the foreign exchange reserves can guarantee abundant funding for the going global initiatives of Chinese enterprises. Similarly, companies are given guarantees and support when they have to pay for foreign goods or debts. Third, the operating profits from foreign exchange reserves can increase expenditures for the peoples livelihood. The responsibility of the foreign exchange management departments is to ensure, in addition to risk management, maintenance of the value of the assets and an increment in the foreign exchange reserves. The operating profits of foreign exchange reserves are incorporated into the overall account of the PBOC, as part of the net profits of the central bank that will be fully turned over to the state treasury. This will increase the availability of funds used to improve the peoples livelihood, which in effect will constitute a boost to national welfare.

In discussions of how foreign exchange reserves can support the development of the domestic economy, two issues need to be clarified. First, foreign exchange reserves cannot be used without compensation. Unlike fiscal funds, foreign exchange reserves are created when the PBOC purchases foreign exchange with RMB on the domestic or international foreign exchange markets and the reserves are closely related to the currency issuances and RMB liabilities of the PBOC. If foreign exchange reserves were to be allocated for free use, the balance sheet of the PBOC would be affected, generating inflationary pressures and threatening economic and financial stability. The second issue is that foreign exchange reserves consist of foreign exchange, which is mainly used for foreign payments. For the foreign exchange reserves to be used domestically, they have to be reconverted into RMB, which will require that more currency is issued, thus aggravating the surplus of domestic liquidity.

 

Q3: What is the appropriate scale for Chinas foreign exchange reserves?

A: Too much foreign exchange reserves can be bad. We are not seeking to build up large volume of foreign exchange reserves nor a long-term surplus in our international balance of payments. Chinas current account and capital account have maintained a multi-year surplus, and the growth of our foreign exchange reserves is the objective result of the twin surplusin the international balance of payments, reflecting the long-term stable growth of the Chinese economy. In fact, this is determined by the current stage and characteristics of Chinas economic development.

Our abundant foreign exchange reserves can ensure a stable financial environment. As a large developing country, we need to maintain a certain scale of foreign exchange reserves, even for what has traditionally been considered moderate. In addition, maintaining sufficient foreign exchange reserves can also boost our confidence. As has been amply proved during the recent international financial crisis, a sufficient amount of foreign exchange reserves can put us in a better position to effectively fend off future crises.

In terms of aggregate foreign exchange assets, in a broad sense, at year-end 2009, China held USD 3.46 trillion in foreign financial assets, far lower than the developed countries in North America and Europe. The main problem at present is that most of Chinas foreign exchange assets are controlled by the government, leaving only a small proportion in private hands. Specifically, foreign exchange reserves held by the Chinese government account for two-thirds of all foreign assets in China, compared with only one-sixth in Japan. Therefore, we encourage businesses and individuals to hold and invest in foreign exchange so as to diversify the mix and to distribute foreign exchange within the private sector. This, of course, takes time. With the development of our national economy and the increase in income, enterprises and individuals will have greater demands for diversification of asset allocations. If more foreign exchange investment channels and products are provided for the public to reap concrete benefits from the foreign exchange, then the foreign exchange pressures on the government will be greatly relieved.

 

Q4: What currencies are included in Chinas foreign exchange reserves? How are they structured?

A: Chinas foreign exchange reserves include the major currencies, for instance the US dollar, the euro, and the Japanese yen, as well as the currencies of some emerging economies. This is a generally loose composition of currency.

The currency composition of the foreign exchange reserves is designed to facilitate Chinas foreign-related economic activities. It takes into consideration Chinas foreign payment structure that encompasses foreign trade, foreign debt, and direct investment, as well as the currency structure of global foreign exchange reserves, so that the risks can be diversified against dynamic developments of various currencies and so that demands for foreign payments and asset allocations can be better fulfilled.

The currency composition does not remain static. It is dynamically adjusted and optimized to respond to market volume, liquidity, the risk-return characteristics and development trends of the currencies, and changes in the economies and markets, as well as in response to investment demands.

 

Q5: In the operation and management of the foreign exchange reserves, how can we ensure the openness and transparency of market information and compliance with investment and operations rules??

A: At present, the foreign exchange reserves of China follow the information disclosure requirements of the IMFs General Data Dissemination System (GDDS), which is the common practice in most countries. In recent years, efforts have been made to enhance the transparency of information on the foreign exchange reserves. For example, the Overview of Chinas Foreign Exchange Administration was issued in 2009, in which one entire chapter is devoted to presenting a relatively comprehensive introduction to the operations and management of the foreign exchange reserves. In addition, when the 2009 Balance of Payments Statement was formulated and published, the statistical method for the foreign exchange reserve assets was further improved to increase transparency.

This being said, the increase in information transparency on the foreign exchange reserves should be carried out in a prudent and measured manner. As the large scale of Chinas foreign exchange reserves lends significant weight to Chinas position in international financial markets, any information disclosed about investments might give rise to market turbulence and cripple our investment activities. Most countries choose to be very careful when disclosing information related to foreign exchange reserves. Specific transactions are generally not disclosed to the public and are not required to be disclosed by the data dissemination standards of the relevant international organizations.

To ensure the safety, liquidity, value maintenance, and increment in our foreign exchange reserves, we have established a comprehensive set of investment decision-making processes and various risk management and internal control systems, which have been developed to guarantee appropriate and effective progress in reserve operations and management. Reserve operations are regularly subject to audits by the relevant departments. Furthermore, any comments and suggestions from different sectors are highly valued, investigated in a timely and in-depth manner, and kept as reference for the operation and management of the foreign exchange reserves.

(To be continued)





The English translation may only be used as a reference. In case a different interpretation of the translated information contained in this website arises, the original Chinese shall prevail.

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