| The Way Forward for Reform and Opening up of Foreign Exchange Administration
Yi Gang, PBC Deputy Governor and SAFE Administrator
China’s economic development over the past 36 years has been miraculous. The key to this miracle is reform and opening up. Through reforms, China has built a financial system that is fit for the socialist market economy and improved the financial industry's capabilities to allocate resources and serve the real economy. Through opening up, China has further liberalized its financial industry, both to the inside and the outside, and optimized the industry's capability to allocate resources both horizontally and vertically. Reform and opening up are the two wheels that drive China's economic development. With the deepening of the reform of foreign exchange administration in recent years, we have focused on boosting the "five shifts" in foreign exchange administration, the implementation of administration streamlining and power delegation, and profoundly changing the functions of foreign exchange administration, with administrative interference in micro-level events on the decline. At the same time, we have optimized public services through enhancing ongoing and ex-post management. As a result, foreign exchange administration has played significant roles in maintaining economic and financial stability and ensuring fair competition, with a stronger ability to promote sustainable economic development.
Reform and opening up of foreign exchange administration has achieved significant progress
Following the uniform plans of the CPC Central Committee and the State Council, we have focused on promoting the "five shifts" in foreign exchange administration over the past few years, i.e., shifting from approval to monitoring analysis, from ex-ante regulation to ex-post management, from behavioral management to player management, from assuming people are guilty until proven innocent to assuming people are innocent until proven guilty, and from “positive list” to “negative list”. In so doing, we have improved our capabilities of coping with complex situations, and coordinated facilitation and risk prevention, thus making better use of the roles of foreign exchange administration while giving a decisive role to the market.
New breakthroughs have been made in the reform of foreign exchange administration for trade in goods. Foreign trade development is an important part of China’s reform and opening up, of which trade in goods is of critical significance, accounting for nearly 80% of the total value of current account. In the past, foreign exchange receipts and payments under trade in goods needed to be verified transaction by transaction, involving tedious procedures. To improve trade facilitation and regulatory efficiency of foreign exchange, the State Administration of Foreign Exchange (SAFE) rolled out nationwide the import and export verification reform in August 2012, upon the approval of the State Council. The reform canceled transaction-by-transaction verification of foreign exchange receipts and payments under trade in goods, simplified certificates required and processes, and promoted aggregate review, dynamic monitoring and classified management, facilitating foreign exchange receipts and payments under trade in goods by 95% of enterprises doing business in compliance with laws and regulations and focusing regulation on a minority of enterprises with abnormal receipts and payments, thus ensuring trade facilitation and effective regulation. After the reform, enterprises can, on average, reduce labor costs by more than RMB 70,000 per year and banks can shorten time spent on handling business transactions from more than 20 minutes to just 9 minutes per transaction.
New progress has been achieved in the reform of foreign exchange administration for trade in services. In the past, ex-ante approval was required for the receipts and payments of foreign exchange under trade in services, requiring enterprises to prepare a large quantity of materials and go to many authorities, which inhibited efficiency. In September 2013, the SAFE universally canceled ex-ante approval for trade in services and delegated the management of all foreign exchange receipts and payments transactions under trade in services to banks, requiring no approval of documents for transactions below the equivalent of USD 50,000 and simplifying instruments for approval for transactions above the equivalent of USD 50,000, with a dozen kinds of instruments simplified and consolidated. The strengthening of offsite monitoring and analysis enabled us to stick to our bottom line of guarding against systematic risks. After the reform, documents approval for nearly 15 million transactions of foreign exchange receipts and payments under trade in services has been canceled every year, which has significantly reduced processing costs and the total number of instruments to be approved by banks. Enterprise operating efficiency has been enhanced remarkably, with the time spent on processing shortened from 20 minutes to 5 minutes per transaction.
Direct investment convertibility has reached a new high. Direct investment is a key channel for introducing foreign capital and supporting Chinese companies to go global. Previously, opening of foreign exchange accounts and entering an item in an account under direct investment had to be verified by a foreign exchange authority, and law firms were required to go through review and registration procedures of capital verification confirmation with a foreign exchange authority for foreign direct investment, thus having a negative impact on a company's investment efficiency. In recent years, foreign exchange administration for direct investment has been significantly simplified, with 35 administrative approval items canceled and 14 items simplified or merged, whereby facilitating capital operation in cross-border investments by enterprises, and achieving basic convertibility. For overseas direct investment, for example, the ex-ante approval for capital source and outward remittance verification has been replaced with ex-post registration, and the time spent on business processing has been shortened from 20 working days to 5 working days. In some provinces, such business services can even be processed on the day of application.
New breakthroughs have been made in the two-way opening up of portfolio investment, an important area for global resource allocation. In the past, due to limited channels for cross-border portfolio investment, the level of facilitation was low. To promote orderly liberalization of the securities market, the SAFE captured the opportunity of a balanced foreign exchange situation, followed the logic of balanced regulation and two-way flows and improved the QFII and QDII schemes, on which basis, the SAFE launched the RQFII scheme. As of August 28, 2015, the SAFE had approved an investment quota of USD 76.703 billion to 276 QFIIs, USD 89.993 billion to 132 QDIIs and RMB 404.9 billion to 138 RQFIIs. At the same time, the SAFE has expanded channels for the two-way opening of capital and made institutional arrangements for facilitating the buying of public funds in Hong Kong by domestic investors and sales of public funds in mainland China to Hong Kong. In the future, "sales or issue of securities for collective investment overseas by residents" or "sales or issue of securities for collective investment domestically by non-residents" will no longer be restricted, suggesting the level of capital account convertibility will be further enhanced.
A new chapter has been opened up for external debt administration to serve the real economy. External debt is an important channel for expanding financing sources for domestic entities. Previously, balance indicator management was adopted for a financial institution's external debt, with foreign-funded enterprises managed based on the difference between investment and registered investment and Chinese enterprises subject to strict regulations and having to go through tedious approval procedures. To further facilitate enterprise financing, the SAFE has vigorously pressed ahead with the external debt and cross-border guarantee management reform. The ex-ante approval for external debt and cross-border guarantee has been canceled, and banks are empowered to handle such business services directly, with the time span from opening of an external debt account and settlement of foreign exchange shortened by 3 working days, and thus essentially building an external credit and debt management framework focused on ex-post registration. A macro-prudential proportioned self-discipline management approach to external debt has been explored and a pilot program has been carried out in Zhongguancun of Beijing, Qianhai of Shenzhen, and Zhangjiagang of Jiangsu, allowing enterprises to borrow external debt that is within a certain multiple of net asset, and equalizing the external debt management policies for Chinese companies and foreign-funded companies. Estimates show pilot enterprises can save on capital cost by 2-3 percentage points. In terms of management concepts, efforts have been made to promote the shift from super-national treatment to national treatment, allowing eligible Chinese enterprises to use short-term external debt to support foreign trade.
The foreign exchange market has reached a new high. The foreign exchange market is a key carrier for international economic communication and capital flows. Previously, the players and products in China's foreign exchange market were simplistic, and the infrastructure was not sound. In recent years, the SAFE has been consolidating the fundamentals of the foreign exchange market and optimizing the foreign exchange market services. Firstly, it has been enriching transaction products to satisfy diversified demand for management of foreign exchange rate risks. The type of transaction products has been expanded from spot transactions and forward transactions of some pilot banks to foreign exchange swaps, current swaps and futures products, thus establishing a basic product system that is popular in the international market. The transaction currencies also increased from the original USD, EUR, JPY and HKD to 14 other currencies regularly involved in cross-border receipts and payments in China. Secondly, the SAFE has been increasing market players to build a diversified market player hierarchy. As of the end of 2014, there were 465 institutions in the inter-bank foreign exchange market，of which 53 were non-banking financial institutions, 1 was non-financial company and 8 were overseas financial institutions. Thirdly, the SAFE has been involved in improving infrastructure to promote market operation, improve efficiency and prevent risks. The interbank foreign exchange market began centralized netting of over-the-counter trading in 2009 and officially launched central counterparties in 2014, which have actively helped reduce clearing risks and improve trading efficiency.
Combining regulation and deregulation is a banner of the reform and opening up of foreign exchange administration
In recent years, the SAFE has focused on the provision of services, and equal importance has been attached to pressing ahead with reforms and preventing risks, with the reform approach stressing ‘balance’ and the reform direction being guided by experience gained during trials and pilot programs that can then be widely adopted. After several years of exploration, the foreign exchange administration has taken on a new look.
In order to promote the transformation of foreign exchange administration, focus must be placed on streamlining administration and delegating power. First of all, this means adhering to law-based administration in order to further streamline and integrate regulations on foreign exchange administration. As at the end of 2014, more than 700 invalid regulations were abolished and less than 300 regulations were retained. Secondly, focusing on major enterprises and easing control over small ones and classified management, with aggregate verification and dynamic monitoring adopted to promote the shift from ex-ante regulation to ex-post regulation. For the current account, for example, offsite monitoring allows us to identify violating companies at a lower cost and is a more targeted approach. In 2014, through offsite monitoring and analysis, we homed in on 1,774 abnormal enterprises that engaged in export but did not receive foreign exchange, with the export value accounting for 6% of the country's total. After verification, violating enterprises were either forced to close, be downgraded to class-B or C enterprises, or be transferred to procuratorate authorities for further investigation. Thirdly, shifting from behavioral regulation to player regulation. Full-coverage monitoring of foreign exchange receipts and payments by market players has been strengthened to better identify abnormal or violating behaviors; classified management has been adopted to facilitate enterprises that do business in compliance with laws and regulations and restrict violating players to improve the level of compliance among market players.
Strengthening the capability of foreign exchange administration to support the development of the real economy, with focus on trade and investment facilitation. Improving the level of services is the basis for foreign exchange administration. We have always interwoven administration in services when launching a reform measure, and actively adjusted foreign exchange administration measures that are not in line with the market operation laws in recent years. For foreign-invested enterprises, we have introduced the discretional foreign exchange settlement policy, giving them the power to discretionally settle foreign exchange funds to lower their financial cost. This policy has been rolled out nationwide. For MNCs, we have introduced the administration policy for the centralized operation of foreign exchange funds by MNCs, with the number of pilot companies increasing from 250 to 570 in the first half of 2015, and facilitated the optimization of foreign exchange funds by more excellent companies, especially private companies. In cross-border e-commerce, efforts have been made to ease regional restrictions, delegate approval power, elevate the limit on a single transaction and expand the scope of payment. In January 2015, the pilot program was rolled out nationwide and as of the end of June, had generated funds totaling USD 4.181 billion.
Strengthening the capability of preventing cross-border capital flow riskswith focus on safeguarding the risk bottom line. One of the key functions of foreign exchange administration is to prevent the internalization of external risks. In recent years, preventing risks has been our top priority. To this end, we have improved the regulatory system, administrative methods, technical means, and intensified team building, with a focus on building the capability of monitoring cross-border capital flows, and thus successfully guarding against systematic and regional financial risks, which we consider to be the bottom line of our efforts. To this end, we first intensified monitoring analysis to lay a solid foundation for preventing risks. Situational changes were closely tracked and the focus of monitoring analysis was shifted from monitoring of inflows to monitoring of both inflows and outflows, making prejudgment of situations more scientific and timely. We have built a monthly reporting system for cross-border capital monitoring analysis, and intensified analysis and judgment of macro trends, with dynamic fine-tuning and modification made on a monthly basis, whereby making monitoring analysis more comprehensive and precise. The second measure was accelerating data and system integration to provide technical support for risk prevention. We built a basic database for full-coverage cross-border capital flows, integrating data from different business systems for centralized sharing. We also built a cross-border capital flow monitoring and analysis platform, with focus on improving the system's functions of comprehensive analysis and data mining. We improved the warning system for balance of payments, monitoring the risks arising from imbalance of payments in a two-way manner, to provide data guarantee and system support for comprehensively monitoring the foreign exchange operation by market players and immediately identifying abnormal cross-border capital volatility. Thirdly, we improved foreign exchange inspection to provide effective means of risk prevention. We built and promoted the offsite foreign exchange inspection system, replacing the previous large-scale dragnet investigation with big data analytics, to identify clues to irregularities, thereby enhancing the relevance and effectiveness of regulation. We have focused our efforts on investigating cases involving serious violations and conducting special inspections of banks' foreign exchange transactions, to crack down on flows of hot money by key players and through key channels. From 2009 to 2014, we investigated and solved 17,000 cases that violated foreign exchange laws and regulations, confiscating illegal gains and imposing fines of about RMB 2.2 billion in total.
Continuing to deepen the reform and opening up of foreign exchange administration
Foreign exchange administration has entered a new normal, with continued net inflows of foreign exchange changed to balanced flows, ex-ante approval changed to ongoing and ex-post regulation, and current account convertibility changed to capital account convertibility. Developing a comprehensive understanding of and accurately grasping the foreign exchange new normal is a starting point for conducting the subsequent foreign exchange administration reform. Next, foreign exchange authorities will closely follow the new normal and accelerate the "five shifts", with focus on promoting the RMB capital account convertibility, to effectively perform their responsibilities for foreign exchange administration and make foreign exchange administration more scientific.
Changing the philosophy and method of foreign exchange administration is the principle and the direction of foreign exchange reform. Efforts will be made to press ahead with the administrative approval system reform to comprehensively improve administrative efficiency, based on the relationship between the government and the market. Firstly, the SAFE will continue to streamline administration and delegate power. We plan to further slash administrative approval items, and sort through and simplify existing regulations on foreign exchange administration, making sure foreign exchange administration regulations are reduced, simplified and easier to operate, to facilitate market players and regulation. Secondly, the SAFE will comprehensively advance law-based administration. Following the requirements for the "five shifts" in the philosophy and method of foreign exchange administration, we will adapt to the needs of capital account convertibility in China, and build a forward-looking legal framework systemfor foreign exchange administration, with focus on changing from behavioral regulation-based legislation to player regulation-based legislation and switching from ‘positive list’ to ‘negative list’. Thirdly, the SAFE will diversify means for ongoing and ex-post regulation. For the current account, for example, we will enhance cross-departmental cooperation and deepen the administration of capital flow risks under the current account.
Promoting trade and investment facilitation is both the starting point and the action plan. In terms of administrative mentality, we will raise the sense of service and put ourselves in others' shoes in order to promote the linkage between policy adjustment and the commercial operating models of market players and provide a favorable policy environment for market players that do business in compliance with laws and regulations. We will optimize processes and formalities, deepen reforms through improving services, effectively improve the level of facilitation for trade and investment, and reduce the social cost for foreign exchange administration, with the aim of improving administration through services. For administration objects, we will promote the change from behavioral regulation to regulation of key entities and from ex-ante approval to ex-post monitoring and analysis. For example, we will implement the upgraded version of the administration of centralized operation of foreign exchange funds by MNCs to further enhance MNC's efficiency in capital operation.
Pressing ahead with the reform and opening up in key areas is the focus and the priority. Based on the building and improvement of the market mechanism and administration mechanism that adjust the balance of payments, we will further improve the middle and long-term working plan for the foreign exchange administration reform, determining the implementation steps, time frame and division of labor, as well as the roadmap and the timetable. In the capital market, we will promote the orderly two-way opening of the capital market, further improve the qualified institutional investor scheme, and implement the Mutual Fund Connect scheme to accelerate the RMB capital account convertibility. In the foreign exchange market, we will promote the opening of the foreign exchange market, expand the scope of trading, increase the number of trading entities, enrich the products for risk aversion and value preservation, and improve the building of a diversified and competitive trading platform that is subject to effective regulation, so as to build a sophisticated, advanced and multi-layered foreign exchange market system.
Guarding against abnormal cross-border capital flow risks is the foundation and the guarantee of an effective foreign exchange system. In the long run, foreign exchange authorities should make risk prevention their top priority. To enhance warning, we will accelerate the building of a warning platform for cross-border capital flows, complete cross-border capital flow data integration and data warehouse construction to cover cross-border capital flows that involve different trading currencies, projects and entities such as domestic and foreign currencies, trade and investment, institutions and individuals, in order to provide regulatory authorities with reliable tools. Meanwhile, we will continue to improve the warning indicator system and offsite inspection indicator system for cross-border capital flows to immediately assess and prejudge the pressures from capital outflows and inflows. In addition, we will flesh out policy plans focused on counter-cyclical adjustment, study and introduce price adjustment means such as Tobin tax, URR and foreign exchange trading fees to contain the inflows and outflows of short-term speculative and arbitrage funds. To optimize the operation of foreign exchange reserves, we will encourage diversified and scattered investments and efficient management and use of foreign exchange reserves, enhance allocation of quality assets, and improve the abilities to manage and operate foreign exchange reserves, with the aim of ensuring the security and flows of foreign exchange reserves and the value maintenance and growth.
(The original text is available in the 19th issue 2015 of China Finance)
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