China continues promoting RMB use globally in 2013(2)

REFORM MEASURES

As Hong Kong, London, Singapore and Taiwan compete with each other for offshore RMB business, Chinese authorities have announced a slew of major financial reform measures since last month.

A reform blueprint, unveiled on Nov. 15 after a key meeting of the Communist Party of China Central Committee, addressed all of the key financial reforms that the market has long been expecting, said Qu of HSBC in a research note.

Key reform measures include accelerating interest rate liberalization, reforming the RMB exchange rate regime, speeding up RMB capital account convertibility by promoting the two-way opening up of capital markets, and the easing of restrictions on cross-border capital and financial transactions.

As China has traditionally conducted major reforms on a trial basis in a designated place, the market has expected these financial reforms to be tested in the Shanghai Free Trade Zone (FTZ). On Dec. 2, the PBOC unveiled a guideline containing 30 points on financial measures for the FTZ.

The bold move not only offered financial support for the FTZ in Shanghai, but also pushed forward liberalization in cross border investments and trade while deepening financial reforms, Qu said.

He said there were several upside surprises in the guideline, which suggest a marked acceleration in capital account liberalization, including allowing residents of the FTZ to set up free trade accounts denominated in both yuan and foreign currencies, allowing individuals working in the FTZ to invest overseas, and allowing financial institutions and corporations in the FTZ to carry out investments and trade in securities and futures exchanges in Shanghai.

The PBOC is also trying to promote RMB cross-border usage through current account transactions and direct investment in the FTZ in Shanghai.

"We believe that progress on the RMB capital account convertibility will be faster than many expect. The next step will be expanding portfolio flows," Qu said. "Get ready for a series of concrete actions to be carried out over the coming quarters."

David Cui, with Bank of America Merrill Lynch, said in his research note that the key surprise of the PBOC guideline is that cross-border capital flow via the FTZ may become much easier than expected, which suggests China's capital account could be opened faster than expected.

"The fact that there is no explicit quota limit on fund transfers is a major step, in our opinion. The PBOC will also allow full RMB convertibility within free trade accounts and free trade accounts for non-residents when ready," Cui said.

The report by the Hong Kong Legislative Council interprets the establishment of the Shanghai FTZ differently.

"The proposed financial liberalization measures have aroused concerns over the challenges posed by FTZ to Hong Kong as an offshore RMB center... One should not lose sight of the potential of Shanghai as an offshore RMB market," it said.

As Chinese mainland regulators set their own pace in internationalizing the RMB, the report suggests the Hong Kong city government should "do more on promoting the local RMB market such as the development of more RMB products and an active RMB repo market in Hong Kong."