Due to the rapid economic development in the past decade, China has evolved from a country with limited sources of foreign exchange to a powerhouse with tremendous growth of foreign exchange reserves today. To alleviate the pressure emanating from significant build-up of foreign exchange reserves, the government now places emphasis on the inflow of foreign exchange in addition to the continuing monitoring of capital outflow as evidenced by the newly revised Regulations of the People’s Republic of China on Foreign Exchange Administration ("Regulations").
These new Regulations made certain changes to the former forex control regime. Some highlights as follows:
- The Regulations abolished the requirement for compulsory repatriation of foreign exchange income and provide that domestic enterprises and individuals can choose to transfer the foreign exchange income back to China or deposit them in overseas countries, subject to conditions that may be imposed by the State Administration of Foreign Exchange ("SAFE").
- However, once foreign exchange is remitted into China for investment purposes, such forex must be used for specified purposes and cannot be used for reinvestment. The Regulations specify that foreign exchange under capital accounts and the foreign exchange settlement funds shall be used for purposes approved by the relevant authorities.
- Administrative principles for outbound transactions are briefly described in the Regulations which provide the legal basis for implementing future policies over outbound activities. According to the Regulations, domestic institutions and individuals are, in principle, allowed to invest in offshore securities and derivatives products. Besides, financial institutions in banking industry may offer foreign direct commercial loans within the approved business scope. Other domestic institutions may also offer foreign commercial loans but subject to SAFE approval.
- SAFE is further empowered to monitor the flows of foreign currency, and their specific administrative powers and inspection procedures are listed in the Regulations.
- A range of foreign exchange related illegal activities are identified in the Regulations. Penalties for such illegal activities are specified (including confiscation of illegal income and imposition of fines).
These changes to the foreign exchange regime reflect the government's desire to rein in excessive inflow of foreign exchange, and most importantly, to achieve financial stability. The effectiveness of these measures, however remains to be seen.