With China expected to achieve capital account convertibility within two to three years, the clock is ticking for global investors and corporations who are yet to learn the intricacies of China’s financial system.
China is the world’s second-largest economy and its largest trading nation. In 2013, its share of global GDP was 12 per cent and it also accounted for 12 per cent of world trade. But China’s economic prowess is not yet matched by its financial firepower. As of 2011, China had less than a 3 per cent share of global holdings of overseas assets and liabilities.
A great wall separates China’s capital markets from the rest of the world, hence foreign investors have limited exposure to China’s stocks and bonds, and Chinese investors are generally restricted to investing in domestic assets.
However, in recent years, China has embarked on a mission to liberalise its capital account. With the Qualified Foreign Institutional Investor (QFII) scheme, the Renminbi Qualified Foreign Institutional Investor (RQFII) scheme, and the northbound trading link of the Shanghai-Hong Kong Stock Connect programme, foreign investors are gaining increased access to China’s markets.
China is the world’s second-largest economy and its largest trading nation. In 2013, its share of global GDP as well as global trade was 12 per cent
This will lead to greater inflows and, when domestic shares are finally included in emerging markets indices, the effect will multiply.
Meanwhile, with outbound investment schemes such as the Qualified Domestic Institutional Investor (QDII) scheme and the southbound trading link of Stock Connect, China is introducing a new source of capital to the rest of the world. The Chinese are keen savers: the country’s household savings amount to nearly RMB50 trillion, or almost USD8 trillion.
Global investors should also take the time to understand China’s domestic bond market. It is the third-largest in the world, but is small relative to China’s huge economic output – China’s outstanding bonds amount to 5.1 per cent of the world total. The corporate bond market in China remains underdeveloped, representing around 25 per cent of total bonds outstanding – much less than in developed markets.
Beijing has plenty of incentives to grow its debt capital market. A well-developed bond market would provide long-term investments with fixed returns to an ageing population; give the middle class an additional investment vehicle with which to diversify their portfolio; and create a less costly but more efficient channel of funding for Chinese corporations.
This will not just be for domestic borrowers. China has encouraged the issuance of panda bonds – onshore bonds, denominated in renminbi, issued by foreign companies – thus making it easier for multinational corporations to raise capital onshore.
Finally, the liberalisation of China’s financial system will affect the way companies manage their liquidity in China.
For years, multinational corporations with operations in China were unable to freely remit their funds to their regional treasury centres outside Mainland China. But that is changing. Beijing now allows greater freedom for global companies to move yuan in and out of China. Foreign-owned companies can now lend accumulated renminbi holdings to their parent or subsidiary companies overseas.
Gradually, the wall separating China’s financial system with the outside world is coming down. Global capital markets are bracing for China’s financial integration with the world. For foreign investors and corporations, it’s better to get a head start.