China: Chinese Government Loosening Foreign Exchange Control

According to the General Administration of Customs, China’s trade surplus in May 2006 reached $13 billion. It has been a continuous increase for a period of 25 months. The trade surplus has contributed to the rapid growth of China’s foreign exchange reserve that is now more than $900 billion, the largest in the world. In the meantime, the growing trade surplus and foreign exchange reserve have driven up the pressure of inflation and currency appreciation.

The Chinese government has been weighing different measures to alleviate the pressure of currency appreciation. Its long-term goal is to lift foreign exchange control and allow RMB to be convertible. On April 13, 2006, the People’s Bank of China (PBOC), China’s central bank, issued Announcement No. 5 providing guidance on foreign exchange administration, which signifies a policy change to loosen foreign exchange control. The key points of Announcement No. 5 are (1) to relax the restrictions on foreign exchange current accounts; (2) to streamline the process for purchase and settlement of foreign exchange in connection with trade in services; (3) to raise annual quota of foreign currencies for purchase by individuals; and (4) to allow certain qualified financial institutions to invest in overseas financial markets.

To implement Publication No. 5, the State Administration of Foreign Exchange (SAFE) issued Circular 19 on April 13, 2006. Pursuant to this Circular 19, the SAFE discontinued the approval requirements for opening, changing, or closing foreign exchange current accounts. For monitoring purposes, first time applicants merely need to file their basic information with the SAFE. In addition, the SAFE streamlined the process for purchase and settlement of foreign exchange in connection with trade in services. For instance, with respect to the payment of no more than $50,000, agreements or invoices are the only documentation for purchase of foreign currencies. The downloaded copies of the agreements or payment orders are now deemed as acceptable documents for the transactions. Moreover, under Circular 19, individuals are allowed to purchase foreign currencies up to $20,000 each year without the pre-approval of the SAFE. By contrast, the old rule set the limit as $3,000. Notwithstanding the quota increase, the banks are still required to examine the individuals’ purposes of purchasing foreign currencies as well as their identity. Circular 19 further emphasizes that the SAFE has put in place an information system to monitor foreign exchange activities, and may adjust the quotas under certain circumstances.

Furthermore, the PBOC, the SAFE and China Banking Regulatory Commission (CBRC), on April 17, 2006, jointly promulgated the Provisional Administrative Rules on the Overseas Wealth Management Business of Commercial Banks on Behalf of Their Clients (the Overseas Wealth Management Rules). Under the Overseas Wealth Management Rules, the CNRC is responsible for granting licenses for commercial banks to conduct overseas wealth management business. Since overseas investment necessarily involves the transfer of foreign currencies, the commercial banks must also obtain the approval of the SAFE. The overseas wealth management practice is subject to the oversight by the CBRC and SAFE.

The SAFE adopted additional measures to relax foreign exchange control, and issued Circular 27 on June 6, 2006. As of July 1, 2006, the SAFE will discontinue the practice of assessing a quota of foreign exchange on overseas investment. Pursuant to Circular 27, the domestic entities may transfer up to 15 percent of total overseas investment to pay for the preliminary expenditures, including the security for equity acquisition or asset acquisition, the bidding security for overseas projects, or fees paid for the intermediaries, market investigation, and lease of office space and equipment. The SAFE also streamlined the approval process for purchasing foreign currencies for payment of preliminary expenditures.

The new rules summarized above reflect that the Chinese government is taking cautious steps to reform the mechanism of foreign exchange control. Although the ultimate goal is to make RMB convertible, it is unlikely to remove foreign exchange administration all at once, especially with respect to foreign investment. After all, foreign exchange control has proved to be an effective device to restrain and monitor the investment flow.

For more information, please contact Kai (Kevin) Yang at 202-419-2602, kevin.yang@hklaw.com