Saturday, April 7, 2012

Financial Environment Analysis

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China Financial System

The China financial system is highly regulated and relatively underdeveloped, but has recently begun to expand rapidly as monetary policy becomes integral to its overall economic policy. As a result, banks are becoming more important to the economy by providing increasingly more finance to enterprises for investment, seeking deposits from the public to mop up excess liquidity, and lending money to the government.

As would be expected, the China banking system is also highly regulated with six major banks, each having specific tasks and duties. The Peoples Bank of China is the largest bank in the PRC and acts as the Treasury. It also issues currency, monitors money supply, regulates monetary organizations and formulates monetary policy for the State Council. The Bank of China manages foreign exchange transactions and manages foreign exchange reserves. The China Investment Bank distributes foreign capital from a variety of sources, and the China International Trust and Investment Corporation (CITIC) was previously a financial organization that smoothed the inflow of foreign funds, but is now a full bank, allowing to compete for foreign investment funds with the Bank of China. The Peoples Construction Bank lends funds for capital construction projects from the state budget, and finally the Agricultural Bank of China functions as a lending and deposit taking institution for the agricultural sector.

Chinas Closed Capital Market

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A further indication of the difference between China and the crisis countries, and of the insulation of the Chinese financial system, is the experience in the foreign exchange market. The RMB is not a freely convertible for capital account transactions. The specific approval of the State Administration of Foreign Exchange (SAFE) is required before any RMB can be sold or bought for foreign currency if the transaction is not for settlement of a trade or service transaction (and even for trade or service settlements documentary proof is required by the bank before it will buy or sell RMB for foreign currency). Portfolio investment into China-i.e., the purchase of RMB-denominated securities-by non-residents is forbidden. Unless they receive special permission from SAFE, Chinese residents are forbidden to have accounts outside of China and to purchase overseas securities. Most Chinese companies must sell any foreign exchange earned from exports to Chinese banks. Foreign currency loans are not generally allowed to be converted to RMB; they should be used only to settle import transactions. Foreign direct investment capital may be converted to RMB, but this is strictly monitored and subject also to approval and verification by the banks. All these restrictions and rules have the effect of insulating the RMB from any speculative pressure, so that its exchange rate versus other currencies-particularly the U.S. dollar-is managed by the PBOC. Table 8.4 shows what happened to the currencies of the crisis countries during 1 7~evaluations versus the U.S. dollar in some cases of nearly 60 percent from their highs. The RMB (called CNY in international markets) remained essentially stable with some upward movement during 17.

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