By
Bill H. Zhang
Background
China promulgated its first Regulations on
the Administration of Foreign Exchange (“Original Regulations”) in 1996
which was amended in 1997. When the Original Regulations were promulgated, China was dedicating to reserve foreign exchanges and prevent outflow of foreign exchange
income so as to promote its economic development and absorb foreign investment.
With the rapid development of Chinese economy in the last decade and the recent
change of international financial markets, China’s financial situation has
undergone dramatic changes, for instance, China’s foreign exchange situation
has shifted from lack of foreign exchange to surplus of reserve. According to
Reuters, China’s foreign exchange reserves has reached to $ 1,800 billion in
this May, the largest reserve in the world. Meanwhile, huge amount of “hot
money” has entered into China in the name of current account items or capital
account items under the Original Regulations. While, on the other hand, more
and more Chinese enterprises desire to make outbound investments and need more
freedom to save and freely deal with their foreign exchange incomes. Obviously,
the Original Regulations does not accord with China’s current financial
situations. The common international practice is to timely adjust its financial
laws according to the actual financial situations, with no exception to China.
In order to ease foreign
cash reserve pressure, prevent inflow of speculative “hot money” to China as well as promote outbound investments by Chinese enterprises, the State Council revised the
Original Regulations and promulgated the new Regulations of the People’s
Republic of China on the Administration of Foreign Exchange (“Regulations”)
on August 5, 2008, effective on the same day. Compared with the Original
Regulations, the Regulations undergo many dramatic changes. In addition,
Chinese government takes a complete new attitude towards foreign exchange
control. This article will address the changes made to the Original
Regulations, Chinese government’s new administration system on foreign exchange
control and analyze the impact on foreign investment in China.
Repatriation And Settlement of
Foreign Exchange Incomes Not Required
The Original Regulations
provided that the current account and capital account incomes of foreign
exchange of domestic enterprises shall be repatriated to China and can not be
deposited abroad.[1] To
some extent, this has resulted in surplus of reserve of foreign exchange. In
addition, the Original Regulations further established a mandatory settlement
system for current account incomes of foreign exchange, which means the
domestic enterprises must sell them to the designated banks or deposited into
the foreign exchange bank accounts with designated banks.[2] In other words, the domestic enterprises
can not retain their current account incomes of foreign exchange. As analyzed
above, the mandatory repatriation and settlement system aimed to reserve
foreign exchange income and control outflow of foreign exchange.
However, after reserving
abundant foreign exchanges, Chinese government has taken a complete different
attitude towards foreign exchange control, a 360 degree converse. Now Chinese
government gives domestic enterprises and individuals more options on disposing
of their foreign exchange incomes, allowing them to deposit their foreign
exchange incomes aboard or repatriate to China on their sole discretion.[3] Moreover, domestic enterprises and
individuals may retain their current account incomes of foreign exchange or
sell them to the designated banks.[4] To
reflect this change, domestic enterprises may use their self-retained foreign
exchange or buy foreign cashes from the designated banks to pay their current
account expenditures of foreign exchanges. It is notable that Chinese
government, on the one hand, has loosened the control on the current account
incomes of foreign exchange, allowing domestic enterprises to retain them
freely, however, on the other hand, it also tightened the control on capital
account incomes of foreign exchange. Though domestic enterprise may retain
their capital account incomes of foreign exchange, however, this will subject
to approval by the foreign exchange administration (“SAFE”).
Genuine Transactions Required To
Prevent Inflow of “Hot Money”
“Hot money” is the
speculative funds which can cause price inflation and further destabilize
financial markets when withdrawn en masse. Recently, international “hot money”
is trying to enter into China under the pretexts of current account items,
capital account items or through illegal private banks. In order to prevent
inflow of “hot money” and stabilize Chinese economy, the Regulations provides
that the incomes and expenditures of current account of foreign exchange must
be based on genuine and lawful transactions, the designated banks dealing with
settlement and sale of foreign exchange shall conduct reasonable examination to
the authenticity of the transaction documents and consistency of the income and
expenditures of foreign exchange. The foreign exchange administrative
authorities may also supervise and examine the aforesaid authenticity and
consistency.[5]
Furthermore, the Chinese
government has strengthened the supervision and administration on the inflow of
capital. Under the Regulations, the domestic enterprises must use the capital
account incomes of foreign exchange and the settlement capital thereof in
strict accordance with the use approved by the competent authorities and SAFE,
which may supervise and examine the use thereof.[6]
In addition, the Chinese government has also strengthened punishment to the
illegal inflow, settlement of foreign exchange and usage thereof in violation
of the approved use. Obviously, the genuine transaction requirement and all
these supervision and administration are to stabilize Chinese financial markets
and prevent inflow of international “hot money”.
Encourage Outbound And Inbound
Investment by Simplifying Safe Registration Procedures
Under the Original
Regulations, in the event of outbound investment by a domestic enterprise, the
source of its foreign exchange funds shall be examined by SAFE before it applies
with the examination and approval authority.[7] After getting approval, can the domestic
enterprise remit their investment capital abroad. In other words, SAFE
examination on the source of foreign exchange funds and approval is a
precondition for obtaining approval for outbound investment by the competent
examination and approval authorities. Obviously, this restriction is to control
outbound investment by Chinese enterprises.
With the rapid
development of the Chinese economy, the Chinese government has adopted an
opposite attitude towards outbound and inbound investment. Under the
Regulation, the SAFE registration procedures for Chinese enterprises or
individuals to make outbound investment are greatly simplified. The source of
foreign exchange funds of Chinese enterprises or individuals will not be
examined by SAFE any longer when making outbound investment. They are only
required to make SAFE registration for their outbound investment, which is
quite easy and different from SAFE examination and approval. In addition to
outbound investment, Chinese domestic enterprises and individuals may issue and
trade securities and derivable products overseas with the only pre-condition
that they go through SAFE registration.
In practice, when making
direct investment in China, foreign investors will have to go through foreign
exchange registration with SAFE which will issue a foreign exchange
registration certificate. Now, the Regulations have put this practice into the
law. In addition, under the Regulations, foreign enterprises and individuals
may also issue and trade securities and derivable products within China on pre-condition that they go through SAFE registration and comply with the relevant
regulations on market entry. From the simplified SAFE registration procedures,
we can see China is encouraging outbound and inbound investment.
Strengthen Supervision And
Administration on Flow of Foreign Exchange Capital
The Regulations mandates
SAFE to supervise, make statistics and periodically publish international
payment. Under the Regulations, the designated banks dealing with foreign
exchange business will open foreign exchange account and handle foreign
exchange business for their clients, but will also have to report their
clients’ incomes and expenditures of foreign exchange and the change of the
foreign exchange account to SAFE, and further report any violations by their
clients to SAFE immediately upon discovery. In addition, the domestic
enterprises having foreign exchange operation activities will have to report
their financial statements and statistic reports too. The Regulations have
further requested SAFE and other relevant authorities under the State Council
to establish an information exchange and report system on foreign exchange.
Obviously, this will enable SAFE to fully supervise the flow of foreign
exchange capital, particularly the cross-board flow of foreign exchange
capital.
Apart from the above
measures, the Regulations have newly added a special chapter on supervision and
administration by SAFE on foreign exchange. Under the Regulations, SAFE is
empowered certain enforcement rights and to take various measures to raid
foreign exchange violations, such as on-site examining, inquiring, checking and
copying transaction documents and financial statements of the concerned
parties, applying with the court to freeze and seal up relevant evidence, etc.
This reflects China’s attitude that it will not loosen control on foreign exchange
and maintain stability of China’s financial markets.
Conclusion
Ten years ago, in order
to promote its economic development, China aimed to reserve foreign exchange
and established a mandatory repatriation and settlement system for incomes of
foreign exchange of domestic enterprises. However, after more than ten years of
rapid economic development, China’s reserve of foreign exchange is surplus,
becoming the largest reserve in the world. Obviously, the Original Regulations
lag behind China’s current financial situation. So China revised the Original
Regulations and replaced it with the new Regulations. Compared with the
Original Regulations, the Regulations are more rational and accord with the China’s current financial situations. The Regulations reflects the Chinese government’s new
attitude towards and flexible administration on foreign exchange control. On
the one hand, the Regulations have loosened the control on foreign exchange,
while, on the other hand, it has also tightened the control on foreign exchange
depending on different situations.
In terms of loosening
control on foreign exchange, the Chinese government allows domestic enterprises
to save their current account incomes of foreign exchange overseas or
repatriate to China, settle with the designated banks dealing with foreign
exchange business or retain by themselves depending on their sole discretion,
while, in the past, they had to repatriate to China and settle with the
designated banks. In addition, the Chinese government also simplified the SAFE
registration formalities for inbound and outbound investment, particularly; the
source of foreign exchange funds is not subject to examination by SAFE in the
event of outbound investment. The Chinese government has further allowed
Chinese domestic enterprises and individuals to issue and trade securities and
derivable products overseas and permitted foreign enterprises and individuals
do the same in China with the same pre-condition that they have gone through
SAFE registration.
In terms of tightening
control on foreign exchange, the Chinese government requests that the incomes
and expenditures of the current account of foreign exchange shall be based on
genuine and lawful transactions, while, the use of capital account incomes of
foreign exchange and the settlement capital thereof must be in strict
accordance with the approved use. Though domestic enterprises may retain their
capital account incomes of foreign exchanges, not settling them with the
designated banks, however, this will subject to approval by SAFE. In addition,
Chinese government has strengthen the supervision and administration on
cross-board flow of foreign exchange capital, such as requesting the designated
banks dealing with foreign exchange business to report their clients’ income
and expenditures of foreign exchange to SAFE, while domestic enterprises having
foreign exchange operation activities will have to report their financial
statements and statistic reports. Furthermore, the Regulations have added a
special chapter on supervision and administration on foreign exchange by SAFE,
empowering SAFE various enforcement measures to raid foreign exchange
violations. Obviously, all those tightened measures aim to prevent inflow of
international “hot money” into China and stabilize China’s financial markets.
About
The Author
Bill
H. Zhang is
the managing partner of China Sunbow & Associates with rich experience in
cross-board transactions involving China with more focus on corporate and
commercial matters, such as mergers and acquisitions, direct investment in
China, joint venture, intellectual property, technology license and transfer,
international trade, corporate governance and compliance, restructuring and
reorganization, labor and employment, and dispute resolutions. He has
represented many multi-national companies to merge and acquire Chinese
enterprises, make investment, register and enforce various trademarks, patents
and copyrights, resolve commercial disputes in China. He has also counseled
many foreign invested enterprises on their daily operations in China.
For more information
about this article and the author, please contact:
Bill
H. Zhang
T: +8621 5081 5229
F: +8621 5081 5239
E: bill.zhang@chinasunbow.com
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