As China integrates its economy with the global economic system, the opening up of its capital market becomes an inevitable process.

People are not divided on that. But they disagree on the tempo of the opening up. Should China accelerate the process to expedite domestic financial reforms or should it proceed steadily to ward off possible shocks that may throttle domestic reform?

Given China's real financial stamina, experts at a recent forum urged that caution should override speed in the liberalization process.

"The liberalization of the capital market should be our long-term goal, but at the current stage, if we rush the process, it would bring serious consequences," said Yu Yongding, director of Institute of World Economics and Politics under the Chinese Academy of Social Sciences.

Although it has not met with major shocks, China's financial system remains fragile, which makes it imperative to exercise caution in opening up the capital market, Yu said at the forum on China's role in world economy held by China and World Economy magazine.

China's capital control and capital market management have seen a history of pendulum-swings.

The financial crisis experienced by Latin American countries in the early 1980s sounded an alarm to Chinese authorities, who tightened up financial policies.

Starting from the early 1990s, the authorities tended to loosen the capital control until the abrupt outburst of the Asian financial crisis. The devastating effect of that crisis goaded many Asian nations into strengthening controls, and China followed suit.

"But there were many loopholes (in regulatory policies) and illegal capital exodus became a serious problem at that time," Yu said.

Since 2000, China's overall economic scenario has become better and the financial authorities' regulatory stamina steadily improved. The easing of financial regulation was tabled once again, especially after China joined the World Trade Organization (WTO) in late 2001, which requires the country to gradually open up its financial service industry.

Long Yongtu, China's former chief WTO negotiator, said in March the capital market-related clauses in China's WTO commitments are "low-level opening up" and the government could well move faster.

Policy-makers, however, should find the best, not the earliest, opportunity, to realize the opening up.

"Regarding the capital account liberalization, the favorable factor is our ample foreign exchange reserve, but other factors (that are necessary for the smooth liberalization) are not in place," said Zhang Yansheng, a researcher from the State Development and Reform Commission.

These factors include a sound financial system and a stable macro-economy.

"Capital account liberalization is a long-term structural adjustment process. Pressing it too hard would affect the stability of the macro-economy in the short term," said Zhang.

It would also pinch domestic banking reform, Zhang added.

Now the banking sector is plagued by a mountain of non-performing loans, which calls for prompt, further reform and makes that reform a formidable task.

In recent years the four major state-owned commercial banks have pressed ahead with drastic structural reforms to improve their assets quality. Their bad loan ratio, however, remains around 22 percent.

China's gradual approach regarding capital account liberalization is also favoured by Horst Kohler, managing director of the International Monetary Fund (IMF), who said he "fully supports the authorities' cautious and deliberate approach" when he visited Beijing in early September.

Caution, of course, does not mean the halt of the liberalization process.

China has largely lifted restrictions on half of the 43 capital accounts listed by IMF, according to Guo Shuqing, director of the State Administration of Foreign Exchanges (SAFE).

The country announced the landmark move of qualified foreign institutional investors (QFII) scheme last November, allowing foreign investors to trade in its US$500 billion A-share market. It is a transitional step to open up the capital market when the renminbi is still not fully convertible under the capital account.

"Although foreign banks have had small transaction volumes in the domestic market, the scheme has opened a channel for capital flight linking domestic and overseas markets," said Zhang Xiaopu from SAFE.

By now, China has given 12 licences to QFIIs, with the latest two granted last week. The first 10 institutions involve an investment quota of US$1.7 billion.

In the banking sector, eligible foreign banks are now permitted to provide renminbi services to Chinese enterprises, which further eases capital flows.

Early this month SAFE director Guo Shuqing promised China will experiment with measures to further loosen capital controls.

He said under certain conditions some multinationals may be allowed to send their idle capital overseas; Chinese people who move to other countries may be allowed to transfer their assets; and international financial institutions may be selected to issue renminbi-denominated bonds in domestic market.

"In the meantime, the monitoring of capital flows and the capacity to handle them must be strengthened," said Zhang Xiaopu.

"The influx and outflow of capital may fluctuate drastically."

(China Daily December 22, 2003)