How did over US$1 trillion of hot money flow into China in the first half alone despite the nation's strict control on foreign exchange?

According to statistics from the Ministry of Commerce and from Chinese customs, US$1,209 billion added to China's foreign reserves came from unknown sources.

In an analysis by International Financial News, money can enter China through illegal channels including massive payments or money transfers through fictitious trade claims or false contracts under the guise of normal trade and investment.

Direct investment is another way for hot money to enter China's market, according to some experts. Except for industrial and commercial investment, which has few limitations for settlement of foreign currency, the Qualified Foreign Institutional Investors (QDII) system is more lenient in allowing foreign investors to change their funds into renminbi and buy securities.

The influx of hot money could pressure the central bank in terms of currency supply and cause serious liquidity problems. It could also disturb the monetary policy of the government, and even endanger the nation's financial security, according to the report.

So far, the government has taken a series of measures to curb the illegal inflow of hot money and guide foreign investment in a reasonable way. However, some experts said it is hard for the government to eliminate hot money altogether, because the country had committed to reforming its financial system and making it more open internationally.

According to Mei Xinyu, an official with the economy and trade research department of the Ministry of Commerce, it is impossible to rid the country of overseas speculative funds completely, since the money itself was a product of excess global liquidity. Financial authorities of all nations should work together and gradually bring it under control. Therefore, curbing hot money requires a more long-term campaign.

(China Daily August 9, 2007)