Capital Controls in China: Recent Developments and Reform Prospects

Abstract

Capital controls proved useful for the central planning system, but the growing adverse effects make the reform inevitable. Early reform efforts were focused on relaxing restrictions on foreign exchange availability and embracing for market forces, which led to the establishment of Chinese currency's on the current account in 1994. The Asian financial crisis disrupted this process. China recently has quietly re-launched this reform. The new measures are directed at loosening up controls over capital account transactions to achieve so-called fundamental convertibility with full on the current account but conditional on the capital account that allows free long-term capital flows but restricts short-term capital flows. The recent reforms feature a strategy of selective liberalisation and China is making progress in reducing the intensity of controls, particularly controls on capital outflow. A new regime has emerged under which transactions in most international assets are freed though a number of capital transactions remain regulated. Meanwhile, China has pro-actively promoted international use of Chinese currency. These developments suggest the beginning of the end of capital controls in China.