China further loosened its capital controls to encourage money to flow out of the country and so tackle the economic problems generated by its record trade surplus.
Residents will be permitted for the first time to invest directly in Hong Kong-listed securities under a pilot program to be launched in the northern port city of Tianjin, the State Administration of Foreign Exchange (SAFE) said.
"Although there are limits, this is a historic move in China's capital account opening," said Stephen Green, an economist with Standard Chartered Bank in Shanghai.
The news sent shares in Bank of China soaring as much as 12% Tuesday as investors piled into stocks of firms expected to benefit from the new policy. Hong Kong Exchanges and Clearing surged 11% before edging back. The operator of Asia's largest listed bourse is expected to enjoy a substantial turnover boost from the pilot program, analysts said.
The prospect of a wall of Chinese cash helped drive the index of Hong Kong-listed shares in mainland companies up by 8.74%, their biggest one-day rise since May 2000.
Zhao Xiao, a professor with Beijing's University of Science and Technology, said it was the most important financial development this decade apart from China's accession to the World Trade Organisation in 2001 and the yuan's revaluation in 2005.
"If China wants to be an international player, it has to open its capital account, and it has to allow its residents to invest abroad," Zhao said.
SAFE, the currency regulator, said it was acting because China had accumulated sufficient foreign exchange reserves -- $1.33 trillion at the end of June -- to satisfy individuals' growing appetite for overseas stocks.
"This is an important measure to widen the channels for foreign exchange outflows and to promote basic balance in international payments," SAFE said in a statement. "It is also a strong measure to curb illegal investment in the Hong Kong stock market," SAFE said.
Many Chinese have evaded the capital controls and opened brokerage accounts in the special administrative region. Rules limiting the purchase of foreign exchange by individuals to $50,000 a year will not apply for the pilot scheme: investors will be able to convert an unlimited amount of yuan into foreign currency and invest it in Hong Kong.
An official at Bank of China in Tianjin said the scheme was due to be up and running by September.
SAFE said the purpose of the trial was to "accumulate relevant experience on risk control and administration, and prepare for further expansion of overseas securities investment for individuals".
Until now, individuals have been allowed to invest overseas only through banks, brokers, insurers and fund managers licensed under the Qualified Domestic Institutional Investor program.
To spur capital outflows, China recently relaxed the rules of the program so investors could buy overseas shares as well as less risky bonds.
Now, investors wanting to bypass the scheme's intermediaries will be allowed to do that if they open an account with Bank of China's Tianjin branch and with Bank of China International Securities in Hong Kong.
Although the program is notionally restricted to the port city, any Chinese resident can participate in it by opening an account with a Bank of China branch that has signed an agency agreement with the Tianjin branch.
China is struggling with the consequences of a balance of payments surplus on the order of 10% of national income. To hold down the value of the yuan, the central bank buys most of these dollars coming into China, flooding the banking system with newly printed yuan in the process.
The central bank has managed so far to mop up most of the extra cash, but a spurt in consumer inflation in July to a decade-high of 5.6% has some economists worried that the build-up of reserves is becoming too hot to handle.
"Ultimately to address this issue you need an open capital account given the political objective of maintaining stable exchange rate appreciation," said Qing Wang, an economist with Morgan Stanley in Hong Kong. Wang said.
Boost For Hong Kong
Zhao Xiao, the Beijing professor, said the move would help Hong Kong become a true international financial center like New York, London and Tokyo.
"Remember, if all Chinese money can go to Hong Kong, then many global firms will favor listing in Hong Kong," he said.
Zhao said the easing was also good news for the domestic A-share market, which some analysts fear has risen too far too fast: the main index is up 80% this year on top of a 130% leap in 2006.
"If the domestic market experiences a bubble or an irrational rally, investors can just avoid that and go to Hong Kong," he said.