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China Quietly Relaxes Controls on Foreign Capital

The Chinese government has begun making it much easier for foreign investors to put money into China’s stock market and other financial investments, in a slight relaxing of more than a decade of tight capital controls.

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The move, not publicly announced but disclosed by some private money managers, indicates that Chinese officials are eager to counter a rising flight of capital from the country, a worsening slump in real estate prices, a weak stock market and at least a temporary trade deficit caused by a steep bill for oil imports.

Those concerns have evidently started to offset fears of the potentially inflationary effects of big inflows of foreign cash.

Chinese securities officials made a series of phone calls to top fund managers outside China late last week telling them of the relaxation of the capital restrictions, according to several money managers.

But if the fund managers wanted to increase their requested allotments for investing in China, they were told they would have to answer almost immediately — a sign of the government’s haste to come up with a plan to reassure financial markets.

“It literally was phone calls coming in at 4 and you had to give an answer by 5:30,” said the chairman of a financial company heavily invested in China. He insisted on anonymity to avoid offending regulators. Easing the path of foreign money into China could help offset a nascent exodus of investment money there and stem the recent weakness of China’s currency, the renminbi . The renminbi’s weakness is making Chinese manufacturers even more competitive in foreign markets.

Investment executives say officials at the China Securities Regulatory Commission, in coordination with foreign-exchange officials, informed them in the phone calls last week that the government would approve all of their past requests to increase certain types of foreign investments and would even let them double their total invested.

The range of financial institutions with so-called Qualified Foreign Institutional Investor rights in China include big banks like Goldman Sachs and endowment funds like Yale University’s.

Regulators indicated that they would roughly double the overall cap on all foreign investments to about $60 billion, one money manager said; the cap has been $30 billion for several years. Until now, Chinese regulators have dribbled out each increase in authorized foreign investment, a few hundred million dollars at a time.

While still a tiny amount, compared with the combined value of the Shanghai and Shenzhen stock markets or relative to the volume of China’s international trade, raising the foreign investment cap is the latest signal that Beijing is worried about a potentially prolonged weakness in the renminbi.

The issue is politically volatile in Washington, where Democrats and Republicans alike have been calling for a stronger Chinese currency as a way to limit China’s large bilateral trade surplus with the United States.

The American Treasury secretary, Timothy F. Geithner, complained at a Congressional hearing on Tuesday that China still had “some ways to go” in allowing its currency to appreciate against the currencies of China’s main trading partners.

Allowing more foreign money into China could help stabilize its stock market and real estate markets when the country’s political environment is unsettled over the dismissal last week of Bo Xilai as the Communist Party secretary of Chongqing and over the approach next autumn of a once-in-a-decade change in the country’s top leadership.

The Shanghai stock market dropped 1.4 percent on Tuesday and is down 22.2 percent from its high in mid-April last year, although up slightly from its lows in early January.

The government has deliberately engineered a fall in real estate prices to address widespread concerns about housing affordability, and has used mostly administrative tools to do so, like banning most purchases of second or third homes. But real estate developers and investors say the plunge in prices has taken on its own momentum.

China’s securities regulators and a separate government agency, the State Administration of Foreign Exchange, had long been leery of the inflationary effects of being swamped with foreign cash. But that view has reversed in the last several weeks, as the renminbi’s value has slipped in currency markets on very heavy selling in Asian financial centers like Hong Kong.

The renminbi was down 0.5 percent against the dollar from the start of January through the middle of last week. The weakness was initially attributed to weakening performance of the Chinese economy, but investors increasingly see it as a sign of capital flight as well.

The renminbi has recovered in the last few days of trading and is now virtually unchanged against the dollar this year — evidently as word has circulated among top fund managers that more foreign money could soon begin washing ashore in China.

The China Securities Regulatory Commission and State Administration of Foreign Exchange were closed on Tuesday evening and its officials could not be reached for comment.

A raising of the foreign investment cap may not necessarily produce an immediate flow of cash into the Chinese market, bankers cautioned; each fund’s increase in investment rights will require separate paperwork from the foreign exchange agency.

But until now, investment opportunities for foreign capital in China have been so scarce that some investment companies have paid to rent other companies’ rights to invest in China.

The going rate on these investment rents until recently was about 0.6 percent of the value of the Qualified Foreign Institutional Investor rights. So an international company or mutual fund that wanted to hold $100 million worth of stocks on the Shanghai stock exchange would have to pay about $600,000 a year to rent the necessary investor rights.

But the value of those rents has begun to decline as international worries about the Chinese economy have increased in recent weeks. The new doubling of financial investment rights is likely to depress the rents further.

The doubling of rights could help offset a slowdown in foreign investment into factories and other fixed assets in China, as well as a deterioration in China’s trade balance. Slowing foreign direct investment and weaker exports, together with some capital flight from China, has upset the balance of foreign exchange inflows and outflows in China, weakening the Chinese currency.

With more than $3 trillion in foreign exchange reserves, China has more than enough financial firepower to defend its currency against serious attacks on its value by speculators in financial markets. China also controls the spot market for renminbi within China through heavy regulations.

But so many renminbi are now circulating offshore that spot and forward trading have expanded rapidly in Hong Kong and Singapore, posing a challenge for Chinese regulators.

The financial company chairman said that as recently as early last year, it could take him a couple of days to move $500 million into forward renminbi contracts without causing the price to change.

Now this can be done in just 15 minutes, he said, indicating it was a sign of how liquid the market has become and hard it now is for the Chinese government to control it.

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