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Large but limited

1 February 2012 By Wei Gu

Shanghai’s stock, bond and spot gold markets are already among the world’s biggest. Yet its new plan to become an international yuan trading centre by 2015 looks too ambitious. Without key changes such as removing capital controls, allowing exchange rate flexibility, and opening up the financial market, Shanghai can be giant but not really global.

The plan, endorsed by China’s economic planning agency, sets a goal of doubling annual transaction volumes before 2015 to $160 trillion, though doesn’t say what that includes. Shanghai already has the world’s third-largest stock exchange by value of share trading, and Asia’s third-largest bond market by value of bond trading. But the markets are still small relative to China’s GDP, and it faces obstacles in growing them more.

First, there are China’s capital barriers. As long as offshore investors have only limited access to onshore markets, Shanghai can at best be a Chinese yuan trading hub. The central bank may be reluctant to tolerate the kind of massive cross-border movements that London, Tokyo and New York see daily, for fear they could overwhelm China’s protected and under-developed financial system.

The yuan needs to be more freely convertible for a global currency centre to develop. Currently, the central bank sets the mid-point of its trading range every morning, and the currency can fluctuate only half a percent either way. It’s Beijing not Shanghai that decides on that, and there is little sign it’s ready to relinquish control.

Lastly, China needs to open up its financial market more for foreign banks. Their assets amount to just 2 percent of the total banking assets in China, and they are allowed only limited access in the domestic bond market. Just a dozen foreign securities firms have got licenses to operate joint ventures in China. That’s a long way from representing a global centre.

Shanghai now has three years to enlist the help of other powerful departments, such as the central bank and securities and banking regulators. They may be drawn to the status of having a global hub, and the idea that Shanghai could set the reference price for yuan-related trades worldwide. But without key reforms, the city’s greatness will be a mainly domestic affair.


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