On August 6, 2008, the Regulations of the People’s Republic of China on the Management of Foreign Exchanges (“the Regulation”) completed an in-depth amendment process making four major changes to the duties of the State Administration of Foreign Exchange (SAFE) and rules related to the State’s foreign exchange system. The main principle is to introduce balanced management of inflow and outflow of foreign exchange funds and to leave room for further policies on capital outflow.

The four major changes are as follows:  

A. More balanced management. The central government applies looser foreign exchange control with Chinese enterprises earning money from foreigners (this is different from their conduct in the past). The authority permits that foreign exchanges be saved outside China under some restrictions. In addition, foreign currencies will also be under inspection related to their inflow;

B. A reasonable exchange rate system. The regulation changes the pegging currency from solely US dollars to a diversity. It also provides legal provisions to support the new policy;

C. An emergency system established. It is to safeguard the balance of international payment in order to inspect cross-border capital flows. According to the WTO rules, when there is or may be severance within the balance of international payment and crisis in the national economy, the government is allowed to carry out some necessary measures to control the situation;

D. A chapter of supervision added. More power is vested to the agency, and some procedures formulated. SAFE is, for the first time, empowered to investigate and collect evidence on related issues according to the regulation.

On August 6, 2008, the Legal Affairs Office of the State Council, People’s Bank of China and SAFE jointly held a Press Conference to explain the background and necessity of the amendment. The three main points are as follows:

1. China has been reforming its financial system.  It’s time to exchange the current items freely so enterprises can engage in foreign exchange;

2. A fundamental change in China’s balance of international payment is that the foreign exchange has become overabundant;

3. China is rapidly developing on a global level, so it is necessary to establish an emergency system to avoid potential risks and supervise capital flows.

The Regulation still faces issues. It aims at distributing money to civilians to ease the pressure resulting from foreign exchange risks. This money is referred to as "hot money."  It is uncertain as to how this "hot money" enters into China.  But as the Yuan appreciation continues, civilians continue to use this money at their discretion. It is a fatal defect of the Chinese foreign exchange control system which cannot be corrected simply by any single amendment. The Regulation cannot make effective changes to the current situation without the help of established rules.

In conclusion, the Regulation is a symbol for the reform of Chinese foreign exchange management system, which is sure to have a significant influence on cross-border capital flow. However, it still needs to be worked through.