China Trade Doubts May Drive Reform

An analysis by Michael Lelyveld
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An employee counts Chinese currency at a bank in Huaibei, Anhui province on May 2, 2013.
An employee counts Chinese currency at a bank in Huaibei, Anhui province on May 2, 2013.

Rising criticism of China's official trade reports has put pressure on the government to reform its currency controls.

Doubts about government trade figures have been growing since December as the General Administration of Customs (GAC) continues to report strong export gains despite weak demand in China's markets abroad.

Economists greeted the latest trade data for April with a chorus of incredulity after GAC reported that exports of 1.17 trillion yuan (U.S. $190.7 billion) climbed 14.7 percent, while imports of 1.06 trillion yuan (U.S. $172.8 billion) rose 16.8 percent from a year before.

Analysts focused on the export growth, noting it was based largely on claims of a 57-percent surge in shipments to Hong Kong, which were unlikely to be supported by Hong Kong's corresponding import data.

In March, GAC reported exports to Hong Kong jumped nearly 93 percent, although Hong Kong said imports from China increased less than 14 percent, Bloomberg News reported.

Similar patterns persisted in April with mirror trade figures between China and Taiwan. While China recorded export growth of over 49 percent, Taiwan said imports from China actually fell 2.7 percent.

"We continue to notice glaring discrepancies between China and its trade partners' data, and so again suggest caution in interpreting the report," said Societe Generale economist Yao Wei in a commentary cited by the Associated Press.

Counterfeit invoices

Experts have pointed to the practice of submitting false invoices, a longstanding paperwork fraud in China that can serve at least two purposes.

Counterfeit invoices can be used to claim export tax rebates, while invoices with inflated export values can hide illicit inflows of "hot money" for investment and currency speculation, evading the government's capital controls.

In a widely-cited analysis, Royal Bank of Scotland (RBS) chief economist Luis Kuijs estimated that China's exports in April rose only 5.7 percent after adjustment for "overinvoicing."

If that estimate is accurate, it would mean that some $15 billion of hot money may have flowed into China under false invoices last month.

On May 5, the State Administration of Foreign Exchange (SAFE) warned it would increase scrutiny of exporters seeking to hide capital inflows under the cover of trade payments, the official English-language China Daily reported.

"Companies and banks who break the regulations face being fined or closed, and their practices exposed to the public," said SAFE. But the warning came too late to affect the April trade report, issued on May 8.

Hot money

The RBS analysis of overinvoicing appears to support previous estimates of hot money flows returning to China following political fears over the scandal surrounding former Chongqing Communist Party Secretary Bo Xilai.

"Over the course of this year, I wouldn't be surprised if $200 billion was repatriated," Heritage Foundation senior research fellow Derek Scissors told Radio Free Asia last month.

Some of the hot money has been chasing profits from the rising value of the yuan, which hit a record high of 6.1925 to the U.S. dollar on May 9, the official Xinhua news agency said.

The report attributed the appreciation to "excess global liquidity and subsequent capital arbitrage in the Chinese market," noting that "some speculative money may enter China disguised as trade payments."

Scissors said China's actual exports can be estimated as a function of the hot money flows.

"In periods where capital is being returned, and the Chinese know it, I just cut export growth in half until the accumulated difference equals the amount of capital I estimate is returning," he said in an e-mail comment on the April trade numbers.

Considering convertibility

The growing international attention to China's unreliable trade data has put pressure on the government to consider faster reforms of its currency controls to make the yuan freely convertible.

So far, the government has allowed convertibility on China's current account, covering trade, but it continues to restrict convertibility on its capital account for investment and asset flows.

On May 6, the State Council said it would propose a plan this year for capital account convertibility, although the reform may take until 2020 to complete.

On May 11, SAFE created a minor stir with a circular posted on its website, announcing that it would streamline some convertibility rules by abolishing 24 regulations on funds in foreign direct investment (FDI).

The changes affect activities including re-investment of yuan by foreign companies and property purchases by foreign individuals, Bloomberg News reported.

Vigorous debate

But even modest moves have sparked a vigorous debate. Some Chinese economists fear that full convertibility could lead to uncontrollable outflows in hard times, risking a social and political crisis.

"China should not rush to fully give up capital control," said Yu Yongding, an economist at the Chinese Academy of Social Sciences, according to Xinhua.

"We're in a time of economic and financial uncertainties, and the capital control is a firewall. Although the firewall is leaking, it's better than not having one," said Yu.

Such concerns could delay full convertibility for years and keep trade figures subject to rough estimates until capital flows subside.

But if hot money keeps moving into China at the current pace, appreciation pressure on the yuan could blunt China's competitive edge and export growth.





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