China's central bank has issued regulatory details to monitor cross-border capital flow at the Shanghai free trade zone (FTZ) by asking banks in the city to establish an accounting system that separate transactions in the zone from those elsewhere in China.
The mechanism, called the free trade accounting unit, lays out the systemic arrangement for the free trade account (FTA), which authorities promised to roll out soon. Expectations are that the account will enable capital to move between the FTZ and offshore with less restrictions.
Under the separate accounting arrangement, the FTA can enable capital flow with offshore accounts under prudent oversight from banks and regulators. Meanwhile, moving capital between other onshore accounts and the FTA is still considered as cross-border transaction and is subject to limited access.
Authorities did not specify the factors determining how much access funds from the FTA can be transferred to an onshore account.
"The (separate accounting) system is a tailored platform where many capital account-related transactions are executed. This also features Shanghai FTZ as a special zone and will facilitate China's capital account openness," economists with ANZ Banking Group said in a research note on Thursday.
The central bank has also issued an accompanying document clearly describing risk-control measures for the separate accounting unit. In an effort to insulate risks stemming from activities in the FTA, the central bank asks that all foreign exchange positions resulting from currency conversions under the FTA be squared within the FTZ or offshore.
Zhang Xin, deputy director of the central bank's Shanghai head office, said the separate accounting system is designed to facilitate financial activities that will meet the needs of the real economy.
He also added that the systemic design applies not only to banks, but also to securities brokers and insurance firms that wish to conduct business pursuant to authorities' agenda to push for greater financial opening in the zone.
The central bank issued a 30-point supporting document in December to guide financial reforms in the 29-square-kilometer FTZ. The FTA, according to the document, will enjoy greater freedom in capital movement to facilitate a slew of financial activities that are either restricted or tightly regulated in the rest of China.
This includes direct investment, cross-border financing and foreign capital's involvement in China's onshore capital markets. Since the beginning of this year, authorities have issued operating details for a number of financial reforms dictated in the central bank's financial reform guideline.
Banks in the FTZ can now perform yuan cross-border cash sweeping, pooling and netting for firms registered in the zone. Firms in the zone are also allowed to seek financing from offshore yuan markets, where financing costs are cheaper than the lending rates offered by banks in China.
Restrictions over capital movement under the current account and direct investment are also lifted. Multinational firms can also ask banks to set up a centralized foreign exchange management scheme to deploy funds that are otherwise managed separately by each subsidiaries of a company.
The Shanghai FTZ is also mulling commodity exchanges that invite foreign investors to trade oil futures, gold and other precious metals as well as derivatives in the Chinese yuan. Transactions will also be executed under the FTA, according to central bank officials.
"We expect that China will experiment many new policy initiatives and expand those successful ones to the onshore financial system gradually and prudently, as the (free trade accounting unit) will be operated separately from the onshore financial system," the ANZ research note said.