While Beijing has been damming up official channels for money to leave China, more than ever is leaking out through shady means as investors flee the country’s slowing economy and weakening currency.
China’s official foreign exchange reserves fell more than US$500 billion last year and are still falling, with a loss of about US$46 billion last month alone, and the International Institute of Finance think tank estimated that outflows doubled in the September quarter to more than US$200 billion.
To stem the flows, Beijing has frozen or restricted its main schemes allowing wealthy individuals (QDLP) and financial institutions (QDII) to invest overseas, and lawyers have noted a sharp slowdown in the approval process for large overseas direct investment (ODI) deals.
“Fresh new QDII quotas have been broadly halted, ODI investments involving large amounts of foreign exchange remittance are taken on a case-by-case basis and the QDLP scheme is undergoing a slowdown,” said Yin Ge (葛音), counsel and head of financial services practice at Clifford Chance LLP in Shanghai.
Industry executives said there is no likelihood of any thaw in the coming months, so investors are seeking other means to get their cash out, such as faking trade transactions through Hong Kong.
“The growth in the sheer volume of such transactions going through such channels means that even though more suspicious transactions are being caught by financial institutions, they represent a tiny fraction of the overall volumes of fake trade invoicing,” said Alicia Garcia Herrero, chief economist at Natixis in Hong Kong.
Official efforts to curb outflows have been extensive.
Two executives at separate fund management companies in Hong Kong said the QDLP program, halted since March, is likely to stay that way until the middle of next year, according to briefings with government officials.
For cross-border transactions above US$50 million, government officials are demanding personal visits from investors to the offices of the Chinese State Administration of Foreign Exchange, the country’s foreign-exchange regulator, or asking them to pay by installments.
And they are bearing fruit.
Outbound Chinese mergers and acquisitions in the September quarter have fallen by more than half to US$38.4 billion from the March quarter, according to Thomson Reuters data, and from US$42.5 billion in the June quarter.
Investment-linked insurance products, some offering returns of 6 to 7 percent, became an attractive alternative, with Chinese accounting for more than half of American International Assurance Co’s annualized new premiums in Hong Kong and similar figures for rival Prudential PLC.
However, Beijing is also clamping down on that avenue, with China’s biggest bank card provider, China UnionPay Co (中國銀聯), last month tightening regulations over how customers can use its debit and credit cards to buy insurance products in Hong Kong.
Jolyon Ellwood Russell, partner at lawyers Simmons & Simmons, said international anti-money laundering monitor Financial Action Task Force had identified four main channels to take money out of China: cash smuggling in vans, finance channels, trade and shadow banking.
“The recent yuan weakness has meant that they are being used heavily,” he said.
With finance channels closing, fake trade invoicing has grown — as demonstrated by a growing gap between figures for Chinese imports from Hong Kong and Hong Kong’s exports to China, which ought to be equal and opposite.
Chinese importers overpay for goods from Hong Kong, the buyer declaring a larger figure to Chinese authorities than the seller declares in Hong Kong, with the difference parked in an offshore bank account.
A three-month moving average to end-September shows the unexplained gap represents 70 percent of the total trade between the two, reaching its highest level this year of US$1.4 billion, according to Thomson Reuters data.
Authorities have stepped up their monitoring of cross-border trade transactions in recent months, Shanghai-based Z-Ben Advisors (哲奔諮詢) analyst Johnny Fang (方川) said.
The Joint Financial Intelligence Unit, an outfit comprising police and customs officials in Hong Kong, received 59,732 suspicious transaction reports in the first three quarters of this year, doubling from the same period last year.
The influx of Chinese cash is also causing problems for Hong Kong authorities, distorting asset prices in the territory.
“[It] explains the outperformance in Hong Kong stocks and property relative to global peers, and that is likely to continue,” Herrero said.
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