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The Strategies for China to Become a Financial Powerhouse

{Editor’s Note: Caijing, a leading business and financial media in China, published an article discussing the strategies for China to become a world financial power.

The article stated that there are two situations that create opportunities favorable to China’s rise: developing countries’ dissatisfaction with the current international financial system and the technological advancement of Internet financial services. It then suggests several measures for China to take.

The translation of the article follows.} {1}

I. The Necessity to Become a Financial Powerhouse

China has been the second-largest economy in the world for a number of years. It has been the common goal of a number of sectors in our country to restore China’s super power status. Several factors demonstrate the strength of a nation. They include not only its ability to be effective in mobilizing people, its production capability, and the natural resources within its borders, but also its ability to mobilize those outside its territory. Finance is well suited to play this role.

To be exact, finance can serve the world powers in the following ways:

First, finance is an essential tool for a country to become a powerful nation in the world. Well-developed financial systems facilitate the integration of resources around the world. If a financial system is sufficiently developed, policymakers can use financial arrangements to change the domestic economic structure. It can thus, influence other economies to change their economic structure accordingly, provide liquidity to adversely affected economies, and help weather the storm and smooth consumption. A mature financial system is also an information hub. Today’s society is an information society. One of the important functions of finance is to provide information. An international financial center can keep abreast of all kinds of relevant information. This information advantage provides an invisible strength.

Second, finance is a multiplier of a nation’s power. In addition to helping one’s own country’s economic development, a strong monetary and financial system is also conducive to enhancing the country’s position in international economic and financial governance. If China has a strong financial system, it will not only be able to attract foreign resources to serve our domestic economy; it will also be able to participate in relevant foreign investment projects and will multiply our national strength.

Third, finance serves as a buffer when national power is damaged. When the underestimated or not-fully mitigated risks materialize, (a country can use) financial instruments to mobilize domestic and foreign resources to adjust its economic and financial activities in an orderly manner so as to avoid a disruptive social and economic impact and lessen the damage to the country’s power. This is a manifestation of the financial protection function. For example, when faced with a loss, it can prevent small losses from growing into an economic crisis or from causing a socio-political crisis.

II. Current Status of China’s Financial Sector

The Gross Domestic Product (GDP) from China’s financial industry has risen from 4 percent of the overall GDP in 2005, to 8.4 percent in 2015. It has more than doubled in just 10 years. From the perspective of the size of the capital market, the total market capitalization of domestic listed companies has made China the world’s second largest capital market. Although our country has become a financial power, it has not yet become a great power.

{As to the measures to take}, first, the financial infrastructure needs to be improved. China’s financial industry was developed recently. On the regulatory side, in 1983, the State Council designated that the People’s Bank of China would function as the Central Bank. In 1992, it established the China Securities Regulatory Commission (CSRC); in 1998, it established the China Insurance Regulatory Commission (CIRC), and in 2003, it established the China Banking Regulatory Commission (CBRC). By then, the regulatory mechanism of “one bank, three commissions” had been formed. With the rapid development of China’s financial industry and the increased opening to the outside world, the pace of launching innovative products has been accelerating and the product mix has become increasingly complicated. Most of the financial industries are operating across industries and the current legal and regulatory system needs to be adjusted accordingly.

Second, China’s financial market mechanism still needs improvement. For example, currently the stock issuance system is still an approval system. The listing of Chinese enterprises still faces too many administrative controls and complicated approval procedures. Regulatory intervention occurs in the examination of issuer qualification, issuance scale, issuance time, and even on the time to list. At present, most exchanges outside China use registration systems. Their procedures are more convenient and standardized. In China, it is relatively difficult to go public and there is also a lack of any corresponding delisting mechanism. Both have resulted in many companies buying a listed company (“borrowing the shell”) in order to go public. Speculative buying of these companies’ “shell” has contributed to the chaos and restricted the sound and healthy development of the capital market.

Third, financial intermediaries need to mature and expand. They are the most intuitive part of a country’s financial infrastructure. They are an intermediary for vast numbers of enterprises and residents to engage in financial activities and engage in financial transactions. They are also an important indicator to measure the depth of the financial industry in a country. Compared with securities, funds, insurance, and trusts, the banking institutions account for an absolute majority of China’s financial institutions. However, there is still a long way to go when compared to developed countries.

Fourth, financial information services need to be improved. The Western financial information service market has a long history and a high concentration of monopolies. China’s local financial information service organizations started relatively late. Most of them choose to imitate (Western companies) with some innovations. These organizations have made a good start in China, but they are far from having international influence and reputations.

At present, the government is the regulatory authority monitoring the content of financial information services. For a long time, the regulators in our country generally viewed the financial information service agencies and their contents as a form of media, often neglecting their discourse power, financial security, and other factors. Therefore, on the whole, there is an urgent need to improve the regulatory concept and framework for the content and dissemination of financial information services.

Fifth, there is a certain degree of imbalance in the financial structure. Our country’s financial structure is a typical bank-led financial system. Although China now has a relatively complete system of financial institutions, banks hold the dominant position. This feature is reflected in financial assets and financing. Monetary assets hold an inordinately high percentage of China’s financial assets, accounting for as much as 62 percent of the total, while bonds and stocks account for only 18 percent and 20 percent, respectively. Compared to the U.S. data for the same period, U.S. monetary assets accounted for only 17 percent, while marketable bonds and stocks accounted for as much as 49 percent and 34 percent respectively. From the perspective of amount, indirect financing in China is much higher than direct financing.

Sixth, Renminbi (RMB) internationalization is at a low level. The International Monetary Fund’s (IMF’s) inclusion of RMB in the Special Drawing Rights (SDR) basket of currencies is an important milestone in RMB internationalization, marking the official RMB as the world’s fifth-largest currency and a manifestation of China’s financial integration into the global financial system. However, China’s low level of RMB internationalization does not match its international economic and trade status. There is still a long way to go for RMB internationalization.

Seventh, China has a low voice among international financial institutions. China is one of the founding members of the IMF and the World Bank, but China does not have much say in these two major financial institutions. This can be seen first in China’s voting power. After the voting power reform at the IMF and the World Bank in 2010, China’s shares of the voting rights increased to 6.39 percent and 4.42 percent, respectively and ranked number three in both institutions. However, that is still not high enough (compared to the number for U.S.’ shares). Among the senior management, the number of Chinese executives is significantly trailing those of other major economic powers.

III. Opportunities and Challenges

Of course, China also faces both internal and external challenges in becoming a financial powerhouse.

First, China faces the challenges that financial globalization presents. Financial globalization has deepened global economic and financial integration, which to some extent has affected the independence of China’s economic and financial policies. It has also led to the global spread of financial risks and has impacted the security and financial stability of China’s financial system.

Second, domestic financial chaos and financial shortcomings co-exist in China. In recent years, many innovations have been made in new industries and new businesses in the financial markets. More innovations have improved banking, financial management, and asset management products. Cross-linked financial products have multiple layers and the product chain is long. Financial institutions do not follow regulations when they participate in businesses. All these issues are regarded as financial chaos. Multiple layers and lengthy product chains are common practices that many use in the innovative financial products. They are also common ways either to circumvent regulations or to let the regulatory authorities make money. Investors, including regulators, cannot see the underlying assets and cannot determine risks, thus creating enormous potential perils. In addition, in the past, anti-corruption efforts in the financial sector have always been weak.

However, we also have great opportunities to build China into a financial powerhouse.

First of all, there are major flaws in the existing international financial system that require China to be the solution.

In the current international financial system, the vast majority of developing countries have been marginalized for a long time and are at an absolute disadvantage. Along with the expansion of the emerging economies in the world economy, more and more countries are not satisfied with the flaws and injustices in the existing international financial system. After observing the background of unfairness and inefficiency in international financial institutions, China initiated and led the establishment of the Asian Infrastructure Investment Bank (AIIB). The goal is to promote building interconnection and economic integration in Asia and to strengthen cooperation between China and other Asian countries and regions. Developing countries need enormous sums of money to support their infrastructure construction and economic development. However, the existing IMF and World Bank often do not provide effective support. This provides the exact opportunity for the AIIB to grow and expand.

Second, the rapid development of Internet finance and financial technology has provided China the opportunity to get ahead of other countries.

According to Citibank’s report, during the first nine months of 2016, China’s investment in financial science and technology was about US$ 9 billion, accounting for half of the total global investment. Recent studies by the Standard Chartered Bank and The Economist magazine show that China has a considerable advantage in terms of electronic payments, online credit, and online banking. As for scale, China’s electronic payment scale is far ahead of other countries, accounting for nearly 50 percent of the global volume. In the area of Internet credit, the Chinese market accounts for 75 percent of the global market. China has four of the top five most innovative financial technology companies in the world.

IV. Strategic Planning to Be a Financial Powerhouse

The time is right to step up the strategic planning for China to become a financial powerhouse. China’s transformation of its economic development model and its supply-side structural reform have achieved initial success. The RMB internationalization is progressing. The international community has responded favorably to the AIIB and the “One Belt One Road” initiative.

First, we must formulate a strategy to increase the international competitiveness of our financial institutions in order to safeguard the country’s financial security.

As soon as possible, we should include building a financial powerhouse as part of our national development strategy. (We should) have accurate information about current economic and financial affairs in our country, make scientific top-level designs, learn from the experiences of other advanced countries, and introduce relevant planning and policies, including designs and implementation steps. We should establish a timetable for strategic objectives, key tasks, and a relevant indicator system so as to meet the needs of China’s economic development and international competition.

We should establish support of the real economy as the ultimate goal of financial development, open channels for the flow of funds to the real economy, and improve the efficiency of funds. We should give full play to the decisive role of the market in allocating resources, push forward the reform of the pricing mechanism, deepen the reform of the financial system, including the marketization of interest rates and the reform of exchange rate markets so as to push forward the reform of State-Owned Enterprises (SOEs) and do away with the government’s full responsibility for SOEs.

We should promote the innovation of financial products and services, meet diversified financing needs, broaden financing channels, expand direct financing in the financing structure, develop multi-level capital markets, actively develop the bond market, and regulate the development of the Internet financial market. We should also prevent capital from self-circulation within the financial system, standardize the development of the interbank business and the asset management business, standardize the development of the real estate market, prevent excessive capital inflow into the real estate market, and ensure houses are for people to live in instead of for investors to speculate.

Third, from the aspects of hardware facilities construction and soft environment construction, we should strengthen our financial infrastructure development to ensure the safe and efficient operation of the financial market and its overall stability.

When developing financial infrastructure, construction of both hardware facilities and the soft environment should be carried out in tandem with each other. We should improve the financial industry chain and promote the further, deeper financial reform. We must attach great importance to the foundational role of financial infrastructure in economic growth, institutional change, and risk management and promote it as a supporting system for financial reform. We should not only strengthen hardware development such as a payment and clearing system and credit information system, but also improve the rule of law in the financial sector, social credit environment, financial supervision, pricing mechanisms, and other soft environment. While learning from the experience of international development and meeting the international standards, we must also actively establish Chinese standards and improve our financial system’s international influence.

Fourth, we should, through scientific and technological innovations, greatly accelerate the development of the Internet finance industry, solve the core problems in the financial sector, and speed up the Internet’s transformation of the traditional financial sector.

We should step up innovation in science and technology in the financial sector and optimize new capital allocation efficiency by relying on new technologies such as big data, cloud computing, artificial intelligence, and blockchain. We should strengthen financial risk management, ensure the safety of the financial system, expand the breadth and depth of financial markets, and maintain China’s leading position in the Internet finance industry. We should take advantage of the multiplier effect of “Internet +” to accelerate the transformation and upgrade of the traditional financial sector and improve the overall operational efficiency of the financial industry.

The traditional financial sector should step up its transition to the Internet. By improving management, optimizing services, and innovating products to enhance its own competitiveness, the emerging Internet finance industry should take full advantage of its unique features of small size transactions, popularity, and easy public access, with a focus on inclusive finance in small businesses and in agricultural, rural regions. Internet finance institutions and traditional financial institutions will complement each other, creating submarkets within financial markets, reshaping the financial landscape, and building a financial eco-system that is efficient and convenient.

Fifth, we should promote international financial cooperation, participate in global financial governance, and enhance our discourse power in international financial organizations.

We should improve the autonomy and influence of the RMB and accelerate the process of RMB internationalization. We should also expand the offshore RMB trading market platform, increase the settlement ratio of RMB under the current account, expand the number and scope of currency swap countries, issue more overseas financial bonds and corporate bonds denominated and settled in RMB, maintain the stability of the RMB exchange rate, promote the RMB as an international reserve currency; actively cooperate with developing countries and emerging countries to change the world financial structure gradually under the Jamaica Accords (the U.S. dollar standard) and weaken the hegemony of the U.S. dollar.

We should actively seek pricing power in financial and capital markets and build an international financial center. We should actively participate in global financial governance and become the one who makes the rules of the game in international financial. We should continue to push forward the reform of the existing international financial institutions (such as the IMF and the World Bank), and join hands with countries with no discourse power to engage in dialogue, communication, and game playing with discourse with hegemonic powers, so as to make breakthroughs in areas of the decision-making mechanism, governance structure, loan functions, and resource allocation.

We should make full use of regional financial cooperation mechanisms such as those of the BRICS Development Bank, the African Development Bank, and the East Asian and Pacific Central Bank to enhance our financial discourse power by means of active participation, increases in investment ratio, or aid assistance; and advocate the establishment of new multilateral cooperation mechanisms such as the AIIB and the “One Belt One Road” initiative, to increase our supply of global public goods and enhance our discourse power in global economic governance.

{1} Caijing, “The Strategic Choices for China to Become a Financial Power,” November 15, 2017.