The Chinese capital markets have been opened up incrementally along with the economic liberalization of the country over the last four decades. Most of the regulatory initiatives have been seen as steps in the right direction, and being largely successful in increasing the exposure of foreign investors in the Chinese markets and also enabling Chinese investors to invest abroad, especially via Hong Kong. A lot has been written in the last couple of years about the emergence of Stock Connect between the Hong Kong Exchange and the mainland stock exchanges in Shanghai and Shenzhen. However, the equity market is just one component of the capital markets of any country, and for China to develop its economy and specifically its capital markets, it is important that the bond markets are also developed continually.
The government and the capital markets regulator, China Securities Regulatory Commission (CSRC), have been working to attain significant policy goals such as modernizing the financial system, projecting China as a global financial center, and cementing capital inflows into the country to compensate for any unexpected large scale outflows. An essential element of this approach has been the greater freedom allowed to foreign institutional investors to participate in the Chinese interbank bond market (CIBM). The Chinese bond market is the third largest in the world, and is growing rapidly, making it quite attractive to foreign investors. But the share of foreign investors in the overall debt holdings is still below 1.5%, as of early 2017. So, while there is progress, there is a long way to go before China can emulate the success of the US, Japan and the leading European markets in terms of the foreign investment into domestic debt markets.
In addition to investing in Chinese debt, foreign firms are also being encouraged to issue bonds in the Chinese market denominated in either RMB or SDRs. There are certain issues that need to be addressed before this route becomes popular, including remittance of proceeds and the ease of obtaining regulatory approval. Over time, it is expected that the concerns of foreign firms will be addressed and the issuance of debt by foreign firms would become a means of deepening the Chinese debt market.
Another important recent regulatory move was the permission given to foreign institutional investors in the CIBM to enter onshore FX risk hedging arrangements with approved Chinese financial institutions. Until recently, foreign investors had to utilize more expensive offshore hedging instruments. But this impediment has now been removed, and will give further encouragement to these investors.
Finally, the Chinese government has recently stated that it will soon allow interlinkage between the bond markets of mainland China and Hong Kong, with a platform similar to Stock Connect. The respective exchanges have already been working to create such a platform. In addition to providing further opportunities to foreign investors, the link is also expected to offer Chinese investors a means to diversify their portfolios through the Hong Kong market.
Altogether, the various measures listed here show the continuous development of the Chinese bond market and the intention to make it attractive to a global audience. While the progress has been gradual, it is credible in how it is taking into account the needs and concerns of investors abroad and at home, and how it has enabled deepening of the domestic debt markets.