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Qianhai Special Economic Zone

Testing Ground for a Freer RMB


Testing Ground for a Freer RMB


It's China's smallest special economic zone, an experimental lab for cross-border trade in the renminbi.



Testing Ground for a Freer RMB

By Yi-Shan Chen
From CommonWealth Magazine (vol. 529 )

Is little Qianhai destined to play a groundbreaking role in Chinese history?

Three years ago, Qianhai was just the name of a bay. It sat on the other side of Xiaonan Hill from the bustling business district of Shekou in Shenzhen City, just across the border from Hong Kong in China's Guangdong Province.

Thirty-three years ago, it was in Shekou that PRC chairman Deng Xiaoping chose to kick off his economic reforms. Originally a little fishing village, Shekou became the country's very first industrial zone, an experiment in economic liberalization that changed the nation's destiny.

Now Qianhai has become a special economic zone in its own right, and late last year, newly appointed Chinese party chief Xi Jinping made it a point to visit Qianhai on his first trip to the south.

From the glitzy downtown area of Shenzhen, it takes just a 40-minute drive to get here. Upon being given the destination Qianhai, the taxi driver blurts out in disgust: "That swampy mud hole!"

At 15 square kilometers, Qianhai is China's smallest special economic zone, not much bigger than Taipei City's Da'an District. Most of the zone's surface area did not even exist a few years ago, but was reclaimed from the sea in round-the-clock landfill operations.

While Qianhai is still a vast expanse of undeveloped land and not scheduled for completion until 2020, the special zone is currently a hot topic in global financial media. After Xi took the helm of the Chinese Communist Party last year, the first stop on his first official trip was Shenzhen, followed by Qianhai a day later.

Dennis Chan, senior advisor at Fubon Financial Holding, believes that in Xi's scenario Qianhai serves as a testing ground for financial and legal reforms. Should things go well, the Qianhai experience can be expanded to other regions of China.

"The zone's special feature is its small size. Because it is small, it can easily win approval," notes Chan.

The project, known as the Qianhai Shenzhen-Hong Kong Modern Service Industry Cooperation Zone, was written into the 12th Five Year Plan in 2011. Along with Hengqin in Zhuhai, Pingtan in Fujian, Nansha in Guangzhou, and Xiang'an District in Xiamen, Qianhai has been defined as a "zone within a zone."

Xi single-handedly conceived the Hengqin, Qianhai and Pingtan schemes. Their missions are to attract cooperation and investment from Macao, Hong Kong and Taiwan, respectively. As Hong Kong's counterpart, Qianhai is the only zone that fits the description of a special financial industry zone.

On July 4, Chinese Premier Li Keqiang announced a pilot program to establish a free trade zone in Shanghai. Qianhai is the only other special zone of a similar experimental nature.

RMB Goes International?

Tiny Qianhai owes its wide renown to its role as a testing ground for a politically sensitive experiment: cross-border renminbi (RMB) business.

In the course of economic liberalization, China has all along been most cautious and conservative about its financial services industry. Although government policy aims for the internationalization of the local currency, the People's Bank of China, China's central bank, still strictly distinguishes between offshore renminbi funds, kept for instance in Hong Kong and Taiwan, and onshore renminbi. Chinese companies may issue renminbi-denominated corporate bonds outside of China, popularly known as dim sum bonds or Formosa bonds, after gaining central bank approval, but cannot borrow renminbi from banks overseas.

However, private equity and venture capital funds registered in Qianhai may raise funds from foreigners. Companies or projects based in Qianhai can also take out renminbi loans from Hong Kong banks and can freely issue bonds in Hong Kong without central bank involvement.

These moves toward a freer flow of renminbi funds certainly constitute an important step forward in China's financial reform efforts. In financial circles, Qianhai's liberalization experiments have drawn worldwide attention, because China's loan interest rate stands between 6 and 7 percent, which is two to three percentage points higher than abroad. Thus, with a 100 million-renminbi loan, banks can make an additional 3 million renminbi in interest. That's also one of the major selling points for Qianhai in trying to convince companies to establish headquarters in the zone.

Rong Weihua, business promotion director with the Authority of Qianhai Shenzhen-Hong Kong Modern Service Industry Cooperation Zone, notes that Qianhai has an innovating and pioneering role for Chinese financial reforms as offshore renminbi funds find their way back to China via the zone. Qianhai can position itself most distinctively as a renminbi repatriation mechanism.

Can the presently still deserted and bare Qianhai zone bring new opportunities for the financial industry and the business community as a whole?

Low Business Tax, Strong Incentive

In late July, when CommonWealth Magazine visited the Qianhai Authority's new office, a makeshift structure put together from 330 shipping containers, the brand-new office furniture and interior still gave off a strong formaldehyde odor. Upon entering Rong's office we faced three people sitting on the sofa waiting for the zone's boss. Rong remarked that he had already held six meetings that day and did not feel like doing any more talking, but that he had to receive three more groups of visitors after the interview.

"Qianhai is highly sought after," observes Jean Li, tax partner with the Shenzhen office of KPMP Advisory (China) Limited.

Li notes that the Shenzhen special economic zone, which used to enjoy a preferential corporate income tax of 15 percent, lost a lot of its appeal in 2008 when the central government lowered the business tax to 25 percent nationwide, and canceled Shenzhen's tax privilege at the same time.

The Qianhai scheme has breathed new life into the "special economic zone" model.

In Qianhai, the preferential 15 percent business tax has been reinstated. On top of that, foreign nationals and highly skilled professionals can reduce their individual income tax from 45 percent to as little as 15 percent. As a result, Qianhai is the only low-tax district in Shenzhen.

Chinese-Taiwanese joint venture CR Yuanta Fund Management Co. Ltd. is the first firm run by a Taiwanese fund to set up shop in Qianhai. Its CEO G.H. Lin thinks that Qianhai already makes an attractive investment destination for its low taxes alone. China-based fund management companies are free to do a wide array of business, such as raising private capital and trading in futures. In the future they can take advantage of Qianhai to pioneer cross-border renminbi business, Lin points out.

As of July 20, the Qianhai Authority had approved 1,144 company applications. About 600 of these companies have already completed the registration process. Seventy percent of the registered companies belong to the financial services industry, and the lion's share are equity investment firms.

Still, as long as the Chinese Ministry of Finance has not presented its list of tax incentives, it remains to be seen who gets to enjoy them. "It's for that reason that many companies are taking a wait-and-see attitude," explains KPMG's Li. Companies from the non-finance sector, in particular, are more cautious, because they face comparably higher costs when establishing a presence in the zone.

Many aspects of Chinese policy must be taken into consideration too. While the city of Shenzhen hopes for the full-fledged development of Qianhai, the speed of central government policy decisions is beyond its control. Also, uncertainty over the future development of Qianhai is on the rise, since the central government has not yet managed to present detailed rules and regulations for the envisaged pilot program.

A Trump Card to Keep Hong Kong in Line

Many experts who have been observing the development of Qianhai point out that enthusiasm about the scheme has ebbed somewhat, since the Chinese government is not willing to allow offshore renminbi loans to be used outside the zone and has failed to announce a list of tax incentives. There are two reasons behind such hesitation. On the one hand, the government wants to maintain a regional balance; on the other hand, it does not want to send the wrong signals to nearby Hong Kong.

Kevin Lau, editor-in-chief of Hong Kong's Ming Pao daily newspaper, squarely states that the Qianhai project brings advantages and disadvantages for Hong Kong, which is why the Hong Kong public remains neutral about it. But, he predicts "should Qianhai take away jobs from Hong Kong people, the backlash from Hong Kong society will be tremendous."

A banker with longstanding working experience in China believes that Qianhai and Hong Kong are competitors, even though President Xi keeps reiterating that the two territories will benefit from a win-win situation.

Once Hong Kong residents directly elect their chief executive – an event expected to happen in 2017 – they are less likely to quietly do Beijing's bidding. Under such a scenario Beijing could use Qianhai as a trump card to put Hong Kong in its place.

China's State Council has granted Qianhai 22 preferential measures which almost entirely cater to Hong Kong's six major industries – banking, law, accounting, logistics, telecommunications and hospitals. Qianhai will enjoy tax rates similar to those of Hong Kong and will also adopt Hong Kong's commercial arbitration systems.

The banker CommonWealth interviewed expects China to exploit the Qianhai advantage to keep Hong Kong in line: "If Hong Kong behaves itself, we'll keep Qianhai a bit smaller. If Hong Kong acts up, we'll expand Qianhai."

Despite being the smallest special zone, Qianhai is set to occupy a sensitive position in the financial industry, Shenzhen, Hong Kong, and Zhongnanhai as well.

HSBC Hong Kong CEO Anita Fung:

Xi's Visit to Qianhai Is No Joke

Qianhai is not just a name. In the future it will become a very advantageous onshore support platform for Hong Kong.

The transportation links between Qianhai and Hong Kong are currently being developed. In the future you will be able to travel from Qianhai to Hong Kong's airport in ten minutes. Aside from the financial industry, Qianhai will play an important role in venture capital, logistics, the legal and accounting professions, and human resources training.

At the current stage, offshore renminbi loans can only be granted to Qianhai-based companies and construction projects. But I think there is hope for more flexibility in the future. HSBC already set up a branch (in Qianhai) in July.

It is quite obvious that the Chinese government is adopting a gradual, step-by-step model of liberalization. First it wants to get Qianhai's infrastructure ready and to implement preferential measures. As of mid-June, more than 90 Hong Kong companies had gained approval for setting up shop in Qianhai.

Moreover, many cities in China are applying for free trade zones or special zones. Although the state encourages pilot projects, it must also take care how to allocate these schemes without unnecessary duplication, and how to avoid unhealthy development.

Although the renminbi is supposed to become freely convertible by 2017, I believe it is impossible for China to completely give up controls, given the financial situation of China and the world in the future. China's financial development is a huge job. They need to look for a testing ground. The Qianhai project definitely has government backing. When the chief executive visits Qianhai, it is no joke.

At a forum on Guangdong, Hong Kong and Macao in late June, officials revealed that they are considering allowing individuals in designated cities to transfer renminbi out of the country. Our guess is that Guangdong and Qianhai are highly likely to get the first opportunity. Once Chinese capital can be invested in Hong Kong, a sophisticated market with good risk diversification, research and development of renminbi products in Hong Kong will get a boost.

Translated from the Chinese by Susanne Ganz


Official name: The Qianhai Shenzhen-Hong Kong Modern Service Industry Cooperation Zone

Year of founding: 2010

Amount invested: US$63.7 billion

Unique feature: Special financial zone

Goals: Innovation zone for a modern service industry system; forerunner for close cooperation between Hong Kong and the Chinese hinterland