Download B-shares and the Mainland`s Monetary and Banking Systems

B-shares and the Mainland’s Monetary and Banking Systems
The removal of restrictions on the holding of B-shares should have a generally
positive effect on the development of the Mainland’s monetary and banking
systems.
Readers are aware of the recent move by the Mainland authorities to remove
the restrictions on local investors in participating in the B-share market. The
likely effects of this change on the monetary and banking systems in the
Mainland should not be overlooked.
On the monetary front, for as long as there is, or is perceived to be, a higher
rate of investment return on B-shares denominated in US dollars and Hong
Kong dollars, compared with the return on RMB assets, particularly A-shares,
there will be greater demand among residents for those foreign currencies. But
this effect is likely to be of a one-off nature, because the higher rate of
investment return in B-shares, brought about by the recent change of policy, is
one-off. If and when the previously depressed prices of the B-shares converge
with those of the A-shares, the residents’ demand for foreign currencies should
return to normal.
In any case, according to the banking statistics of the
Mainland, residents’ foreign currency deposits currently amount to about
US$75 billion, which is almost 10 times the market capitalisation of the Bshare market. New investment money from residents in the B-share market is
likely to come mainly from these foreign currency deposits in the form of a
portfolio shift rather than from RMB sources.
The speed with which price convergence is achieved, however, may be
inhibited by the fact that A-shares and B-shares of the same companies are not
transferable and by the absence of currency convertibility between the
investment proceeds of residents derived from the two markets.
In other
words, there is no scope for arbitrage, at least theoretically. However, there
seems to be an understanding that, even before the change of policy, the
ownership of B-shares was predominantly in the hands of residents. This,
coupled with the substantial amount of foreign currency resources available to
them, in the form of legitimate foreign currency deposits, does indicate some
scope for residents to take rational decisions on the basis of the different rates
of return available in the A-share and B-share markets. This should in time
result in significant convergence. But it is difficult to estimate how long it will
take. So, in the meantime, residents’ demand for foreign currencies is likely to
be higher than would otherwise be the case. Indeed, the sudden jump, albeit
small, in the exchange rate in the “grey market” is a good indication of the
underlying forces at work. This should, however, not be a matter of great
concern, for we are talking about small numbers and a temporary phenomenon.
On the banking front, the change of policy may have implications for foreign
currency liquidity management for the commercial banks. Hitherto, the banks
have enjoyed a monopoly over foreign currency funds of residents. The policy
change opens up an alternative channel for residents for investing their foreign
currency savings. This will entail a different behaviour among depositors,
involving more active use of their foreign currency savings, possibly
manifested in more frequent withdrawals and hence a need, on the part of the
banks, to maintain more liquidity in order to meet such withdrawals. I am sure
the banking regulator and the commercial banks in the Mainland are alert to
this implication, and are in a position to manage the risks arising therefrom
prudently. Their success in doing so will facilitate what, to me, is a rather
promising beginning, on the Mainland, of the type of foreign currency financial
intermediation that is a common and helpful feature of any open and modern
financial system.
Joseph Yam
8 March 2001