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While much attention this year has been focused on the trials faced by China’s stock markets, quiet but significant reforms have been transforming foreign participation in the country’s vast domestic bond market.
July was a landmark month, heralding the freeing up of access to China’s interbank bond market for overseas central banks, supranational institutions and sovereign wealth funds. A set of new regulations scrapped approval and quota requirements.
The measure ranks as one of the most important in a series of steps to integrate China’s bond market, now the world’s third largest with a capitalisation of $4.2tn at the end of last year, into the global financial system. China’s interbank market is where the vast majority of government and enterprise bonds are traded, but foreign participation is paltry with just 2.4 per cent of domestic government bonds held by foreigners at the end of 2013.
China has made it clear that it wants market forces to play a more decisive role in the allocation of capital and that it needs its financial markets to become more efficient and competitive. Underlining this trend, Beijing recently reopened its market for “panda bonds”, in which offshore entities issue renminbi-denominated debt. Two panda issues worth Rmb1bn and Rmb10bn have been executed so far.
Beijing has linked such liberalisations to the internationalisation of the renminbi and its desire to win admission for the Chinese currency into the International Monetary Fund’s Special Drawing Rights (SDR) basket.
But the need for deeper and more liquid capital markets is also crucial for the trajectory of China’s economic reform. Further developing its bond market will help economic growth, improve the allocation of capital and bring down borrowing costs.
A more dynamic bond market also helps lessen China’s reliance on bank lending and frees up Chinese banks to extend more lending to small and medium-sized enterprises.
It will also help meet the big financing needs that come with China’s efforts to reduce the pollution that has accompanied the headlong growth of the past decades and to deliver the environmentally responsible development and clean infrastructures that are needed for China’s urbanisation push in the coming years.
In October, the Agricultural Bank of China became the first Chinese financial institution to issue a “green” bond, (raising a total of $1bn earmarked for environmental projects) in both US dollars ($900m) and renminbi (Rmb600m), making it the first renminbi green bond transaction by an Asian issuer and also the largest US dollar green bond transaction by an Asian issuer.
The proceeds from the offshore bond will be used to fund green projects in six sectors including renewable energy, energy efficiency, sustainable transportation, waste management, sustainable use of land and clean and sustainable water management.
Given the State Council’s promise in September to incorporate ecological conservation into every aspect of economic development, we expect the market for green bonds to grow. We also expect the People’s Bank of China to release official guidelines for the green bond market by the end of the year.
China’s stock markets tend to grab the limelight, but the development of the country’s bond market is no less significant to its financial market reform. For China, opening the doors to more foreign participation is an essential element of a more mature debt market.
The author is global head of capital financing at HSBC