The government will allow more foreign institutions to sell yuan-denominated bonds in the country and buy foreign exchange with the proceeds to remit the money overseas, Deng Xianhong, deputy head of the State Administration of Foreign Exchange, said yesterday.

China permitted foreign institutions to issue yuan bonds in the country in 2005. Two international financial institutions, the Asian Development Bank and the International Finance Corp, have got the green light to do so but have been told it's mandatory to spend the money in China.

The new move will not only quench the capital thirst of some foreign institutions in China, but also help reduce the country's balance-of-payment surplus, and thus ease the pressure on the government to revaluate the yuan, analysts said.

Some foreign banking institutions need to extend yuan-denominated loans, but they are weak in absorbing yuan deposits, said professor of finance in Renmin University of China Zhao Xijun. "The new move will add to their source of yuan capital."

China slashed quotas for short-term overseas borrowings both by domestic and foreign financial institutions in March. Foreign banks and non-banking financial institutions can borrow from overseas up to only 60 percent of the 2006 level by the end of next March, increasing their thirst for the Chinese currency if they are do renminbi business.

The move will also help reduce China's capital account surplus, Zhao said. The surplus was US$10 billion last year, which, coupled with the country's whopping current account surplus, constitutes the pressure on the government to revaluate the yuan and rein in liquidity in the market.

The measure is similar to China's qualified domestic institutional investor (QDII) scheme, he said, which was launched last April to allow domestic institutions to channel client funds overseas.

The scope of qualified institutions was expanded with the authorities recently allowing banks, brokers, insurers and asset management companies to invest in overseas equities using client money.

Initially, Zhao said, the yuan bonds issued by foreign institutions would be small. But in the long run, they could become sizable to have a substantial impact on the market. "The process should be gradual to avoid risks and shocks."

Some financial institutions with adequate capital and high ratings will be selected first and later other non-financial institutions will be allowed, he said.

During the Asian financial crisis a decade ago, some foreign institutions in Hong Kong had issued bonds to pool in the HK dollar before joining hands with international speculators to dump the currency to attack the financial market of the island.

"It is a lesson we should learn from," Zhao said.

(China Daily August 10, 2007)