Deluge of hot money could burn markets
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But China's economic growth looks set to continue, and as such the country is likely to become an even more attractive opportunity for foreign investors.
How can China stop hot money flowing into its economy?
The most obvious answer is capital controls, restrictions of the movement of capital across a country's borders. However, there is little practical evidence to support the efficacy of these measures.
China already has some of the tightest capital controls in the world, and these seem to have been unable to prevent last month's inflows.
Furthermore, any measures taken must be designed to discourage hot money without punishing desirable FDI that will yield sustainable long-term benefits.
As John Gong, associate professor at University of International Business and Economics in Beijing, points out, "Sticking to the existing?system is a double-edged sword. On the one side the system seems to be able to fend off the deluge of hot money coming in, but its effectiveness is doubtful."
Chinese economic planners also find their hands tied by the institutional arrangements surrounding the yuan.
With free-floating currencies, hot money inflows are often moderated naturally by consequent currency appreciation.
However, as with the currencies of other emerging nations, the yuan is maintained on a so-called crawling peg which reduces the impact of this natural rebalancing.
The Chinese government finds itself with limited tools for direct intervention to control hot money inflows. For this reason, Professor Gong concludes, "it is resorting instead to ad hoc, piecemeal measures, the effectiveness of which is very much in doubt."
Overall, then, China finds itself in a tricky position regarding hot money. Unquestionably, it will be forced to find more effective ways to regulate capital inflows. There are a variety of structural reforms by which it can do this.
Currently, foreign investors can find regulations to be oblique and inconsistent, something that tends to ward off serious investors but encourages the less scrupulous ones.
Furthermore, it is important that the government continues with its policy of steadily liberalizing the yuan, developing it into an international currency as befitting of China's increasingly integral role in the global economy. To cement its status as a top-drawer international economy, China needs a first-rate international currency.
China's hot money problem seems unlikely to subside in the near future. However, if the government takes the bold policy steps necessary rather than piecemeal action, these pressures can be managed and FDI can continue to play a positive role in China's economic development.
The author is a Beijing-based British freelance writer specializing in Chinese political economy. forum@ globaltimes.
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