In Reversal, Cash Leaks Out of China


This article is from THE WALL STREET JOURNAL

Updated October 15, 2012, 10:39 p.m. ET

China, once a catch basin for the world's money, is now watching cash stream out.
Wealthy Chinese citizens are buying beachfront condos in Cyprus, paying big U.S. tuition bills for their children and stocking up on luxury goods in Singapore, frequently moving cash secretly through a flourishing network of money-transfer agents. Chinese companies, for their part, are making big-ticket foreign acquisitions, buying up natural resources and letting foreign profits accumulate overseas.

China hasn't reported on capital inflows and outflows since last year, but it is possible to gauge more recent flows using trade data, foreign-exchange reserves numbers released Saturday and other economic statistics. A Wall Street Journal analysis of that data suggests that in the 12 months through September, about $225 billion flowed out of China, equivalent to about 3% of the nation's economic output last year.
"We all noticed what we suspected, which is that there was significant capital flight," says Michael Pettis, a finance professor at Peking University who witnessed capital flight up close in his previous career trading Latin American distressed debt. "It's not a good sign when local businessmen begin to think it's better to take money offshore, especially when the world economy is in such bad shape."
China officially maintains a closed capital account, meaning it restricts the ability of individuals and businesses to move money across its borders. Chinese individuals aren't allowed to move more than $50,000 per year out of the country. Chinese companies can exchange yuan for foreign currencies only for approved business purposes, such as paying for imports or approved foreign investments.
In reality, the closed system has become more porous and the rules are routinely ignored. "The wealthy in China have always had an open capital account," says Eswar Prasad, a Cornell University economist and former International Monetary Fund official.

Zheng Nan recently spent €300,000 ($390,000) on a beachfront condo in Cyprus. At 50 years old, he says he is retired from selling telecommunications gear in China for foreign manufacturers. "My plan is to spend winter there because of the pollution in Beijing," he says. "And we will be back for summer."
China's $50,000-a-year limit on moving capital out presented a problem for him. He says he got around the restriction by recruiting friends to move chunks of his money under their own names. Real-estate agents in China say that is a common practice that is largely tolerated by authorities.
For years, China's economy benefited from large flows of cash into the country from exports and from foreign investors. Incoming dollars were exchanged for yuan at China's central bank, putting more yuan into the economy. That made it easier for banks to lend and companies to grow, but it also stoked inflation and contributed to real-estate and stock-market bubbles.
When money leaves, that system swings into reverse, and there is less money available to fund growth. The outflow of money began to pick up in mid-2011, when concern about slowing economic growth, stalled yuan appreciation and falling stock and real-estate prices made holding cash in China less appealing. Money has left China before, most recently during the financial crisis, when outflows peaked at about $110 billion in the 12 months ended March 2009, the Journal's calculations indicate.
The outflow helps explain why China's banks have been slow to increase lending this year. Accelerated outflows might force China's central bank to push the yuan to appreciate more strongly against foreign currencies, to encourage Chinese investors to keep their money in the country.
The State Administration of Foreign Exchange, part of China's central bank, said in a statement that China experienced "a certain degree of capital outflows" in the first half of this year. It attributed the outflows largely to more investment overseas by Chinese companies and individuals. It said it wasn't concerned that the outflows could destabilize the economy.

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