On December 2, an executive meeting of the State Council presided over by Premier Li Keqiang, deliberated over the next steps for financial reform and opening up following the yuan's inclusion into the SDR basket. The meeting deployed pilot projects to carry out financial innovation in several qualified cities.

Financial reform test fields designated by the State Council meeting have their own features. Taizhou in east China's Zhejiang Province will establish an experimental site consisting of financial services for small and micro businesses to help ease their funding difficulties, while northeast China's Jilin Province will focus on financial services for rural areas.

Meanwhile, south China's Guangdong free trade zone (FTZ) is designated for investment and trade facilitation to intensify the region's cooperation with Hong Kong and Macao. North China's Tianjin FTZ will give top priority to developing financial leases to back up the "going global" strategy of China's equipment manufacturing industry. In addition, southeast China's Fujian FTZ shall push forward cross-Straits financial cooperation.

Invigorating the financial markets has long been the focus of the Central Government. Reforms can only be pushed forward when the central and local governments are both motivated.

China's progressive reform has scored remarkable achievements, which outline a system of "trials first, nationwide adoption later." This could contain any risks that may arise from the changes within a certain district, and win over the most amount of approval from within the old system. In a certain sense, when carrying out financial reform, we need both momentum and systematic arrangements.

However, as the reform goes into uncharted waters, there are fewer and fewer measures that will please everyone in society, especially when economic growth faces mounting downward pressure. Although Chinese society shares a consensus and a strong desire for pushing forward in-depth institutional reforms, in reality, it is impossible to put some reform measures in place. Right now, the biggest obstacle for reform is a lack of momentum.

Local governments are typically reform-minded since they constantly face practical problems and feel the urgency to tackle these issues. To solve them, local governments should have the guts to carry out the improvements in the spirit of innovation.

The pilot programs designated by the recent State Council meeting send an important signal: China's reform is driven from the bottom to the top.

Reform is an inevitable trend in China. Some measures, such as market-oriented interest rate and exchange rate changes, have been carried out by the central authorities without pilot programs in cities. But it seems that some other reforms, such as outbound direct investments and yuan convertibility under the capital account, will be pushed forward following local trials. Now, for instance, is not the right time to open up the capital accounts, a disputable issue, given China's slowing economic growth. The reform should make steady progress while maintaining stability.

China is pressing ahead with more financial reform trials in experimental areas such as the Shanghai FTZ and Shenzhen Qianhai in Guangdong. These trials include the Qualified Domestic Individual Investor (QDII2) program, cross-border two-way investment and allow individuals to set up capital accounts. Valuable experience can be gained by allowing the FTZs to carry out the trials that can then be used for large-scale adoption later. In terms of cross-border securities investments, Premier Li said the Shenzhen-Hong Kong stock connect program will be modeled after the Shanghai-Hong Kong stock connect scheme.

Admittedly, the more a country's financial market is opened, the more uncertainty there is. One of the reasons for the slow progress in convertibility under the capital account is due to concerns over macro-risks.

Zhou Xiaochuan, Governor of the People's Bank of China, the central bank, once emphasized that China will adopt managed convertibility, meaning that the country will continue to supervise transactions under the capital account after the yuan realizes full convertibility. This will be done to limit the risks of cross-border capital flows, maintain a stable yuan exchange rate and safeguard the financial environment. Zhou said that the controls over the capital account will be enforced when cross-border financial transactions are related to or used for money laundering, funding terrorism and excessive use of tax havens. The central bank will also adopt macro-prudential regulation over foreign debt and appropriately manage the flow of short-term speculative capital and temporarily control the capital account when balance of payments problems occur.

Wang Xiaoyi, Deputy Administrator of the State Administration of Foreign Exchange, said China will realize convertibility under the capital account step-by-step to make sure the risks are manageable. Wang said economic fluctuations won't impact the major direction of China's reform or the opening up of the capital account, though there is no specific timeline for rolling out the QDII2 program.

In a nutshell, reforms are needed for China's future development. Only when the Central Government gives support or tacit acknowledgment to local reforms can China gain new momentum for change. The Central Government has attached great importance to bottom-to-top financial reforms and opening up, which will not only ignite a passion for reform, but also encourage grassroots innovation.

China will have greater participation in the drive toward globalization and gradually become an influential investor in the global market. To adapt to this change, China should unswervingly press ahead with its capital account reform and opening up. As the market opens wider, greater attention should be paid to the impact overseas capital has on the country's domestic financial security.

This is an edited excerpt of an article written by Zhou Zixun, a financial commentator, published in Securities Times 

Copyedited by Bryan Michael Galvan

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