New Management for China's Vast Foreign Reserves

By staff reporter Ling Huawei

China's powerful central bank is about to lose its solitary grip on the country's vast stockpile of foreign reserves.

In a major policy shift, the State Council decided recently to create a new, state-owned corporation to oversee investment of the country's more than US ＄1.07 trillion in foreign reserves, a treasure trove that, according to some estimates, could nearly triple to US ＄2.9 trillion by 2010.  

The decision was aimed at settling debates over how to best manage a ballooning portfolio of foreign reserves currently controlled by SAFE Investments Ltd., the special investment arm of the central bank.  

Although SAFE Investments' future role remains unclear, sources told that the yet-to-be-named investing company will be staffed by Ministry of Finance officials, central planners from the National Development and Reform Commission (NDRC), and central bank chiefs. 

Deputy Finance Minister Lou Jiwei is tipped as a top candidate to lead the new entity, a move that could give his ministry special clout in the competition for investment supervision. The chain of command also includes a board of directors that will report directly to the State Council. 

Of China’s total US＄ 1 trillion foreign reserves, financial experts say, between US ＄200 billion and ＄400 billion is available for long-term investments.  

Architects of the investment company, which has yet to be formally named, are apparently trying to confront risks and uncertainties surrounding ongoing efforts at exchange rate reform, which is critical to China's foreign trade relations and its enviable status as the world's largest holder of foreign reserves. 

But it's unclear whether the new investment company will settle questions about foreign-reserve management. For example, it's uncertain whether SAFE Investments will be incorporated into the new company, or become one of its subsidiaries. Moreover, the same policy conundrum that the central government encountered while defining the nature of SAFE Investments is likely to again trouble Lou and his team of officials: should the company be a for-profit business entity, or should it take on some of the government’s financial responsibilities, such as bailing out failing financial institutions?  

In terms of where and how to invest its foreign reserves, China has so far largely followed the pattern set by Japan, a former international leader in foreign reserves whose strategy relied on conservative investments, mainly in the form of bonds issued by the United States and other overseas governments.   

Still, the formation of a new agency breaks with a tradition dating from the birth of SAFE Investments in late 2003, when the government went along with a central bank plan to infuse foreign cash into state-owned banks.  

The idea was to restructure poorly managed banks stuck in a muddy mess of non-performing loans. For example, SAFE Investments pumped US ＄22.5 billion each into the faltering Bank of China (BOC) and the China Construction Bank (CCB). The money came from a pool of US ＄60 billion it received from the central bank. 

The cleanups began in 2004 with the appointments of top regulators close to the central bank. Wang Jianxi, former assistant chairman of the China Securities Regulatory Commission (CSRC), was tapped as SAFE Investments' board chairman while Xie Ping, director of central bank’s Financial Stability Bureau, was named general manager.  

A few months later, a SAFE Investments board meeting began with the resignation of CCB president Zhang Enzhao, making it eminently clear that the central bank's investment manager meant business. 

SAFE Investments formed separate groups for cleaning up BOC, CCB and the Industrial and Commercial Bank of China (ICBC). That mission was accomplished with the banks' stock listings, including ICBC's successful launch of the world's largest initial public offering last year. 

But while SAFE Investments rested on its laurels, the finance ministry was jockeying for a power position and a leading role in both foreign-reserves investment and bank restructuring. 

The ministry was the first to propose a financial assets regulatory commission to handle foreign reserves. Central policymakers, however, rejected the proposal, arguing that nothing could top SAFE Investment’s proven strategy, which had worked so well for the rescued banks.  

Meanwhile, several other ministries were drafting their own plans for using foreign cash. Among other things, they called for using the ever-fatter reserves to bail out industries, stock strategic resources, reform health care and boost pension funds.  

Some ministry suggestions may have been accepted for the new agency. has learned that policymakers gave a preliminary green light to NDRC’s suggestion to use reserves to prop up certain industries and enterprises. NDRC has a list of several dozen enterprises that could be eligible for investments. 

Until now, SAFE Investment's system for circulating foreign reserves followed a trail blazed by Singapore's government investment company Temasek. For example, the Chinese adopted Singapore's corporate-governance procedures, such as management by a board of directors that includes independents.  

Yet SAFE Investments lacked the standards written in a charter for 33-year-old Temasek, which clearly spells out its role, responsibilities and relationship with the Singapore government. The charter requires Temasek to operate like a standard company but with government supervision through a board. And since Singapore launched privatization in 1985, Temasek has been banned from competing against private companies. 

SAFE Investment’s system is far more complicated. So far it has operated without regulation or legal supervision. 

Its fuzzy methods surfaced in 2004, when the government made SAFE Investments use foreign cash to rescue sinking securities brokers whose illegal trades led to bankruptcy.  

The bailouts of state-owned commercial banks such as Bank of China, China Construction Bank and the Industrial and Commercial Bank also caused confusion. Later, SAFE Investments promised to stay clear of “commercial operations.” 

Today the central bank's investment arm still suffers from an identity crisis that may linger even after the switch in foreign-reserves oversight. 

If SAFE Investments survives, it will probably have to cut ties with the central bank. The bank, in turn, is expected to sell some foreign reserves to the finance ministry in behalf of the new agency. The ministry would raise capital for the purchase by issuing bonds, thus resolving controversies over foreign-reserve ownership and distancing the central bank from the new entity. 

Yet the changeover itself has attracted doubters who think that, with so much money at stake, any new management structure will be subject to change. 

One source told , 'The stage and actors have been confirmed, but there is no playwright to direct the plot. Therefore, anyone can make indiscreet comments or give random orders during the process.” 

English version by Zhu Hongbin and Eric Johnson