Nov 23, 2016 04:33 PM

Regional Exchanges Challenge Vision of Market Unity

(Beijing) — China's long-standing crackdown on unregulated local exchanges, which has yet to make any major progress, has encountered a new hurdle — unruly local authorities.

Local governments in Beijing, Shenzhen and Wuhan have recently set up their own platforms for trading bills of exchange, a move that challenges the central bank's intention of unifying the market through the launch of a national trading center.

At least eight more trading platforms for bills of exchange will open soon in other cities, including Chongqing, Guiyang, Hangzhou and Qingdao. These regional trading centers are all backed by state-owned assets, approved by local governments, and under the supervision of local financial regulatory offices.

Earlier this month, the People's Bank of China issued a document saying that a trial run of a national trading platform for bills of exchange will start on Dec. 8. The move is a bid to integrate the market and curb fraud and risks created by fake documents, multiple sales of single bills, and opaque trading information.

What has prompted local governments to jump the gun is a desire to establish their own exchanges. With just a few computers, some financial expertise and an office, one can set up an exchange in China with limited initial funding. For example, Qilu Commodity Exchange in Qingdao, founded in March 2014, has registered capital of 55.6 million yuan ($8.1 million), and other local trading platforms have been established with less than half that amount.

"The idea of having an exchange appeals to local governments as it generates high yields with low costs," a local government official said.

The profits made by local exchanges mainly come from commission charges on listing new products and on completed transactions. "Listing a new commodity, such as a certain kind of wine, requires a payment to be made to the exchange, rather like getting a permit," said a commodity exchange trader.

Since current assessment of local government achievement still hinges on gross domestic product, bolstering regional economic growth has become a top priority, and some local exchanges are now major contributors to government revenue.

Liu Guangxi, the director of the Yunnan provincial government's finance office, said last year that Fanya Metals Exchange in Kunming, the provincial capital, had paid 1.1 billion yuan in taxes since it started business in 2011, and added that the provincial government would always support the metals exchange.

But Fanya ended up as one of the country's first and largest illegal fund-raising scandals when 220,000 investors failed to recover 43 billion yuan they had invested in a Fanya-backed wealth management product known as Rijinbao ("Daily Golden Jewelry"), which loaned money to the purchasers of metals and promised an extraordinarily high annualized return rate of nearly 14%.

"Fanya channeled funds it raised from investors across the country back to the province. That's what made the local government happy and why it protected it," said a senior financial market regulator who asked to remain anonymous.

And Fanya is not alone. Similar wealth management products have been sold by a plethora of local exchanges, and about 1,000 of them have come under regulatory scrutiny.

At present, the China Securities Regulatory Commission (CSRC) is the regulatory authority for the Shanghai and Shenzhen stock exchanges; three commodity exchanges in Shanghai, Dalian and Zhengzhou; the China Financial Futures Exchange, also located in Shanghai; and the Beijing-based National Equities Exchange and Quotations, effectively China's capital market for unlisted startups. In addition, the CSRC offers supervisory guidance to 40 regional equity exchanges approved and set up by local governments.

What poses a real risk are the hundreds of ill-regulated local trading platforms for products as diverse as fine art, commodities and financial offerings.

The central government's efforts to rein in the unruly exchanges date back to 2011, when the State Council, China's cabinet, decided to set up a task force under the securities regulator to clean up exchanges engaging in risky investment activities.

Apart from the stock exchanges and other exchanges approved by the State Council, no others were allowed to list new shares, organize call auctions where buyers and sellers can bid prices, or create markets. In addition, the number of investors allowed to hold stakes in a single traded asset was limited to 200.

After three years, 29 provincial-level governments and five cities with independent fiscal planning status had completed the cleanup process by the end of September 2014, leaving Yunnan and Tianjin as the only two provincial-level governments still under regulatory inspection.

A source from a financial assets exchange in Tianjin told Caixin that the cleanup process in Tianjin was expected to end in April.

By the end of September, securities regulators had identified 369 cases, 54 of which were referred to police and 78 to business regulatory authorities, said Chen Bofeng, a CSRC official.

But only two cases have resulted in prosecutions and only seven people have been convicted, as few local courts in China have expertise with futures-trading cases, Chen said.

Now the task force has begun a new round of surveillance in conjunction with local governments and securities regulators.

But a source close to the task force acknowledged the difficulty in pushing ahead with the scrutiny, as many exchanges were approved and under the protection of local governments.

"Many things were not sorted out in the last round, and the new wave of crackdowns will also prove extremely hard," the source said.

Contact reporter Dong Tongjian (; editor Kerry Nelson (

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