Last October, China debuted the Shanghai free trade zone (FTZ). Chinese officials hoped to attract foreign investment into Shanghai’s Pudong district with a free flow of capital, less restrictive business regulations, and market-determined interest rates.
China’s top commerce minister, Gao Hu Cheng, described the new FTZ as part of “a more active opening up strategy” and promised prospective investors the greatest economic reform since Deng Xiaoping championed China’s first FTZ in Shenzhen in 1980.
Since 1979, other special economic zones in China have served as areas where specific products could be manufactured and traded. However, Shanghai’s FTZ was supposed to remove capital account controls and streamline foreign investment restrictions that would allow China to compete more vigorously in the global economy. China’s relaxing of its trade-weighted 4.1 percent tariff rate, for example, was seen as one way to establish an investment hub on the outskirts of China’s largest city.
Despite early optimism and praise from the Chinese government, authorities largely have not proceeded with much of the promised liberalization.
Banks, in particular, hoped to exploit a more flexible financial market. Renminbi exchange on the open market was particularly appealing considering the fixed-currency policies of the Chinese Communist Party (CCP). But while 10 foreign banks have established branches in the FTZ, none of them has received the necessary free trade accounts to operate in the zone. Five Chinese banks, however, have been granted free trade accounts, a strong indication that the Chinese government is hesitant to open up its financial sector to foreign institutions.
The zone has been hamstrung by regulation, and the CCP’s reluctance to relinquish control has caused companies to doubt the zone’s once-promising potential. Previous lists of banned imports were riddled with gray areas that allowed the government considerable latitude to regulate products. Now, however, the list is so extensive that it has dissuaded observers from making substantive investments. Despite the government’s cutting the negative list from 190 items to 139, major barriers to investment were not removed.
More liberalization and fewer restrictions are needed for the FTZ to see results. China’s economy grew at 7.1 percent this past year, its slowest rate in 13 years. If it wants to reap the benefits of a vibrant global marketplace, it needs to open its doors to investment and free trade. China for years has approached liberalization, as Deng said, by “crossing the river by feeling the stones.” However, if it refuses to allow markets to flourish, the other side of the river may be far out of reach.
Jack McKenna and D. Gerard Gayou are currently members of the Young Leaders Program at The Heritage Foundation. For more information on interning at Heritage, pleaseclick here.
