A DECADE OF SPLENDID ACHIEVEMENTS---ON THE TENTH ANNIVERSARY OF THE CFETS

Since its establishment in 1994, the China Foreign Exchange Trade System (CFETS), also known as the National Interbank Funding Center, has achieved a decade of outstanding results as an intermediary agency for China's interbank foreign exchange, RMB funding, bond and commercial paper (CP) markets -- four important components of the country's financial market system. The establishment, reform and development of these markets are successful paradigms of China's financial market construction, reflecting the developing path of China's economic and financial reforms.

According to the regulations made by the People's Bank of China (PBC), the CFETS has the following main functions: organizing and providing systems for interbank foreign exchange trading, interbank lending and bond trading; handling settlement and clearing of FX trading; supervising the clearing of interbank RMB funding and bond trading; providing a system for online CP quoting; offering information on the FX, bond and money markets; and engaging in other businesses authorized by the PBC.

Emerging as the times demanded

In 1994, China's FX administration system experienced dramatic reforms, abolishing management of FX retaining, submitting and quotas, instead implementing an FX sale and purchase system. Under such circumstances, the CFETS emerged as a national unified interbank FX market as the times demanded. The CFETS was designed to provide an FX trading system, to organize national interbank FX trading, to clear FX trading, and offer information services.

Before the debut of the CFETS, China had over 100 local FX swap centers with varied prices. At the end of 1993, the State Council decided to further reform the FX administration system and set up an interbank FX market.

The establishment of the interbank FX market changed the situation of segmented markets with different exchange rates and laid a foundation for a single, managed floating exchange rate regime based on market supply and demand.

The RMB had appreciated from 8.7 (RMB/USD) to 8.3 at the end of 1996; the FX reserves rallied from US$21.2 billion at the end of 1993 to US$105 billion at the end of 1996. The Governor of the PBC declared in a letter to the IMF that the RMB was convertible under current accounts in China as of December 1, 1996. Practices have proved that the interbank FX market has forcefully guaranteed the implementation of the FX sale and purchase system, and provided a platform for the central bank's intervention. It has facilitated the stability of the exchange rate, smoothed the shift from direct macro adjustments to indirect patterns, constituted a market basis for further reform of the FX regime, and promoted the realization of convertibility of RMB under current accounts.

Under the dedicated leadership and support of the PBC, the SAFE and the Shanghai municipal government, and with joint efforts of the CFETS members the CFETS has recorded sound and smooth operation of its FX trading system, with increasing trading volume and a steadily rising RMB exchange rate over the past ten years.

Market construction

The CFETS has three pillar businesses: FX trading, interbank lending, and bond trading. In order to solve the 1996 problems of fund segregation by different localities and overly high funding risks, the PBC, seeing the successful experiences of the FX market, decided to set up an interbank lending market to serve all financial institutions electronically on the CFETS framework. After that, a national interbank bond market was also established in 1997.

China's interbank lending market experienced a tortuous path of development. The PBC, after functioning as a pure central bank in 1984, encouraged financial institutions to conduct interbank funding by taking advantage of fund differences among banks, regions and time periods. The Provisional Regulations on Banking Management published in 1986 stipulated that funds could be borrowed among specialized banks. In this way, the interbank funding market bloomed. However, irregularities such as the funding of stock and real estate investment brought about huge risks. To completely check disorder in the market, a national unified interbank funding market was set up on January 3, 1996, according to the strategies of the State Council. This marked a brand-new stage for the development of China's interbank funding market.

The establishment of the interbank lending market formed a national unified lending rate based on market supply and demand, thus facilitating interest rate reform and the creation and perfection of indirect macro adjustment mechanisms. This also provided major channels and places for commercial banks to adjust short-term fund positions and increase fund utilization efficiency. As a significant carrier for monetary policy and financial supervision, the interbank lending market can reflect fund flows among areas and financial institutions, help increase transparency of lending activities, and strengthen the central bank's macro adjustment and financial supervision.

The interbank bond market, with dynamic growth following its launch in June 1997, has become an integral part of the RMB market, long dependent on the interbank lending market. Before June 1997, China's commercial banks conducted bond trading mainly through stock exchanges. Due to the high risks in such patterns, commercial banks were ordered to quit bond trading in the exchanges in compliance with the State Council's plan. Meanwhile, an interbank bond market was set up for bond repo and cash bond trading, which marked the official launch of the interbank bond market.

With the sustained stable growth of the national economy and the correct leadership of the PBC, the interbank bond market has maintained the momentum of rapid development, as market members actively participate and intermediary services continue to improve. Market members keep expanding; turnover hits record highs; the level of interest rate liberalization rises markedly; trading regulations are perfected gradually; and infrastructure construction constantly accelerates.

The booming interbank bond market facilitates asset and liquidity management of commercial banks and other financial institutions, and assist the central bank to transmit and implement monetary policy through open market operations.

Market development

The interbank FX market had a turnover of US$40.8 billion in 1994; the figure reached US$70 billion in 1997. Turnover then slipped for two consecutive years following the Asian financial crisis. In 2000, it resumed growth and arrived at US$75 billion in 2001, exceeding the pre-crisis level. In 2002, turnover climbed to US$97.2 billion. In 2003 it topped US$100 billion, hitting a record high of US$151.1 billion.Under the guidance of the authoritative departments, and observing market principles, the CFETS strives to provide members with better and more effective services by constantly innovating service content, service methods, and market mechanisms. In recent years, particularly during the post-WTO period, the CFETS has accelerated its innovations of FX market business and technology: trading of JPY/RMB was added in 1995, besides previously existed USD/RMB and HKD/RMB; in 2001 the CFETS, after careful research and development, launched the new version of the FX trading system, featuring "new business, new technology and new design"; in 2002, EUR/RMB transactions were launched, and market making system was piloted for minor currencies so as to activate transactions and raise liquidity; in 2003, trading hours were expanded from morning to the whole day, and two-way trading was introduced to facilitate members' reconstitution of positions and fund management.

The interbank lending and bond markets also advanced rapidly. Their trading volumes doubled almost each year. In 2002, the national interbank funding and bond trading system had a total trading value of nearly 12 trillion yuan, exceeding the GDP of the year; in 2003, the turnover hit 17.2 trillion yuan. At the end of 2003, the interbank funding and bond market had 918 members, including headquarters and authorized branches of commercial banks, insurance companies, securities companies, rural credit cooperatives, urban credit cooperatives, foreign-funded banks, foreign-funded insurance companies, investment funds, trust and investment companies, financial companies, and social security funds.

In addition to FX trading, interbank lending and bond trading, the CFETS, in response to the arrangement of the country's construction of financial markets, introduced a system to provide the market with information and supervision services in September 1999. In May 2000, a quoting and filing system for small and medium-sized financial institutions was launched. These two systems were later integrated into www.chinacp.com.cn. As of the end of 2003, 8016 institutions had registered to the website for browse, quotation and supervision. The electronic filing system had served financial institutions with lending business in all counties except those in the administration areas of Tianjin, Shenyang, and Nanjing branches of the PBC.

To meet diversified demands of the market, the CFETS started RMB voice broking in July 2001 as a supplement for e-broking. In June 2002, FX deposit broking was introduced and in July 2003 the department of money broking was created. The voice broking system had 318 contracted institutions by the end of 2003, and secured in the whole year US$1.53 billion worth of FX deposit and 84.5 billion yuan worth of RMB deposit.

Using financial engineering theory and information technology, the CFETS developed a market analysis and risk management system (F-system), which was launched together with the new version of RMB trading system to help market members execute transactions, conduct market analysis, and manage risks.

With the experience of RMB, FX trading and information systems, the CFETS set up a platform for the CP market in June 2003, www.chinacp.com.cn. At the end of 2003, the website had 891participating financial institutions, quoting 872.95 billion yuan worth of CPs in six months.

After ten years of efforts, the CFETS, via advanced electronic and information technology, special networks and the internet, has constructed three platforms to service trading, information and supervision for the interbank FX, bond and money markets. The CFETS thus plays an increasingly significant role in assisting financial institutions to manage liquidity and adjust asset-liability structures, improving exchange rate forming mechanism, maintaining a stable RMB, transimitting monetary policy, forming benchmark exchange and interest rates, and providing the supervisory authorities with real-time online supervision.

Welcome the future

This decade of hard work has brought the CFETS brilliant achievements, laying a solid foundation for China's interbank market. Looking into the future, the CFETS is confident about taking on new challenges and meeting new market demands for innovation and better services in the rapid growth of the market.

At present, the reform and opening of China's financial industry has entered a new stage of rapid development, and the RMB is becoming a major currency for pricing, payment, trading, and settlement in Asian and even global FX markets. This poses both opportunities and challenges for the CFETS, as in the process of RMB full convertibility it aims to develop into a major trading platform and pricing center for RMB-related products in the region and even in the world.

The decision made in the 3rd plenary session of the 16th CPC Central Committee requires further financial reform, a higher level of opening up to the outside world, and a perfected interest rate and exchange rate forming mechanism determined by market supply and demand. This will provide a broader space for the development of China's interbank market.

The CFETS' strategic "tenth five-year plan" is to construct an effective service system that is first-rate in China and with Chinese characteristics. To this end, the CFETS is determined to "lay the foundation in the first three years and make landmark progress in the latter two years". In the three years the CFETS has already laid a solid foundation with the construction of a competitive domestic and international-going e-trading platform. In the future, the CFETS will accelerate research and development of new products, and introduce services and products, particularly forward and derivative products, as the situation and market require. Regarding the construction of the system, the CFETS will closely follow the trends of global IT and trading patterns, study and refer to the trading mechanisms, core software, and system building projects of major trading systems in the world. The CFETS will forge ahead to fulfill its obligation to perfect the three platforms servicing trade, information and supervision, using "safe, efficient, and economic" as its principle and "multiple technological means and trading patterns to meet market demands of various levels" as its guide for future operation and development.

(Translator : Zhou Yejing)