102.81/3–1246: Telegram

The Counselor of Embassy in China (Smyth) to the Secretary of State

467. Please inform Commerce. In issuing new “temporary regulations with regard to foreign exchange transactions” on Feb 25, the National Govt stated objectives to be currency stabilization, promotion of recovery and implementation of international monetary fund agreement (see Embtel 377, Feb 27 and 432 [413], Mar 2). Concentration of extensive powers over foreign exchange transactions in Central Bank of China when evaluated simultaneously with not yet clarified “temporary regulations governing import and export trade” indicates intention of Chinese Govt at least during emergency readjustment period to attempt fairly extensive and centralized controls over foreign trade and exchange. Concentration of control under Central Bank of China is represented by newly introduced requirements that all dealers in foreign exchange (whether bank, exchange shop or person) be licensed by Central Bank, by power of the bank to revoke such license, its power to regulate foreign exchange transactions of all dealers and the public, and its power to buy and sell exchange.

Perhaps fundamental weakness in any attempt to apply such exchange controls in China is lack of administrative machinery and personnel to enforce and carry out system of regulation. Appointment of Pei Tsu-Yi, formerly manager of Bank of China, to post of Governor of Central Bank of China is regarded as a move intended to strengthen personnel of Central Bank and develop its administrative machinery.

Abolition of unrealistic official rate of CN dollars 20 to US dollar 1 is widely regarded as long overdue. Until more adequate restoration of prewar transportation communications network is accomplished and there exists a more satisfactory basis for distribution of domestically produced and imported commodities, until fiscal returns including increase of govt income and reduction of expenditures—especially military—are forthcoming and until confidence in business and financial circles is restored, it will probably be impossible to stabilize Chinese currency and to fix a new official rate of exchange which would reflect real market conditions on continuing basis. Present regulations appear mainly to provide cushioning influence against undue speculation and exchange fluctuations during period when Chinese currency will find its own level and to provide some basis even under uncertain conditions for a resumption of international trading. Unless suitable hedges can be arranged however trade actions cannot [Page 966] help but be largely speculative in view of uncertain exchange conditions. In this connection it may be noted that under the regulations, appointed banks may do forward exchange transactions but only if their [usance] is less than 3 months.

It appears that Central Bank of China will periodically either daily, weekly or at regular intervals as circumstances warrant—set rates at which it will buy and sell foreign exchange. This rate apparently will not be binding on all licensed dealers but procedures and rules to be applied have not yet been fully determined and published. Rate at which Central Bank will make telegraphic transfers with New York has been set at CN dollars 2020 to US dollar 1 since March 5, but its rate of exchange for other types transactions has not been announced. If Central Bank were to set rate at too low a figure and seek to maintain it through its sales of exchange in the market, it could dissipate substantial foreign exchange assets even under system of control provided for in regulations.

In all likelihood Central Bank rates will for present follow rather than lead market values of exchange, as too large a sum would be needed by Govt deliberately to attempt stabilization through market buying and selling. It is understood that besides such funds as the Central Bank is using in its current operations, the Chinese Govt has set aside a substantial part—figure mentioned in US dollars 500 million—its foreign currency reserves to be used for permanent stabilization when conditions are such that this may be considered a realistic possibility.

Question immediately arises as to effectiveness of the regulations in preventing flight of capital, development which in recent history has accompanied periods of inflation and financial instability. The coverage of negotiable instruments within meaning of term “foreign exchange” as used in regulations is broad enough to prevent flight of capital in large measure, but ineffective enforcement and certain loop-holes which may develop may result in extensive capital shifts from country. Exchange regulations do not provide for prohibition of export of gold from China, but such prohibition exists under export trade regulations already enforced by Ministry of Finance (see Embassy’s voluntary report No. 85, Feb. 15, 194697) and will likely reappear in new list of articles prohibited for export when it is issued. Close relationship of regulations governing foreign exchange and those governing trade in commodities is indicated by their simultaneous promulgation. While trade controls may have broader objectives in addition to those they serve in conserving and stabilizing foreign exchange, this at present is important part their objective. As licenses are to [Page 967] be granted for some imports, power to refuse licenses apparently may be invoked if exchange situation warrants. Other imports are to be prohibited, including (a) those in which China is producer and can supply own basic needs without utilizing exchange for imports or (b) luxury goods not necessary to livelihood for which exchange is not to be utilized.

In view general nature of problems of economic rehabilitation and stabilization which confront China today as touched upon above, these restrictions on exchange transactions, as promulgated, do not appear unreasonably excessive as temporary measures. Nor does it appear that they are intended to discriminate against trade by private interests as such. With respect to temporary trade control regulations, degree to which in practice they may prove restrictive on trade generally and/or discriminatory against private trade not yet clear; it would appear to depend in large measure upon actual administration of regulations and policies carried out by direction of temporary import program committee.

Detailed comments new temporary foreign trade regulations to be withheld until their full text and accompanying lists available.

Smyth
  1. Not printed.