BEIJING: China plans to take a giant step towards making the yuan more convertible by extending a pilot scheme allowing the currency to be traded with few restrictions to all its free trade zones, before taking the scheme nationwide later this year.

The liberalisation, revealed to Reuters on Friday by three sources with knowledge of the plan, underlines China’s ambition to transform the yuan into a major global currency.

“Once this is done, this will be a big step forward in opening China’s capital account,” said one of the sources, who all declined to be named as they were not authorised to speak to the media.

The timing would aid Beijing’s campaign this year to persuade the International Monetary Fund to include the yuan in its currency basket.

Under the pilot scheme, firms in the Shanghai free trade zone (FTZ) can move the yuan and other foreign currencies in and out of China for capital account transactions. That lets them raise money overseas and bring the funds back to China for real investment — a practice that is otherwise banned in China.

In coming months firms in China’s other FTZs — in Tianjin, Fujian and Guangdong — will be granted the same right, the sources said, though one said the roll-out would be staggered due to concerns over rising capital outflows.

Thereafter, the plan is to expand the scheme across China by the end of the year, they said.

No details were available on how the experiment will be expanded nationwide, and the central bank did not comment when contacted for this story.

But analysts, many of whom have been surprised by the pace of China’s recent reforms, said the intentions were clear.

“It is a signal to the financial market that policymakers want to push forward the convertibility of the yuan,” said Ma Xiaoping, an economist with HSBC in China.

Analysts say the expansion of the pilot showed China is freeing the yuan and its capital account in steps.

“This is actually poking a hole in the capital account,” said Lin Jianjun, an analyst at the Bank of China.

“The interest rate and foreign exchange markets will be forced into changes, and it will pose a challenge to China’s financial market as interest rate controls will no longer matter.”

Full liberalisation will be a slow process that includes eventually widening the yuan trading band and letting households invest overseas more easily. Banks and China’s currency regulator could resist the changes, one of the sources said.

China currently operates an administered peg exchange rate system, whereby the yuan-dollar exchange rate is allowed to fluctuate by 2 per cent either side of a midpoint fixed by the central bank each day.

Published in Dawn, April 25th, 2015

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