Intent Declared Summary
Good progress has been made in the securities markets in China, states the International Monetary Fund's (IMF) 2006 Article IV Consultation. A 2007 Financial Sector Reform and Strengthening Initiative report also attests that the amendments to the Securities Law in 2006 represented a “major policy success" and a “concerted move” by the Chinese authorities towards the adoption of the International Organization of Securities Commission's Objectives and Principles of Effective Securities Regulation. The Chinese government website further indicates that the CSRC enhanced regulation of fund companies and securities dealers in 2008. The Shanghai Stock Exchange is Asia's second largest stock exchange, and ranks fifth worldwide in terms of market capitalization. However, the equity markets in China are still underdeveloped amid remaining non-tradable shares, poor quality of listed companies, and low level of institutional investor development, notes the Asian Development Bank's 2008 Country Partnership Strategy report. The 2006 IMF report indicates that the securities markets continue to suffer from the predominant role played by state banks in intermediation. In April 2005, according to the Institute of International Finance's 2006 report on Corporate Governance, the China Securities Regulatory Commission (CSRC) initiated a pilot share reform program requiring all non-tradable shares in state-owned enterprises - accounting for about 70 percent of total listed companies in China - to be converted into tradable securities. The CSRC has also been taking steps to continue capital markets reform, strengthen supervision, and improve the quality of listed companies, per a 2008 report by the People’s Bank of China. The country formally accepted in 2005 to participate in the IMF's Financial Sector Assessment Program (FSAP); however, there is no information regarding the program’s launch date.
General Overview
The China Securities Regulatory Commission (CSRC) was established in 1992 as the executive branch of the State Council Securities Commission (SCSC). As part of the securities reform that led to the promulgation of China's first Securities Law in 1998, the SCSC and the CSRC merged to form a centralized supervisory agency for the securities market, under the direct control of the State Council of the People's Republic of China (i.e. Chinese government). The 1993 Company Law, the 1998 Securities Law, and the 2003 Law on Funds for Investment in Securities constitute the main legal framework for securities regulation in China. Major revisions to the Company Law and Securities Law took place in October 2005, and came into effect in January 2006. In this context, a 2007 Financial Sector Reform and Strengthening (FIRST) Initiative’s project completion report outlines the details of a project launched by the FIRST Initiative to “advise the Chinese authorities on the amendment of the existing [1998] Securities Law to accommodate current needs and future market development” (p. 2). As a matter of fact, the report attests that the amendments to the Securities Law as a result of the project, which went on in three phases over a period of over two years between October 2004 and January 2006, “reflect a concerted move in [the] direction…to bring China’s securities legal framework into closer alignment with international and IOSCO [International Organization of Securities Commission] principles” (p. 3). China, per the report, wanted to apply its capital markets development strategy in a global context, for which it needed to underpin the process in the framework of international best norms and practices, as applied by the IOSCO Principles. Therefore, the amendment to the Securities Law aimed overall to align the law with the IOSCO Principles. The Chinese authorities also expected the project to establish a sound legal framework under which securities firms can easily access credit from the banking sector, insurance firms can directly access the stock market, tax policies can be rationalized, remedial action by the CSRC can be taken, and investor protection can be ensured and strengthened. Commenting on the success of the project, the FIRST Initiative report concludes that the amended Securities Law “succeeded in addressing to varying degrees” many of the objectives set forth by the Chinese government for the project.
The main stock exchanges in China, the Shanghai Stock Exchange (SSE) and the Shenzhen Stock Exchange (SZSE), were launched in 1990 and 1991 respectively, and are directly governed by the CSRC. According to its website, the SSE is the leading stock market in Mainland China. In terms of market capitalization, the SSE is Asia's second largest stock exchange, and ranks fifth worldwide. As of December 31, 2007, as stated on the SSE website, there were 860 listed companies on the SSE with a combined market capitalization of USD 3.95 trillion. Conversely, the SZSE has a market capitalization of around USD 146 billion, and provides a direct financing platform for hi-tech or rapidly growing small and medium enterprises with competitive core businesses. The China Financial Futures Exchange (CFFEX) was inaugurated in September 2006 in Shanghai, as China's first exchange specializing in derivatives trading, according to the Institute of International Bankers' 2007 Global Survey. New regulations on futures trading were enacted in April 2007.
Since 2002, foreign institutions have been authorized to invest directly into China's A-shares via the Qualified Foreign Institutional Investor scheme. A-shares are common shares issued on the SSE and SZSE in Chinese currency. Furthermore, a Qualified Domestic Institutional Investor program has been established by the Chinese authorities to promote investment abroad by domestic investors. Foreign firms will also be allowed to raise capital on the Chinese equity and bond markets. The U.S. Department of Commerce’s 2008 Country Commercial Guide states that both state-owned and private firms in China are encouraged by Chinese authorities to list on the domestic stock exchanges.
According to the International Monetary Fund's (IMF) 2006 Article IV Consultation, good progress has been made in the equity markets in China. In April 2005, the CSRC initiated the pilot share reform program requiring all non-tradable shares in SOEs to be converted into tradable A-shares. As of April 2006, nearly 66 percent of listed companies, accounting for 70 percent of the stock market capitalization, had implemented the reform program. Revisions to the Company Law and Securities Law in 2006 have also strengthened minority shareholder rights and disclosure requirements for listed firms. The Asian Development Bank's (ADB) 2008 Country Partnership Strategy report states, however, that equity markets in China remain underdeveloped amid persistent non-tradable shares, poor quality of listed companies, and low level of institutional investor development. The corporate bond market has also been lagging behind with caps on the returns on corporate bonds, high taxes on their returns, and lack of quality credit ratings. Capital allocation is distorted with state-owned enterprises over-utilizing the capital markets, and large enterprises seeking finance through banks, effectively crowding out retail and household investors as well as small and medium enterprises (SMEs). Finally, the IMF report indicates that the predominant role of state banks in intermediation has hindered the development of capital markets in China. The country formally accepted in 2005 to participate in the IMF's Financial Sector Assessment Program, as reported in the IMF's 2006 Article IV Consultation. However, no information has been provided so far regarding either the program's launch date, or China's compliance with the IOSCO Objectives and Principles of Effective Securities Regulation.
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The 2008 Financial Stability Report (FSR) published by the People’s Bank of China (PBC) does point out various improvements in the securities sector made in the past year. Per the report, “in 2007, capital market reform continued, the quality of listed companies was steadily improved, and the strength of securities and futures companies was notably improved. The institutional building of market infrastructure was further enhanced, the market scale was rapidly expanded, the market function was further strengthened, and the capital market was playing a more important role in national economy” (p. 41). As the 2009 Global Survey published by the Institute of International Bankers (IIB) notes, the CSRC also plans to establish a Growth Enterprises Board (GEB), modeled along the lines of the NASDAQ of the USA “to help small companies raise capital and restore investor confidence” (p. 66). The GEB will have a listing threshold as well as strengthened supervisory mechanisms for efficient trading and to prevent excessive speculation. Efforts have also been made, per the 2008 FSR, to promote the institutional building of a multi-layered capital markets structure, with the blue-chip markets developing along with the small and medium scale markets, as well as the over-the-counter markets. However, the FSR also recommends further expanding the market scale, strengthening corporate governance and information disclosure systems, promote institutional investors and long-term fund entry channels, foster product innovation, and deter illegal trading and market manipulation, so as to “establish an open, fair and equitable market order” (p. 54).
The IOSCO multilateral memorandum of understanding (MMoU) is based on the thirty IOSCO Principles adopted in 1998 and the experience gathered by securities regulators in using bilateral Memoranda of Understanding (MoUs). The IOSCO MMoU provides a standardized framework for sharing enforcement-related information and a gradually expanding network of participating regulatory agencies. IOSCO members who wish to sign the IOSCO MMoU participate in a comprehensive screening process to establish that they have the legal capacity to fully comply with the terms of the IOSCO MMoU. Being a signatory to the MMoU implies that the IOSCO screening committee considers the country's legal framework to be compliant with IOSCO Principles 11, 12, and 13 and that the country’s securities regulator has therefore the legal capacity to share supervisory information with and provide assistance to its foreign counterparts. China's CSRC is a signatory to the MMoU and an ordinary member of IOSCO.
The Principles
II1. The responsibilities of the regulator should be clear and objectively stated.
The CSRC was established in 1992 as the executive branch of the SCSC. In 1998, the SCSC and the CSRC merged to form a centralized supervisory agency for the securities markets under the direct control of the State Council. According to the IIF's 2006 report on Corporate Governance in China, the CSRC is responsible for promulgating regulations/rules concerning regulation of the securities market and monitoring companies' compliance with relevant regulations. Further functions include supervising and regulating the securities and futures markets; governing the stock exchanges; overseeing the issuance, trading, custodial services and settlement of securities; and imposing sanctions and fines. Despite the information provided above, there is insufficient information publicly available addressing China's compliance with this principle.
II2. The regulator should be operationally independent and accountable in the exercise of its functions and powers.
There is insufficient publicly available information as to China's compliance with this principle.
II3. The regulator should have adequate powers, proper resources and the capacity to perform its functions and exercise its powers.
There is insufficient publicly available information as to China's compliance with this principle
II4. The regulator should adopt clear and consistent regulatory processes.
There is insufficient publicly available information as to China's compliance with this principle.
II5. The staff of the regulator should observe the highest professional standards, including appropriate standards of confidentiality.
There is insufficient publicly available information as to China's compliance with this principle.
II6. The regulatory regime should make appropriate use of Self-Regulatory Organizations (SROs) that exercise some direct oversight responsibility for their respective areas of competence, to the extent appropriate to the size and complexity of the markets.
The main stock exchanges in China--the SSE and SZSE--are self-regulatory organizations (SROs) directly regulated by the CSRC. According to the IIF's 2006 report, the SSE, the leading stock market in Mainland China, is responsible for "providing facilities and a marketplace for the securities trading, arranging listing/delisting, monitoring securities transactions, overseeing listed companies, and disseminating market information" (pp. 18-19). While the SSE conducts market surveillance to detect manipulation and other unfair trading practices, the CSRC is ultimately entitled with the administrative powers to fine or remove listed companies involved in such malpractices. The IIF report indicates that the revisions to the Securities Law have granted more powers to the SSE by allowing it "to directly approve the listing of shares and corporate bonds and make decisions on suspension and termination of listing" (p. 19). The Securities Association of China (SAC) was established in August 1991 as a non-profit SRO subject to the guidance, supervision and administration of the CSRC and the Ministry of Civil Affairs. As stated on its website, the objectives of the SAC include conducting self-regulation over the securities industry, maintaining fair competition and steady development, and promoting transparency, justice and fairness of the securities market. Nevertheless, there is insufficient information publicly available addressing China's compliance with this principle.
II7. SROs should be subject to the oversight of the regulator and should observe standards of fairness and confidentiality when exercising powers and delegated responsibilities.
See Principle 6.
II8. The regulator should have comprehensive inspection, investigation and surveillance powers.
There is insufficient publicly available information as to China's compliance with this principle. However, the 2008 FSR of the PBC does mention that in 2007, the CSRC took steps to tighten investigation and enforcement as part of its effort to enhance the supervision of the securities industry. The chief enforcement office and investigation team were established within the CSRC so as to centralize and improve investigation. The CSRC, per the FSR, also took notable steps to crack down on illegal activities by big market players.
II9. The regulator should have comprehensive enforcement powers.
As stated on the Asian Corporate Governance Association website, while Chinese regulators have considerable legal sanctioning powers, they are confronted with "a range of impediments in achieving consistent and effective enforcement." Nevertheless, there is insufficient information publicly available addressing China's compliance with this principle
II10. The regulatory system should ensure an effective and credible use of inspection, investigation, surveillance and enforcement powers and implementation of an effective compliance program.
See Principle 9.
EN11. The regulator should have authority to share both public and non-public information with domestic and foreign counterparts.
The CSRC is an ordinary member of IOSCO, and a signatory to the IOSCO MMoU, implying that the IOSCO screening committee considers that the Chinese legal framework complies with Principles 11. 12, and 13. Furthermore, the IIF's 2006 report indicates that "the MoF, CSRC, China Banking Regulatory Commission, and China Insurance Regulatory Commission are closely consulted and coordinate regulation" (p. 18).
EN12. Regulators should establish information sharing mechanisms that set out when and how they will share both public and non-public information with their domestic and foreign counterparts.
See Principle 11.
EN13. The regulatory system should allow for assistance to be provided to foreign regulators who need to make inquiries in the discharge of their functions and exercise of their powers.
See Principle 11.
II14. There should be full, timely and accurate disclosure of financial results and other information that is material to investors' decisions.
As stated on the ACGA's website, China's regulatory regime requires quarterly financial reporting, and various regulations and directives to improve disclosure among listed companies. The revised Securities Law has also strengthened disclosure requirements for listed firms. Pursuant to the Securities Law, information disclosure by issuers and listed companies must be "authentic, accurate and complete and shall contain no false, misleading statement or major omissions" (p. 20), as reported in the CSRC's 2007 Securities and Futures Markets report. The CSRC report indicates that information disclosed by listed companies falls into three main categories. The first category (public offering information) includes prospectuses, stock and bond listing announcements, and bonds issuance scheme. The second category (periodic reports) comprises annual reports, interim reports and quarterly reports. Finally, listed companies are required to submit an ad hoc report to the CSRC in the occurrence of a major event. However, there is insufficient information publicly available addressing China's compliance with this principle.
II15. Holders of securities in a company should be treated in a fair and equitable manner.
Revisions to the Company Law and Securities Law have strengthened minority shareholders' rights, according to the IIF's 2006 report. In practice, however, as noted on the ACGA's website, minority shareholders have little influence over management. A 2003 study by Standard and Poor's further indicates that shareholders have pre-emptive rights under the Securities Law, which might prevent the issuance of shares to new shareholders. In turn, this might make it increasingly difficult to dilute existing shareholder's ownership stakes and voting rights. In this regard, the IIF's 2006 report recommends allowing new listing of A-shares on the SSE and SZSE. The IIF further encourages strengthening judicial enforcement for the protection of shareholders' interests. Finally, it is recommended the alignment of management interests with those of minority shareholders be improved, by notably bringing executive remuneration more in line with overall company performance. Li et al. and Lu et al. concur in their 2008 and 2009 reports that the highly concentrated ownership structure has resulted in poor minority shareholder protection, insider trading, and market manipulation. However, Lu et al. attest that minority shareholder rights protection has become a top priority for improving Chinese corporate governance. The above sources, nonetheless, do not directly address China's compliance with this principle.
II16. Accounting and auditing standards should be of a high and internationally acceptable quality.
The China Accounting Standards Committee under the Ministry of Finance (MoF) is the advisory body for setting Chinese accounting standards. According to the IIF's 2006 report, revisions to the Company Law provide that financial and accounting reports be audited. The Law also clarifies conditions regarding the appointment and dismissal of external auditors. In February 2006, the MoF formally issued 38 basic Accounting Standards for Business Enterprises (ASBE) with effect from January 1, 2007. The IIF's 2006 report indicates that the ASBE standards apply to all listed Chinese companies, and are expected "to bring Chinese accounting practices largely in line with International Financial Reporting Standards (IFRS), with some exceptions" (p. 16). For listed companies, ASBEs replace the Chinese Accounting Standards (CASs) and an earlier version of ASBEs, both of which differ from IFRSs. A 2009 PricewaterhouseCoopers report on IFRS adoption notes that financial institutions, in addition to ASBEs must also prepare IFRS-compliant (as issued by the IASB) financial statements. Starting in 2008, according to the Deloitte & Touche IAS Plus website, all state-owned enterprises will also be required to use the new ASBEs. The same will apply to large and medium-sized companies as of 2009. While the IIF's 2006 report welcomes the Chinese authorities' efforts to bring financial reporting in China more in line with IFRSs it stresses that China's accounting and auditing practices remain weak. With respect to auditing standards in China, in the 2008 CICPA action plan, the Chinese Auditing Standards Board (CAuSB) announced that in line with its convergence policy the Board will commence reviewing Chinese auditing standards in order to align them with the clarified International Standards on Auditing (ISAs) issued as a result of the Clarity Project completed by the International Auditing and Assurance Standards Board. More recently, an October 2009 IFAC update notes that the process of harmonization of auditing standards is at an advanced stage, with the final new set of Chinese standards (incorporating the clarified ISAs) likely to be approved by the MoF by the end of 2010. The above description, however, does not directly address China's compliance with this principle.
II17. The regulatory system should set standards for the eligibility and the regulation of those who wish to market or operate a collective investment scheme.
There is insufficient publicly available information as to China's compliance with this principle.
II18. The regulatory system should provide for rules governing the legal form and structure of collective investment schemes and the segregation and protection of client assets.
There is insufficient publicly available information as to China's compliance with this principle.
II19. Regulation should require disclosure, as set forth under the principles for issuers, which is necessary to evaluate the suitability of a collective investment scheme for a particular investor and the value of the investors interest in the scheme.
In September 2008, as stated on the Chinese government website, the CSRC enhanced regulation of fund companies in China by requiring funds to improve the quality and transparency of information disclosure. The new rule, in effect from January 2009, per the 2009 IIB report, was expected "to help third-party agencies to appraise and supervise the management of fund companies" (p. 66). Nevertheless, there is insufficient publicly available information as to China's compliance with this principle.
II20. Regulation should ensure that there is a proper and disclosed basis for asset valuation and the pricing and the redemption of units in a collective investment scheme.
There is insufficient publicly available information as to China's compliance with this principle.
II21. Regulation should provide for minimum entry standards for market intermediaries.
Securities companies are the leading market intermediaries in China's capital markets, according to the CSRC's 2007 Securities and Futures Markets report. At the end of 2006, per the same report, there were 104 securities companies in China. The CSRC issues a license to the securities company provided that it meets specified establishment requirements. The IIF's 2006 report notes that there has been a lack of investment opportunities for brokers and dealers in China. In addition, many of these market intermediaries were found to be "technically insolvent" (p. 8). In September 2008, as stated on the Chinese government website, the CSRC issued a new regulation on securities brokers aimed at protecting the legal interests of fund investors. The regulation will notably prevent market intermediaries "from surpassing their authority by manipulating customers' accounts or providing investment counseling." However, there is insufficient information publicly available addressing China's compliance with this principle.
II22. There should be initial and ongoing capital and other prudential requirements for market intermediaries that reflect the risks that the intermediaries undertake.
Pursuant to the Securities Law, the CSRC sets requirements over securities companies' establishment, business scope, capital adequacy, risk control indicators, internal control and clients' funds management, as stated in the CSRC's 2007 Securities and Futures Markets report. In addition, trading activities of securities companies are directly under the surveillance and supervision of stock exchanges. Nevertheless, there is insufficient information publicly available addressing China's compliance with this principle.
II23. Market intermediaries should be required to comply with standards for internal organization and operational conduct that aim to protect the interests of clients, ensure proper management of risk, and under which management of the intermediary accepts primary responsibility for these matters.
See Principle 22. Also, the 2008 FSR published by the PBC mentions that the CSRC put into practice the third party custodian system of clients’ securities transactions and settlement fund in August 2007 so as to standardize the operation in the securities sector. 97 percent of qualified fund accounts were verified in December 2007 and more than 20 million dormant transactions and settlement accounts were put in segregated vaults. Securities companies are also mandated to disclose their audited financial reports.
II24. There should be procedures for dealing with the failure of a market intermediary in order to minimize damage and loss to investors and to contain systemic risk.
There is insufficient publicly available information as to China's compliance with this principle
II25. The establishment of trading systems including securities exchanges should be subject to regulatory authorization and oversight.
The main stock exchanges in China--the SSE and SZSE--are directly regulated by the CSRC. According to the IIF's 2006 report, the SSE, the leading stock market in Mainland China, is responsible for "providing facilities and a marketplace for the securities trading, arranging listing/delisting, monitoring securities transactions, overseeing listed companies, and disseminating market information" (pp. 18-19). While the SSE conducts market surveillance to detect manipulation and other unfair trading practices, the CSRC is ultimately entitled with the administrative powers to fine or remove listed companies involved in such malpractices. The IIF report indicates that the revisions to the Securities Law have granted more powers to the SSE by allowing it "to directly approve the listing of shares and corporate bonds and make decisions on suspension and termination of listing" (p. 19). Nevertheless, there is insufficient information publicly available addressing China's compliance with this principle.
II26. There should be ongoing regulatory supervision of exchanges and trading systems which should aim to ensure that the integrity of trading is maintained through fair and equitable rules that strike an appropriate balance between the demands of different market participants.
See Principle 25.
II27. Regulation should promote transparency of trading.
There is insufficient publicly available information as to China's compliance with this principle.
II28. Regulation should be designed to detect and deter manipulation and other unfair trading practices.
The IIF's 2006 report states that whereas the SSE conducts market surveillance to detect manipulation and other unfair trading practices, the CSRC is ultimately entitled with the administrative powers to fine or remove listed companies involved in such malpractices. The IIF report indicates that the revisions to the Securities Law have granted more powers to the SSE by allowing it "to directly approve the listing of shares and corporate bonds and make decisions on suspension and termination of listing" (p. 19). Finally, the Securities Investor Protection Fund (SIPF) was set up in September 2005 in order to protect the interests of securities investors against the losses from failing securities companies, as reported in the CSRC's 2007 Securities and Futures Markets report. The China Securities Investor Protection Fund Corporation was established to initiate, manage and develop the SIPF. In August 2008, as stated on the Chinese government website, the CSRC submitted a draft amendment to the legislative authorities to criminalize insider trading by employees of financial firms. Nevertheless, there is insufficient information publicly available addressing China's compliance with this principle.
II29. Regulation should aim to ensure the proper management of large exposures, default risk and market disruption.
There is insufficient publicly available information as to China's compliance with this principle.
II30. Systems for clearing and settlement of securities transactions should be subject to regulatory oversight, and designed to ensure that they are fair, effective and efficient and that they reduce systemic risk.
The China Securities Depository and Clearing Corporation (CSDCC) is the only securities depository and clearing corporation in China operating under the supervision of the CSRC. The CSDCC was established in March 2001, in compliance with the Securities Law and the Company Law, and is responsible for all securities depository and clearing processes in the Chinese securities market. In addition, the CSDCC is responsible for the depository and clearing of other exchange-listed instruments as well as the open-ended funds, as reported in the ADB's 2008 Country Partnership Strategy report. The U.S. Depository Trust & Clearing Corporation, the world's largest post-trade financial services company, and China's CSDCC signed a MoU in 2007 to foster exchange of information and cooperation on projects of interest. Nevertheless, there is insufficient information publicly available addressing China's compliance with this principle.
