For the first time since 1980, the People’s Republic of China is taking steps towards economic liberalization through the creation of a free trade zone (FTZ) in Shanghai, one of the country’s most influential commercial cities.

On 29 September 2013, the Chinese government formally opened the FTZ to 25 Chinese and foreign companies, announcing plans for the eleven-square-mile area to serve as an experimental field for accelerated policy reform. If successful, this bold initiative will become a model for large-scale reform throughout the PRC while also instilling optimism within the international community for advanced trade and investment agreements with China.

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The Shanghai FTZ aims to facilitate the convertibility of China’s currency and to encourage foreign direct investment. The renminbi (RMB) has been long criticized for making Chinese goods unfairly competitive in the global market. At its fixed exchange rate, the RMB has an advantage over the freely floated currencies characteristic of other industrialized nations.

Within the FTZ, however, China may permit firms to convert renminbi freely into foreign currencies, allowing for a freer flow of capital. By limiting currency conversion to the Shanghai testing ground, the Chinese government can prevent unpredictable and overwhelming capital outflows while still promoting a “full-blown, efficient marketplace,” according to China expert Daniel Rosen in an interview with the Council on Foreign Relations.

However, the Chinese government will maintain tight control over the new FTZ and will closely monitor activity within the zone to avoid any potential spillover effect into the broader national economy. For example, although early reports advertised a lift on China’s social media ban, a “negative list” published on 30 September notes that 190 areas of economic activity, including Facebook and Twitter, remain restricted to foreign investors. Therefore, skepticism remains high over the potential for the Shanghai FTZ to truly liberalize the Chinese economy.

A successful demonstration of economic liberalization in the Shanghai FTZ would give China’s new president, Xi Jinping, and his administration the evidence needed to propose even bolder, broader reforms affecting the entire economy. Similar attempts at economic reform led by Deng Xiaoping in the 1970s and 1980s suggest that the Shanghai FTZ has the potential for success.

The Shenzhen zone of 1978 became a driving force in China’s dramatic opening to the global economy. As the PRC’s first special economic zone, Shenzhen introduced foreign investors to China’s cheap labour market, and Xiaoping expanded the initiative into its sister zones—Zhuhai, Shantou, Xiamin, and Hainan Island—in order to build a strong manufacturing industry. Daniel Rosen notes that over time, these FTZs were “radically successful in terms of generating economic growth.” The same could soon be said of Shanghai.

The Shanghai FTZ also has significant implications for future international trade agreements, and it suggests that China may be ready to enter into economic commitments that it had not previously been willing to participate in. The PRC has recently been involved in negotiations with its neighbors in the Pacific and the United States. China has expressed an interest in joining the Trans-Pacific Partnership (TPP), the terms of which are under discussion among 12 participating countries. Even without China, TPP countries will account for about 40 percent of global GDP and one-third of all world trade. As the world’s second largest economy, China would considerably expand the TPP’s reach and influence. Additionally, the PRC has entered into discussions with the United States on the possibility for a bilateral investment treaty, which would open Chinese markets to the US and vice versa.

In the coming months, all eyes will be on Shanghai. The outcome of the new free trade zone will determine the extent to which China’s economic policy has truly liberalized, and it will distinguish the role that the PRC will continue to play in the world economy.

Photo: Wikimedia Commons

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