Chinese controls on capital could affect Canadian property: Don Pittis

A column last week suggested the free flow of money around the world could be a boost for Canada as cash from troubled emerging markets sought a safer home.I may have jumped the gun.

On Friday the Shanghai correspondent for the Financial Times, Gabriel Wildau, reported that China is moving to step up capital controlsin aneffort to stem the flood of cash out of the country.

This week it will be interesting to see if other countries begin to follow suit, which could reduce the amount of cash seeking safety in the world's developed countries.

• Global capital still looking for a Canadian home
• North American stock markets end week onlosing note

In the unstable period after the Second World War, capital controls were the rule, not the exception.

The idea was that fixed exchange rates between countries, pegged to gold or the U.S. dollar, were a force for stability. In thesimplest terms, countries feared that cash moving from one country to another robbed value from the home country and made everyone poorer.

Governments were still wary of the financial shenanigans that led to the Great Depression and did not trust bankersto work in theirinterests. Any outflow of, say, Italian lireto France or Britain had to be approved by finance ministry officials.

Jewelry not cash

The strict rule affected many ordinary people, including Canadian immigrants. As a kid I remember family friends who had immigratedfrom India bringing jewellery instead of cash, because they were not permitted to export currency.

Since about 1970 currency controls have gone out of style. In an increasingly globalizedworld, money wasseen as just one more assetmoving back and forth across borders.

The new free market paradigm is that the free circulation of money across borders is only a good thing.

As Canada's chief central banker Stephen Polozreminded us last week, freely exchangeable currencies those that trade for the same price inside a country as they do on world markets act as a buffer during periods of international economic realignment.

"This is exactly why countries choose to have flexible exchange rates," saidPoloz.TheyhelpCanadaadjust to lower resource prices.

In the era of globalized capitalism, moving to a free-floating currency is like joining the club of sound and balanced world traders. WhenPoland floated thezloty in 2000 itwasas if the currency had finally made the grade.

"It puts capital where it's most useful, maximizing prosperity. What's not to like?" quipped financial writer Ye Xie earlier this year in aBloomberg backgrounder on the subject.

A liberal attitude to the free flow of money seems wonderful when it is flowing in, funding new development and maximizing prosperity. But what happens when it starts gushing out?

In times of crisis, when people lineup at bank machines to get cashand then urgently convert it at any cost into U.S. dollars or gold, that's when countries suddenly rediscover the advantage of currency controls. Especially when the country is small or frightened of internal instability.

More controlling

During the Asian crisis of 1990 Malaysia instituted controls. According to Bloomberg'sXie, between 1995 and 2010, 37 countries found ways to block the outflow of money.

Iceland recently lifted controls six years after its banking crisis.Cyprusput on controls during its banking meltdownof 2013,Ukraine during its conflict with Russia.In 2014 Argentina and Venezuelaincreased controls.

NowChina, which has been struggling to turn its renminbialso known as the Chinese yuaninto a freelyfloating currency, has started to backtrack.

Foreign issues of renminbi bonds mean thereare plenty of yuantrading outsideChina. But in a worrying sign, the value of domestic yuan and foreign yuan are diverging.

One of the effects of the rush of money out of countries like China, Russia and those in South Americahas been a surge in developed-country real estate. If a trend toward currency controls develops suddenly, that growingflood of money could turn to a trickle.

That's if the currency controls work. There are so many ways to move money now, includinguntraceable bitcoin transactions, that determined individuals can always find a way.

Without truly stringent restrictions that would interfere with trade, even a government determined to stop the flowwill only be able to slow it.

Follow Don on Twitter@don_pittis

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