The Exodus to Hong Kong’s Crypto Paradise
By offering a sanctuary for their fortunes, Hong Kong has emerged as the preferred destination for mainland Chinese seeking asset protection. They are flocking to Hong Kong to exchange Chinese yuan for U.S. dollars or cryptocurrencies.Since China’s 2019 ban on cryptocurrency trading and investments, many mainland Chinese have sought refuge in Hong Kong, where cryptocurrencies have remained free to trade. Because the Chinese yuan depreciated over 10 percent against the U.S. Dollar in the past six months, a surge of Chinese have rushed to secure their assets after the government reopened the border in February. The mainlanders made up over half the exchange’s clientele after the border reopening, compared to only 5 percent before February.
CCP Designates Hong Kong as the Sole Region for Crypto Trading in China
In 2019, China implemented a comprehensive ban on cryptocurrency, effectively prohibiting all cryptocurrency trading and mining activities. This ban notably extended to the overseas cryptocurrency exchanges offering services to Chinese citizens.The ban also adversely affected companies in Hong Kong. Crypto.com, BitMEX, and FTX have since relocated their headquarters overseas. However, Beijing did grant exclusive cryptocurrency trading status to Hong Kong in 2021, transforming it into the region’s epicenter of crypto activities. Renowned international exchanges like Bitfinex, OKEx, and BitMEX have established a presence in Hong Kong,
VASP System: Enforcing KYC and Centralized Oversight
To regulate the burgeoning crypto market, the SFC introduced the “Guideline for the Regulation of Virtual Asset Trading Platforms” (VASP Guideline) in February, to become effective in June. After virtual asset exchanges applied for licenses during the grace period, Chinese nationals made a discreet rush to convert their yuan into the more stable currencies available in Hong Kong.Hong Kong Government Turns Decentralized Cryptocurrency Exchanges into Centralized Entities
In a significant move, the Hong Kong government has transformed decentralized cryptocurrency exchanges into centralized entities, shifting toward stricter regulation and oversight. According to the VASP Guideline, all centralized virtual asset exchanges operating in Hong Kong or targeting Hong Kong investors must obtain a VASP license from the SFC and comply with its regulations.The VASP system aims to bring these exchanges under centralized government supervision and enforce measures such as KYC and anti-money laundering regulations. While licensed exchanges can offer services to retail investors, they are limited to trading tokens approved by licensed exchange platforms. However, the report released in May 2023 indicates that the SFC is actively considering adding more virtual currencies to the list of approved tokens.
“The SFC is aware of the importance of virtual asset derivatives to institutional investors. We will take a large number of comments into consideration and conduct a separate review in due course,” stated the report.
Platform operators are now obligated to generate, store, and back up encryption seeds and private keys. They can only offer services to licensed centralized onshore or offshore exchanges. The VASP Guideline explicitly forbids the transfer of virtual assets to third-party accounts or other decentralized cryptocurrency exchanges beyond the licensed platforms.
As China grapples with escalating local government debt risks and multiple trade-related factors leading to capital outflows, the ongoing depreciation of the yuan remains a pressing concern.
American Scholar: An Attempt to Prevent Capital Flight
Throughout history, Mainland citizens have employed various strategies to facilitate capital flight, each process accompanied by its degree of risk. They include signing insurance policies in Hong Kong with the intention to cash them out, depositing Chinese yuan into underground mainland bank accounts, and utilizing money exchange shops to transfer funds to Hong Kong. Some individuals have attempted to smuggle Chinese yuan into Hong Kong by exploiting the annual US$50,000 foreign exchange quota per person. This enables the movement of funds abroad in a personal vehicle permitted to travel between China and Hong Kong. Establishing companies in China and supporting offshore companies through false transactions for foreign exchange has also been used to achieve capital flight.Only Account Openings Can be Monitored; Transactions Are Untraceable
As the Hong Kong government takes significant steps to centralize cryptocurrency exchanges, Xie Tian, Chair Professor in Business at the University of South Carolina Aiken, shed light on the regulatory landscape. Implementing the licensing system in Hong Kong has compelled all exchanges to adhere to KYC and anti-money laundering regulations. The CCP’s efforts have also limited virtual online transactions, creating obstacles for Chinese citizens seeking to move money overseas.Despite these measures, the CCP’s oversight remains limited to accounts opened with Hong Kong virtual currency exchanges, and it still struggles to trace private online transactions effectively. Although China’s strict internet monitoring restricts the installation of cryptocurrency applications, Hong Kong still allows mainland Chinese to install decentralized cryptocurrency hot wallets on their mobile phones, allowing the transfer of virtual currencies without detection.
Professor Xie emphasizes the inherent challenge of regulating cryptocurrencies which were designed to be untraceable. Many transactions are also occurring on the dark web to evade government surveillance. In conclusion, he said that comprehensive government regulations are ineffective in curbing all instances of capital flight.
As China continues its fight against capital flight, the dynamics of cryptocurrency regulation and its impact on capital flows will remain a subject of keen interest and analysis for American scholars and observers worldwide.
