China's foreign direct investment (FDI) fell sharply in July amid tightening supervision over inflow of hot money, or short-term speculative capital, that might have accelerated during the past few months.

The Ministry of Commerce said the FDI flowing into China shrank by 35.7 percent from a year earlier, to US$5.36 billion last month, compared with a 6.8-percent dip in June. This is also the 10th-straight monthly drop since last October.

"This (sharper decline) is partly due to enhanced supervision and management efforts by the Chinese government, which has noticed the possibility that more hot money is flowing into China," said Zhang Xiaojing, director of the Macro-economy Department of the Chinese Academy of Social Sciences (CASS).

CASS reported that as much as half of the US$177.8 billion foreign exchange reserve China accumulated during the second quarter cannot be explained by either increase of FDI or trade surplus. This is probably hot money from abroad, the report concluded.

Most of the speculative hot money has allegedly flowed into the domestic stock market and real estate sector to push up housing prices in some major cities and boosted the Shanghai Benchmark Index by 80 percent in the first seven months of this year.

The Shanghai stock index began to fall during the last two weeks, probably because speculators began withdrawing the hot money. From early August, the index has dipped by 21 percent, to 2,871 on Monday.

In Beijing and Shanghai, average new house prices are already reaching record levels.

Many believe property prices are partly driven up by the surging hot money influx, but they are not upbeat about a price drop in the months ahead, when hot money is expected to decline.

FDI is widely believed to be one of the easy accesses that foreign investors would probably leverage to get hot money into China.

Starting from the second quarter, the decline of China's FDI had been narrowed from 22.5 percent in April to 17.8 percent in May and 6.8 percent in June.

The Chinese government has reportedly taken measures to check the inflow of hot money.

"The rapid development of the Chinese economy requires the country to accordingly adjust the supervision and management policies on measuring foreign trade, FDI and foreign exchange reserve," Yao Jian, spokesperson for the Ministry of Commerce, told China Daily yesterday.

Stephen Green, head of Standard Chartered Research, said: "The country's FDI will begin to register growth early next year at best."

(China Daily August 18, 2009)