Interest Arbitrage under Capital Controls: Evidence from Reported Entrepot Trades

Capital controls segment the offshore credit market of Chinese renminbi from the onshore market. Using a novel administrative data set, we provide evidence that firms arbitrage the onshore-offshore interest differentials using bank-intermediated “entrepˆot trades,” which supposedly re-export imports with little or no processing. Onshoreoffshore interest differentials drive renminbi inflows from entrepˆot trades, which strongly predict one-year-forward outflows to settle bank-issued letters of credit. Interest differentials have greater impacts on the lower half of the outflow distribution, and induce entry into entrepˆot trades. Our findings suggest that renminbi interest arbitrages are feasible but costly under capital controls.Ant Financial provides automated credit lines to more than a million firms trading on Alibaba’s Taobao e-commerce platform. Monthly credit records show how TechFin mitigates local credit supply frictions in China’s segmented credit market and extends the “frontier” of credit availability to firms with a low credit score. We use a discontinuity in the credit decision algorithm to document that a firm’s credit approval and first-time online credit use boosts firm development in terms of sales and transaction growth. These findings reveal the scope of China’s credit market frictions and the benefits of new credit technologies in completing credit markets.