build a solid platform for the growth in the rmb market in australia. 4. investment of foreign currency reserves the fourth element of the growing financial relationship between china and australia is a recent decision by the rba to invest some of our foreign currency reserves in china. this decision by the rba represents the first time that the rba will have invested directly in a sovereign bond market of an asian country other than japan. this decision does, however, build on our existing investments in the emeap asian bond fund initiative, which were made in 2003 and 2005. our current intention is to hold around 5 per cent of australia ’ s foreign currency assets in china. the pbc has approved an initial investment quota and we are currently working through the necessary agreements prior to the investment being made. this decision to invest in china is an important one. it reflects the broader economic relationship between china and australia and our increasing financial ties. it provides greater diversification of our investments and will help with our understanding of the chinese financial markets. over the long run, and particularly as capital account liberalisation occurs in china, the rmb is likely to become one of the major reserve currencies of the region. 5. bilateral investment flows the fifth and final element is an increase in other capital flows between our two countries, including direct investment, portfolio investment and banking flows. these two - way investment flows are still in their infancy, but they have grown rapidly in recent years. according to data from the abs, chinese investment in australia has risen more than fivefold since 2006, with the stock of investment reaching around a $ 20 billion as at end 2011 ( graph 2 ). 3 australian investment in china has also risen significantly over this period, with the stock reaching a $ 17 billion in 2011. it is likely, however, that these data understate the size of bilateral investment, as some funds are intermediated through financial centres including hong kong. a significant share of the growth in chinese investment in australia thus far has been foreign direct investment. this has been largely in the resources sector, although recently there has been some diversification, including into the services and real estate sectors. direct investment has also been an important component of australia ’ s investment in china including investments in financial services. in recent years, australian banks have increasingly facilitated australian investment in china through their provision of cross - border banking services. all of australia ’ s major banks – a number of which are represented here today – have a growing presence in

and hedging instruments are still some way off. so there is much work ahead if the depth of the financial relationship is one day to match the depth of the trading relationship. the pace of reform in china will have an important bearing on how this work progresses. as we know from our own experience, this reform process is a difficult one. and from some perspectives, china faces an even more daunting challenge than the one we faced. because of china ’ s sheer size, the rest of the world is watching very closely and it has a strong interest in china “ getting it right ”. china is also facing the task of liberalisation at a materially lower level of per - capita income than was the case in australia. it faces an existing financial sector much larger ( relative to gdp ) than was the australian financial sector at the outset of our liberalisation process. and financial systems everywhere are more globally connected than they once were, so the potential pressures on the chinese system are greater than when australia went through reforms. from my perspective though, a number of the discussions that are occurring today regarding the chinese financial system have a degree of familiarity about them. 4 i would like to mention three of these. the first is the discussion about “ shadow banking ”. this is very familiar. in the 1970s, australia had a highly regulated banking sector – with regulations on interest rates, the rate of bank balance sheet growth and structure of those balance sheets. the result was rapid growth in other types of financial institutions. indeed, by the early 1980s, the banks ’ share of the financial system had fallen to 40 per cent from 70 per cent in the early 1950s. we made various attempts to restrict the activities of the “ shadow banks ”, but whenever we introduced new rules, other entities emerged. china is experiencing this today. finance can be very flexible – those who want to borrow money seem to find a way of connecting with those who have money to lend. in our case, the financial stability problems we had in the for discussions of the financial reform process in australia see the list of references. bis central bankers ’ speeches 1970s were in those parts of the industry that grew up outside the regulatory net. this regulatory net also contributed to inefficiency in the financial system by limiting banks ’ ability to respond to the needs of their customers. in particular, the various regulations limited the availability of credit to important parts of the economy. in the end, the only practical solution was to move to a more liberal