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ng company's resource. With its market isolation from outside world, RMB could not athletically take action to the unpredictable foreign exchange rate, nor make appropriate adjustment that based on the change supply and demand of foreign exchange immediately. Zhang (2001) explained that this situation is essentially related to the monopoly condition of China's foreign trade policy, only dozen of authorized import and export corporations could cooperate with foreign firms under the import and export contract. Furthermore, these foreign trade corporations (FTCs) had to relinquish the earnings from foreign trading because they had to exchange the currency from the Bank of China at the official exchange rate, and normally the rate is not reasonable. Obviously, there were no incentives for traders under this business circumstances, the changes in the official exchange rate would definitely affect the multinational firms' financial profits.

In order to improve incentives and promote export performance, China has endeavoured at least four times to reform and loosen its foreign trade management system since 1978 (Zhang, 1997). The main progress of the reform was launched in the last two decades, it proposed to fracture the traditional foreign exchange system between domestic firms and the world markets by dispersing the authorization of the trading right. It also introduced the agency system for increasing the initiative and autonomy to the trading companies in the early 1980, and permitted them to assume independent accountability through the contract responsibility system (CRS) since the late 1980s. However, Iwatsubo & Karikomi (2006) states that the past reform on China's exchange rate system did not seem to have significant effects.

Figure 1 Exchange Rates of the RMB - US dollar (1979-1994)

(Source from Zhang, 1997)

To summarize the whole process of the China's foreign exchange reform, it can be divided into 3 main stages. In 1994-1996, that was the first stage of foreign exchange reform, which is called 'stable development stage'. China started to prepare for its regaining of membership in WTO and GATT by reducing substantially tariffs and import licenses. In order to enlarge Chinese markets, China started to implement socialism and market-orient policy and reformed the foreign exchange system in 1994. It launched a new exchange rate policy which based on the market's supply and demand, and managed floating exchange rate regime. China adjusted the exchange rate from 1 USD= less than 6 RMB to 1 USD= 8.7 RMB (see figure 1). The competitive advantage of China's product kept increasing in the international markets because of the depreciation of RMB, which can benefit the exportation and attract foreign investments. In general, China's economy, foreign reserve account, capital, and financial projects have continued to move forward (Zhang, 1999).

In 1997-2001, after several years of high inflation and speedy growth of China's economy, the second stage, 'high-deflation stage' was started to begin. Unfortunately, the impacts of high inflation and Asia financial crisis almost started at the same time. That was a huge economic shock to China because all Asia's currencies were devaluated, which deducted the China's competitive power in the international markets. The profit from import and export trading fell down to the lowest point in 2001, which lose more than 12 billion