Yes it is illegal and yes China does block the ip blocks of people that host adult content.
If you want to monetize on your Chinese traffic you can always ip filter it out to somebody who specializes in it like China Traffic
http://www.chinatraffic.net
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Tanguy 0x7a69 inc. Programmer/President/CEO
http://www.0x7a69.com
A Leader in Programming since 1996
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