Home' Trinidad and Tobago Guardian : July 12th 2015 Contents JULY 12 • 2015 www.guardian.co.tt SUNDAY BUSINESS GUARDIAN
FINANCE | SBG15
For nearly two years hopes of eco-
nomic reform in China have rest-
ed on the faintest of rhetorical
shifts. At a conclave in late 2013,
the Communist Party declared
that it would let market forces
play a "decisive role" in allocating
resources, whereas previously
their influence had been deemed only "basic." A
slender reed, perhaps, but it supported a great expec-
tation: that the state would ease its grip on business,
trade and finance.
These hopes have been dealt a blow this week by
China s stock-market crash. By the end of July 7,
trading in more than 90 per cent of the 2,774 com-
panies listed on Chinese exchanges had been sus-
pended or halted. Shares have fallen by a third in
less than a month, wiping out some US$3.5 trillion
in wealth, more than the total value of India s stock
It is not the plunge in share prices, however, nor
the implications for the Chinese economy that are
worrying, so much as the government s frenzied
attempts to bring the sell-off to a stop.
The market mayhem is the first grave economic
blemish on President Xi Jinping and Prime Minister
Li Keqiang. Officials botched attempts to repair
the damage have only made a bad situation worse.
The danger now is that the party will draw the
wrong conclusions, leaving China more vulnerable
The first mistake, often made by China pessimists,
is to think that the market crash presages an eco-
nomic collapse. That is most unlikely. True, the
stock market is down by a third in a few weeks, but
it has fallen back only to March levels. It is still up
by 75 per cent in a year.
Lost in the drama is the fact that the stock market
still plays only a small role in China. The free-float
value of Chinese markets, the amount available for
trading, is only about a third of GDP, compared
with more than 100 per cent in developed economies.
Less than 15 per cent of household financial assets
are invested in the stock market, which is why
soaring shares did little to boost consumption and
why their crash should do little to hurt it.
Many stocks were bought with debt, and the
unwinding of these loans helps explain why the
government has been unable to stop the rout. Such
financing is not a systemic risk, however, because
the loans are about 1.5 per cent of total assets in
the banking system.
The economy is solid. Growth, though slowing,
has stabilised. The real-estate market, long becalmed,
is picking up.
Money-market rates are low and steady, suggesting
that banks are stable.
To be fair, Chinese officials understand this. The
trouble is that they are less willing to accept the
two fundamental causes of instability: the structure
of markets and China s brittle politics.
From mid-2014 until early June, Chinext, a market
for start-ups, more than tripled. China s mania
derived partly from the way the market functioned.
Regulators act as gatekeepers to initial public offer-
ings, in effect deciding which firms list, when and
at what price. Because the government initially was
slow to approve new IPOs, those firms already lucky
enough to have Chinext listings became financing
Investors pumped their shares higher, knowing
that the capital could buy firms waiting in the long
line to list. Hence the wooden-flooring company
that remade itself as an online-gaming developer
and the fireworks-maker that became a peer-to-
peer lender, among dozens of similar mutations.
Before long the Chinext price-to-earnings ratio had
reached 147, putting it in the same league as Nasdaq
during the dotcom era.
China s repressed financial system helped inflate
the bubble by pumping money into the stock market.
Banks pay interest rates well below the level that
would be expected without regulatory caps, and
China has yet to develop alternatives for savers look-
ing to park their cash elsewhere. During the past
decade the hunt for good returns has sparked invest-
ment frenzies in property, stamps, mung beans,
garlic and tea.
Steps to give investors better access to foreign
markets and to free bank rates all aim in the right
direction, but progress has been halting. Equities
were as ripe for a bubble in 2015 as they were in
2007, the last time China experienced a stock fren-
If economic stability is not in peril, the best expla-
nation for the interventions is politics. When the
stock market was soaring, the press cheered the
bull run as an endorsement of the economic reforms
of the Xi-Li team. Now that it is falling, regulators
want to shore up the leadership s reputation.
It is not only the motive that is questionable, but
also the nature of the intervention. Cutting interest
rates as support for the economy, when inflation is
so low, is fair enough. However, regulators also
capped short-selling, pension funds pledged to buy
more stocks, the government suspended initial public
offerings and brokers created a fund to buy shares,
backed by central-bank cash.
The Communist Party both distrusts market forces
and misunderstands them. Botched attempts to save
stocks suggest that it is losing control, while a suc-
cessful rescue would have made buying shares a
one-way bet, inflating the bubble still further.
One of the persistent illusions about China s gov-
ernance is that, whatever its other shortcomings,
eminently capable technocrats are in control. Their
haplessness in the face of the market turmoil points
to a more disconcerting reality.
China is not the first country to prop up a falling
stock market. Governments and central banks in
America, Europe and Japan have histories of buying
shares after crashes and cutting interest rates to
cheer up bloodied investors. What makes China
stand out is that it panicked when a correction of
clearly overvalued shares had been expected. Rather
than calming investors, its barrage of measures
screamed of desperation.
The journey from command economy to market
economy is a long and dangerous one. China has
managed it well, but in financial markets it still has
a long way to go. After the bedlam of this week,
it must realise that being partially liberalised presents
investors with perverse incentives and policy-makers
with extraordinary demands.
China must not go slow or turn back. That would
be the most dangerous path of all. Instead the real
lesson from this week is that it must let the markets
@2015 The Economist Newspaper Ltd. Distrib-
uted by the New York Times Syndicate
China vs the markets
reason to lose
Monetary Fund said
a few days that
there was no reason
to lose faith in
because of the
bursting stock mar-
IMF chief econo-
mist Olivier Blan-
chard said that the
30 per cent melt-
down in the Shang-
hai and Shenzhen
markets since mid-
June is "very much a
sideshow" to the
and would not un-
"There is no par-
ticular reason to
have lost confi-
dence," because of
meltdown, he said in
a press conference.
The spillover of
the market rout into
the economy is
"likely to be small,"
he said, as the IMF
reiterated its fore-
cast for 6.8 per cent
growth in the
The market "went
up very quickly, it's
coming down very
people should be
used to very wild
gyrations in stock
markets," he noted
adding that it "won't
be the last time."
He said Beijing
should not try to
prop up markets,
but said their efforts
to ease the pace of
the plunge in stocks
"may be a good
should realise they
some level of stock
prices that they
want," he said. AP
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