Tuesday, August 25, 2015

The Gravity of China’s Great Fall-EIGHT is an auspicious number in China, because in some dialects it sounds like the word for prosperity. Negative-eight, it seems, means just the opposite.

EIGHT is an auspicious number in China, because in some dialects it sounds like the word for prosperity. Negative-eight, it seems, means just the opposite. After two consecutive days of 8% losses—the Chinese stockmarket’s biggest two-day plunge in nearly two decades—the fortunes of those punters who are still holding shares are decidedly smaller than they were at the end of last week. Big falls have become the norm for Chinese shares over the past two months, but Tuesday’s tumble was especially notable.

The Shanghai Composite Index, the country’s main index, has now broken below the 3,000 level. Shares may well have quite a bit farther to fall, for they are still up by a third over the past year. But to be back into the range of the 2,000s, the level at which they had languished for the previous half-decade, is to mark a remarkably rapid crash back to earth. China’s stockmarket is, of course, hardly the first to experience a violent, destabilising swing from euphoria to despair. But few others have condensed the wild ride from trough to peak to trough into a tidy 12-month (more or less) package.

What was most striking about the precipitous decline was the muted reaction to it. Two groups of people who had previously seemed to panic at every downward lurch in Chinese share prices have instead been nearly phlegmatic about the latest dive.

The first were China’s own regulators. When the market first sold off in June and July, the government threw money at it, hand over fist, along with gobs of propaganda and legal action, all trying to stop the rot. Though share prices, especially for small-cap stocks, had been deep in bubble territory, officials decided it was a political imperative to support the market. The stockmarket regulator banned short-selling and halted IPOs. State-owned companies bought back their own shares. The central bank lent cash to an agency that vowed to drive the market back up. “We have the conditions, the ability and the confidence to preserve stockmarket stability,” blared the People’s Daily

So much for that. Since then the cost of intervening had started to pile up and its effectiveness was wearing off. Analysts at Goldman Sachs estimated that the government spent as much as 900 billion yuan ($140 billion) in trying to put a floor under the market. Meanwhile, a declaration that domestic brokers would refrain from selling shares until the Shanghai index returned to the 4,500 mark proved, predictably, self-defeating. Rather than wait for the brokers to dump their shares, investors decided to sell first, with the effect that the market’s mini-rebound never got much beyond 4,000. Since then, it has been a steady drift southw

Sanity seems to have prevailed. Ten days ago, the securities regulator said that it would stop wading into the market actively to prop up shares. Those that had been bought over the course of the intervention were transferred to a unit of the central bank as a long-term investment. For punters still counting on government support, that was a cruel decision: share prices have plunged by a quarter since then. But after a very public display of their disrespect for and misunderstanding of market forces, Chinese officials seem finally to have learned a painful lesson. Indications are that they will now stand aside to let the investors thrash out the true value of Chinese stocks.

At the same time, the government is still determined to support the economy. After the market closed on Tuesday, the central bank cut interest rates by 25 basis points and also lowered the amount of deposits that commercial banks must lock up as reserves. (Benchmark one-year lending rates now sit at 4.6%, while banks' require reserve ratios are 18%, meaning China still has plenty of leeway for more easing.) Both moves had been anticipated but they are still helpful, reducing funding costs for companies and giving banks more money to lend. Crucially, they are also directed at the economy as a whole, instead of targeted specifically at the stockmarket.

Investors outside China were the other group that greeted the slide in stocks with relatively greater equanimity. At the end of last week and the start of this week, international markets fell in tandem with China. European and American stocks were down by more than 3%. Emerging-market currencies tumbled, as did commodities. Oil hit a six-and-a-half year low. 

On Tuesday, though, China moved one way and much of the rest of the world moved the other way. Most Asian markets gained on the day, stocks in Europe were up more than 2% in early trading, and even the commodity markets were recovering.

There are reasons to be worried about China’s prospects. Its rate of growth is grinding slower. With investment cooling even more sharply, its once-voracious appetite for commodities has tailed off. That deals a major blow to commodity exporters everywhere. And the government’s hapless early response to the stockmarket sell-off has raised unsettling questions about the competence of China’s policymakers as well as their commitment to the sort of deep market reforms that the economy needs. But concerns about China’s short-term outlook are overblown and the government still has plenty more firepower in reserve if growth falters, as the central has shown with its rate cuts. Roller-coaster share prices are a lousy guide as to how the Chinese economy is actually faring. This is one market in which 8% declines should not cause alarm.

The Economist



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