Why Is China's Stock Market Crashing?

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China’s stocks tumbled in recent weeks. Barely three weeks earlier, on June 12 (Friday), Shanghai Composite (SSEC) closed at 5166.35 points, the highest since January 18, 2008. Yet by the end of July 3, the SSEC shed 1481.99 points, losing almost 29 percent of its recent high and more than $2.8 trillion of value (i.e., 10 times of Greece’s annual GDP).

What is vexing for policymakers is that the Chinese stock markets ignored signals from the Chinese leaders and continued their downward fall. Following the 7.40 percent dive on Friday (June 26), the People’s Bank of China (the central bank of China) on Saturday responded by cutting its benchmark interest rates and the amount of reserves certain banks are required to hold. The central bank cut its one-year benchmark lending rate by a quarter of a percentage point to 4.85 percent and its one-year deposit rate by the same scale to 2 percent.

Moreover, Monday, June 29, was supposed to be an auspicious day when the ceremony for the establishment of the Asian Infrastructure Investment Bank (AIIB), a China-led international bank, was held. But investors disregarded these strong signals and continued their selling. The SSEC lost 12 percent for the week, the worst weekly performance since the financial crisis.

As for why the Chinese stock markets are falling, there have been different theories. First, it has been discovered that the names of chairmen of the China Securities Regulatory Commission (CSRC), the regulator of China’s stock markets, are ominous. The man who was CSRC chairman for almost a decade, from December 2002 to October 2011, is named Shang Fulin, meaning the probability of China’s stock markets going up is zero. Shang’s successor is named Guo Shuqing, meaning losing all you have, and Guo’s successor is named Xiao Gang, meaning cutting it all.

Of course, there is no clear evidence to back up this theory. During Shang Fulin’s tenure, for instance, China’s stock markets went on a roller-coaster ride. On December 27, 2002, the day he assumed the position, the SSEC was at 1382.97. The index increased incrementally to 1777.52 on April 6, 2004 and then declined to 1080.87 on October 28, 2005. Then the stocks entered a bull market. In the subsequent two years, the SSEC passed the 2000-point mark (on November 20, 2006),  the 3000-point mark (on February 26, 2007), the 4000-point mark (on May 9, 2007), the 5000-point mark (on August 23, 2007), and the 6000-point mark (on October 15, 2007), reaching an all-time high of 6092.06 on October 16, 2007. Then the index took a nose dive all the way to 1706.70 on November 4, 2008. On October 31, 2011, the last day of Shang as the chairman of the CSRC, the SSEC finished at 2468.25. Compared to the points of his first day on December 27, 2002, this was an increase of 1085.28 points (about 44 percent). Guo Shuqing did not fare so well. In his 15-month tenure, the SSEC lost 189.85 points (8.3 percent). But since Xiao Gang took it over, the SSEC went up from 2240.02 on March 18, 2013 to its current level of 3686.92 on July 3, 2015, a healthy growth of 39.2 percent.

Nevertheless, those who lost their shirts in the last three weeks continue to blame Xiao Gang for the free-fall. They found out that Xiao was bad at math. According to an interview with Ms Wu Xiaoli of Phoenix TV in Hong Kong on March 17, 2012, Xiao confessed that he did well in Chinese literature but poorly in math in his national university entrance exams. Rumors have it that Xiao could not comprehend what was the five-day moving average when some of his subordinates suggested that the CSRC pump funds to stabilize the SSEC at that level. Of course, stabilizing the stock market is not simply a mathematical problem. Nobel laureates in mathematics would not necessarily be more equipped to solve this problem.

Some blame foreign speculators. They strongly believe that big foreign banks and institutional investors had been shorting Chinese stocks. Interestingly, the Global Times, a state-run newspaper that tends to look for the evil consequences of external forces, came out to dispel the rumor by stating that “foreign capital has only a small part of the Chinese stock market” and that “large-scale short selling by foreign investors in the Chinese stock market has not appeared and is an unlikely scenario.”

Apparently, the volatility of the stock markets has become a political issue but political intervention has not been effective. It is likely that Chinese leaders will find ways to boost the confidence in the Chinese stock markets. But it could very well backfire if they do not handle the issue well. It is true that the CCP regime is rich in resources and has a tremendous capacity to influence the direction of the Chinese stock market. But once the market is going against the wishes of the government, the credibility of the government will be lost.

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