Why you should relax about China
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Global investors and the financial media have been obsessed of late with the fate of the Chinese stock markets. Conventional wisdom has it that China’s local stock market is caught up in an uncontrollable bubble and that when it bursts its aftershocks will threaten the entire global economy.
And it isn’t just the easily excitable hedge fund managers who think this: even luminaries such as former Federal Reserve chairman Alan Greenspan and Li Ka-shing, the richest man in Asia, have been busily warning that Chinese stock valuations “must be a bubble” and that prices will inevitably decline...
It is certainly true that Chinese markets have delivered extraordinary recent returns. The CSI 300 Index, which tracks yuan-denominated A shares listed on China’s two stock exchanges, is up over 90% this year, and has delivered total returns of 300% since January 2006.
And new account openings at stock brokerages exceeded 400,000 per day for the third time in a row on May 30, when the authorities raised stamp duty on share trading from 0.1% to 0.3% in a desperate attempt to cool down the speculative fervour.
The participation of individual investors is perhaps the most worrying aspect of the Chinese market boom. The government-run Eastday web site reported in April that about 10 percent of maids in Shanghai had quit their jobs because they could make more money from trading shares. And in an interview in central Beijing, Li Shi, a 50-year-old retired factory worker, told journalists, “I’ve invested my entire life savings in the stock market.” There is evidently an urge to gamble in the Chinese psyche that is never too far from the surface.
But the concerns about a meltdown in Chinese markets – at least as far as the West is concerned - are almost certainly overstated. As Frederic Neumann, an economist at HSBC Holdings in Hong Kong, told Bloomberg News, “A decrease in the Chinese stock market doesn’t have to affect the other Asian or even western economies as there is no real link between them.” Neumann suggested that irrespective of stock market movements, the Chinese economy would grow by 10% in 2007 and show continued strong growth next year too.
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Geoff Dyer, writing in the Financial Times, acknowledged the fears about fallout from a Chinese equity market crash, but like Neumann was pretty relaxed: “Investors.. have started to ask what would be the impact from a crash not just on the Chinese economy but also on global iron ore consumption, Latin American trade surpluses and Treasury bill purchases.. The answer is, well, pretty much nothing at all. If the mainland market were to drop by a further 20-30 percent, the Chinese economy would barely miss a beat.”
What investors have largely missed is the disconnect between the Chinese economy and its stock market. They are not the same thing. China’s capital markets remain relatively underdeveloped, and its stock markets, unlike those in Anglo-Saxon markets, remain a comparatively small part of the overall economy. Geoff Dyer adds that Chinese consumers still have some $2 trillion in bank accounts to fall back on, so are capable of withstanding even a fairly hefty correction.
At a wider level, countless investors have associated the rally of western equity markets with an unsustainable surge of global liquidity and associated speculation. But there may be a more positive interpretation: as Marc Chandler of Brown Brothers Harriman and Jim Glassman of JP Morgan Chase suggest, an alternative view is that globalisation and the liberalisation of many parts of the emerging world are allowing pent-up savings to enter the global economy: “The capital and derivatives markets... reflect a long process of disintermediation that is transforming the distribution of capital from a process once dominated by banks to one where the markets play a more critical role.”
Whether one views this as a positive or negative development depends on the level of one’s respect for bankers as opposed to markets. Neither solution is perfect. The problem with markets is that, just like the individuals that ultimately comprise them, they are vulnerable to high emotion and have a tendency to overshoot. Which takes us back to China.
Tim Price now edits a twice monthly newsletter. To learn more about it, click here: The Price Report.
Turning to the wider markets...
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