Market plunge makes Beijing’s exit harder

By Wei Gu
August 21, 2009

wei-gu.jpg— Wei Gu is a Reuters columnist. The opinions expressed are her own —

The Chinese leaders have a dream. The banks pump trillions of yuan into the market, which props up asset prices, creates new demand, and gets the economic engine roaring again. Then, just before inflation starts to surge, the money is drained out of the system.

Others, from U.S. Federal Reserve Chairman Ben Bernanke to Bank of England Governor Mervyn King, share the dream but the Chinese economy, still largely driven by the state, should make it easier to realise. Unfortunately, investors in Shanghai’s stock market have their own ideas — the mere suggestion of credit tightening caused the index to plunge 20 percent in just two weeks to Wednesday’s close before bouncing slightly.

The Chinese policymakers are left between a rock and hard place. At some stage, they must stop pumping money into the system, and prepare to mop it up instead, but timing this to avoid another stock market slump looks close to impossible.

Investors can remember what happened the last time. The central bank’s resumption of sales of one-year bills in July looks similar to the tightening action which began in May 2003. That prompted a six-month fall in stock prices.

That time, Beijing was slow to show it meant business. A couple of reserve rate hikes were largely symbolic, and it was not until late 2004 that interest rates were raised, 18 months after the first move. The market had lost half its value about a year later.

Beijing might not be very effective at controlling wild swings in the market, but it is effective at jump-starting the economy. While Japan had to pump free liquidity into the system for seven years before economic growth returned, it’s taken just half a year for China’s astonishing GDP growth to resume.

This increased economic activity has done little to improve corporate earnings. Take banks as an example, they are the biggest beneficiaries of the loans surge, as new lending tripled the amount on the first six months of last year. But net interest income at China’s largest bank ICBC fell 12 percent during the first half, because lending was less profitable — the interest spread was almost a third less than last year.

The authorities’ hope that rising property prices and investment would increase domestic demand, and hence corporate sales and earnings, has not been realised so far. Urban dwellers feel less well off than at any point since 1999, according to a survey by the central bank conducted in late May.

Chinese policymakers hoped the stimulus would buy China some time before demand from developed markets recovered, but the process of unwinding the West’s huge consumer debt total built up in the past two decades will be slow. Net exports, which contributed about 10 percent to China’s economy, have kept falling, and only recovered slightly in July.

Perhaps the latest market sell-off might prompt the Chinese authorities to maintain loose money policy a little longer, to encourage the buyers back in to share and property markets.

Unfortunately, even if the ploy works, it just sets them up for more difficult times next year.

— At the time of publication Wei Gu did not own any direct investments in securities mentioned in this article. She may be an owner indirectly as an investor in a fund —


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I think there has been a misconception about Bernakes idea of draining just before raining (inflation). What realy happened was that the money was not getting into the real economy but only in the banking system an economy on it’s own.

If piles of money would have entered the real economy you indeed would have inflation by now. But it doesn’t happen on the contrary, worlds money is thightening and deflation is happening in many countries.

Banks still don’t trust each other are undercapitalized, over leveraged and full of toxic assets. But this is in America.

In China most of the stimulus went into the stock market bubble unfortunately and Chinas economy as a whole doesn’t profit much of that.

In America a lot of money went to the sideline waiting for real opportunities. As last resort I expect a commodities bubble cause where else do people go with their money?

Posted by Youri Carma | Report as abusive

Who cares what happens to the Chinese stock market? It is tiny and grossly over valued even at the bottom – at current valuations, it’s simply ridiculous.

As for worries the market slumped 20% in recent weeks, that’s hardly surprising since is had jumped 70% this year. From my perspective, it appears Chinese jawboning is working.

As for comparing Chinese bank “profits”, you were attempting a bad joke I suppose.

As for urban dwellers “feeling” less well off since ’99, isn’t that likely due to the huge decline from the highs and the then recent market lows? I suggest sentiment is much better today.

“Net exports, which contributed about 10 percent to China‚Äôs economy, have kept falling, and only recovered slightly in July.”

Is that a surprise? Only recently have major western economies emerged from recession – who else would China be selling to if not them?

Posted by Raul | Report as abusive

In my opinion, the chinese government are willing to see a real-estate bubble as it helps to stimulate the economy.

in china almost all main industries are under government’s control. the government is running the economy,that is why it is easy to keep a high GDP growth.

Posted by alex jiang | Report as abusive

What’s the real economy? Industry, farming, services. The real McCoy. Central bankers, who have far too much power and bath in delusions, thought they can ‘dial’ the real economy up or down just by playing fiat money games. All they end up doing is pump bubbles in the banking sector, in sectors that are sensitive to leveraged money, and in the stock market. All of which are conveniently subject to mass media plays, thus yielding mass hysteria. If the central bankers drain, the mass hysteria goes in reverse and the politicians go nuts. None of these has much effect on the real economy.

The decoupling of the real economy from a fiat money banking system which is not soundly managed, but manipulated, is the biggest failure of modern economics.

Posted by The Real Deal | Report as abusive

China still has the overhang of authoritarism, but in itself that is not an (economic) problem as the policy of encouraging growth has been sustained. The great thing about China (and the Chinese) is their consistency, through peaks and troughs. Their weakness is also their consistency, as the dynamics of the world can change rapidly, and government is often slow to change. Pulling back the fiscal stimulus is considerably alleviated if growth can be sustained, as growth will soak up many excesses.

Posted by Mr Pepper | Report as abusive

actually, i woould rather have huge inflation than lack of liquitiy now. i have a loan with a fixed interest rate and which is independant of inflation, a sudden influx of money would save me.

Posted by eurouser | Report as abusive

US Fed has pumped trillions dollars into the banking industry. A large amount was injected into a small group of favor banks and insurance giants. GS,JPMC, AIG, FNM and FRE are indentified examples. The specific amount is much more than what you read in the so-called Economic Stimulus Plan. Instead, a lot of other US dollars flow to thos endangered companies who post “systematic risks to the country” indirectly.

Unfortunately, many of those newly injected dollars went to the already Rich who brought us the crisis and deprive us of the dollars value. Then they went to other markets to “rob” again. Take China’s market for example. When the US hot money comes in, the market is heated up. People get into the crazy mode as they don’t know what is going on. Suddenly, those hot funds leave. The foreseeable consequence is the crash of the market. Chinese’s wealth is stolen silently by the US Rich. That’s why China strongly objected when US was about to print dollars. Protecting China’s US debts is just the surface reason. The deeper one is protecting the US hot funds benefit from Great Obama’s economic rescue. The author obviously has no clue about what effect the new yuans do in the market. The yuan is to protect the sudden crash of the market and to defeat or disable the hot funds’ agenda…

p.s. JPMC and GS hold trillions of dollars for US government. US and its bankers are the biggest market manipulators and crooks. Don’t trust the mainstream media at all. They either lie or distort truths or half-truth disclose. Good Luck to All Good People.

Posted by JPMC-CROOK | Report as abusive

next year,the situation of China is hard to predict,cause the economic of China is pretty connected with exportation.

Posted by yicun ji | Report as abusive

Despite all this blahblah, China is still a second-rate economy that is doctored up by their government (since it is essentially run entirely by their government.) Moreover, China is overly dependent on exports – by design from America as a means of control, though most would see the opposite as being true – and they are at the mercy of ‘the West’. They need us a helluva lot more than ‘the West’ needs their investment dollars. In the community of nations it’s hard to respect someone that needs you more than you need them and so, I would argue, China is not yet worthy of respect.

Posted by the Shah | Report as abusive