When the ducks quack, feed them

When the ducks quack, feed them
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First Published: Wed, May 02 2007. 12 22 AM IST
Updated: Wed, May 02 2007. 12 22 AM IST
The Chinese stock-market boom is proving as difficult to kill as the bunny-boiler in Fatal Attraction. The authorities have made several attempts so far this year to quieten the animal spirits, most recently raising the bank’s reserve requirements. But they have been spectacularly unsuccessful to date. Nevertheless, there are several more measures Beijing should consider before ordering its tanks onto Shanghai’s stock exchange.
When the Chinese stocks dropped in early February, it looked as if the authorities’ attempt to warn off speculators had succeeded. But the Shanghai index is now up around 40% from its February low. People from all walks of life are flocking to the stock market. More brokerage accounts have been opened this year than in the previous four years combined. With nearly 100 million Chinese playing the stock market, the political fallout will be huge when this bubble bursts. So what are the authorities to do?
Here are five suggestions:
First, the authorities should allow the currency to appreciate faster. The yuan is up only 7% since the “crawling peg” was introduced in 2005. A stronger currency would reduce the country’s trade surplus which is the main source of excess liquidity in the financial system.
Secondly, the authorities should raise interest rates. With inflation on the rise, real interest rates are currently negative. Investors earn around 2% on deposit compared with triple-digit gains available on stocks. Low rates are an incentive to speculate.
Thirdly, the authorities should allow Chinese nationals to own foreign investments and deposits. This would reduce the excess demand for domestic stocks.
Fourthly, the authorities should lead a drive to improve corporate accounting. As costs rises with inflation, profits at many Chinese companies must be being squeezed. But the accountants are likely concealing such problems, just as they hide the bad loans in the Chinese banking system.
Finally, if all these measures fail to suppress demand for stocks, the authorities should consider increasing supply. They’ve done that in a minor way with all the recent bank flotations. But they could go further and flood the market with new shares. That should be easy to achieve as Beijing already owns around two-thirds of stock of listed companies.
As the Chinese proverb goes, “When the ducks quack, feed them.”
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First Published: Wed, May 02 2007. 12 22 AM IST
More Topics: Money Matters | Global Markets |