Uncertainty in Chinese stocks shakes faith in government

The relationship between perception and reality has always been at the core of economics, and nowhere has that been more true than in China. Recent events in the markets have shown that, given enough time, reality will always ruin the fun. The Shanghai Composite fell almost 8.5 percent on Aug. 24, now known as “Black Monday,” resulting in reverberations throughout the world.

However, what is most concerning about this fall is not the actual economic damage, but how this event has shaken faith in the Chinese government.

The tumble shouldn’t have come as a surprise. The Shanghai Composite index, the sum value of companies on the exchange, has been falling steadily over the past few months, from a peak at above 5,000 to below 3,000.

The significance of this drop is ultimately uncertain. Months beforehand, people had been calling the exchange overvalued. Its dropping in value may just mean a return to reason. If so, the reactions around the world have been anything but reasonable.

On paper, this change seems inconsequential. The Shanghai Composite has made quick recoveries, as have most other markets, though the position of the exchange is still precarious. On Tuesday, the composite closed after a 3.55 percent fall, only to close on Wednesday with a 4.9 percent spike.

Perhaps the most important response to these events is that of the Chinese government. In a misguided attempt to save the exchange, they enacted policies such as ordering share buybacks to hold the price up.

These actions are by no means unprecedented, even in more established markets. For example, the American government purchased shares of car companies in the 2008 recession. However, what sets the Chinese response apart is the speed at which they chose to do so, signaling that the government had not fully thought out their actions.

Ultimately, these events have marked an important turning point in terms of perception: all faith in the Chinese government’s ability to control its economy, let alone the stock exchange, has evaporated. If the government is willing to interfere with the market, it will be difficult for investors to justify placing their money there.

China is presented with two choices. Neither of these choices is particularly compelling: either they abandon their attempts to control the economy, or they double down in an attempt to save face. This, coupled with the slowing GDP growth, present Chinese leaders with their first major economic challenges in a while.

Whether they are able to navigate successfully remains to be seen.

Andrew Langen is a junior majoring in economics and math.

September 16, 2015


Andrew Langen

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