Recent volatility in domestic and international stock markets can be attributed to a variety of factors, but has mainly been driven by a crash in the overvalued Chinese stock market. Quantitative easing and other market manipulation techniques have been at the forefront of Chinese economic policy before and during the crash, and all to no avail.
The Shanghai Composite Index had more than doubled from the previous year at its height on June 12th, despite declining Chinese GDP growth. This astronomic increase in such a short amount of time without the fundamentals to justify it created an equities bubble that all but bursting by mid-Summer, and in just a few weeks the Shanghai Composite plummeted over 30%.
Behind the dramatic rise in the Chinese market were an easy money policy executed by China’s central ban—decreasing borrowing costs— and a liberalization of the stock market investing for average Chinese citizens, making it easier for brokerages to offer and for investors to purchase stock in domestic companies. The ensuing flooding demand for equities resulted in a wildly overvalued stock market, where analysis of firm and economic fundamentals were seemingly replaced by sheer psychological whimsies and inexperience.
Rather than let the market correct overvalued Chinese equities in June, the Chinese used a variety of tactics to intervene in the market in July. Over half of the companies listed in Shanghai and Shenzhen indices were granted trading halts to prevent further losses, while the government stopped state-owned enterprises from selling shares of their listed companies. Another government effort to prop up a seriously distorted market was a limit on daily stock declines to 10%.
These measures, along with a surprise interest rate cut in July to further stimulate an equities market and economy in the throes of correction, did not help stem the massive selloff in the market, and some analysts say these methods have accelerated the crash. The logic behind this is that the more the government tries to intervene, the more concerned they seem to the investor about the market, and they are then more likely to sell off.
This is a clear sign of an overbearing government that did not allow the free market to solve the issue of an overvalued stock market. Instead of letting the market correct itself, the Chinese have wasted $236 billion dollars to prop the market back up to no avail.
Even if stock prices in China were to bounce back due to government stimulus spending, it would only recreate the bubble that had previously existed, setting up the markets for another crash.
In my opinion, the solution to the issue of China’s stock market crash is simple: to do nothing. The bubble that was created through low interest rates and liberalizing of the market was natural, as was the correction this summer. Intervening and overspending only wasted the nation’s resources and did not succeed in halting the crash.
