Platt Perspective on Business and Technology

China and its transition imperatives 23: a September 4, 2015 update concerning the explosions at Tianjin and their economic consequences

Posted in macroeconomics by Timothy Platt on September 4, 2015

This is my third posting to this series since explosions rocked China’s Port of Tianjin and my sixth since I first predicted that their economic bubble was about to burst, and with a dramatic drop in valuation as shown in their stock market only representing a tiny portion of that. (See Macroeconomics and Business 2, postings 229 and loosely following for Postings 19.5 and following of this series.)

I have been writing throughout this series, and most recently over the course of the past five installments to it, about China’s economy and about its underlying structural problems and weaknesses there. And then at the end of Part 22, as a part of that flow of discussion, I raised a series of fundamental questions:

• What does all of this unfolding news have to say about both the levels of local and provincial, and national corruption in place, and about China’s capability to safeguard its critical infrastructure?
• And what does all of that have to say about China’s capacity to recover its open marketplaces and its openly legal white economy, and in ways that can instill widespread confidence and credibility in their system?
• And what impact is this event likely to have on China as its leadership seeks to reestablish their own credibility as well as their country’s strength and standing?
• And what would happen to that if (when) a still larger percentage of what at least nominally would constitute its tax base income, were to divert into their country’s gray economy as off-the-books, unreported income and never reach their government coffers?

I began this recent progression of addendum and regular series installments with a voiced concern that China’s economy was about to significantly and even dramatically deflate, and with their stock market valuation dropping off for at the very least, a significant percentage of their publically traded companies. So I take what I admit up-front is only a small first step in addressing those four questions, with discussion here of their Shanghai Stock Exchange and its composite index. And I at least begin addressing that with what at first glance might seem to be both a simple, and even an overly simplistic question:

• Is the Shanghai Stock Exchange a real stock exchange?

This begs the question as to what constitutes a “real” stock exchange, and I will begin with that. Then I will at least briefly and selectively discuss the Shanghai Stock Exchange, and how it does and does not measure up to the bare bones requirements that I would propose in making an exchange legitimate as is generally, internationally expected. And I will also at least briefly discuss how the government of China has managed and controlled its stock exchange, for its own purposes and that is where this narrative connects with the four bullet pointed questions that I repeated towards the top of this posting.

Is the Shanghai Stock Exchange a real, legitimately organized and run stock exchange? The key to any practical answer to that is in whether potential stock purchasers and shareholders can make informed decisions in what to buy and what not to buy, and on when it would be in their best interest to buy, or to sell what they already hold. And in this, I am not addressing the issues of exceptional individual businesses that might seek to game a stock exchange by releasing false and misleading information about themselves, and their finances and prospects. I am focusing here on whether as a system, participating businesses are in fact required to be truthful and accurate in what they report, and that they be required to disclose certain types of essential due diligence information to shareholders and prospective shareholders, and that they publically file this in annual reports and similar readily, publically available documentation.

The basic goal here is that while participating businesses might seek to raise funds that they can use for capital growth and development, and for other business purposes by issuing and selling shares of stock, the stock market that they do this through should constitute a fair and at least nominally level playing field where shareholders and potential shareholders at least have realistic opportunity to do meaningful fact-based due diligence.

And I add, they should also be able to buy and to sell shares on this market without outside coercive pressure. A stock exchange has to offer opportunity to make informed decisions and it has to be organized and run in such a way as to allow freedom of action, so participants can make their own decisions to buy or sell shares based upon that information.

Now let’s consider the Shanghai Stock Exchange itself and how it was formed and how it is organized and run today. Trading in business shares in Shanghai through one form of exchange or other goes back almost 150 years now. The first list of share offerings available for public trading through a Shanghai-based exchange dates for its initial appearance to June, 1866. There have been periods of stock trading activity and periods of complete suspension of this since then, but there is a long history to this type of activity per se, in that part of China.

The present Shanghai Stock Exchange as currently organized and run was officially opened on November 26, 1990 and began operation on December 19 of that year so it is fast approaching its 25th anniversary of active operations. And given its complete reorganization from anything that had previously been carried out in this business arena there, I address it and its issues as if Shanghai stock trading itself began there in late 1990 and without meaningful, pertinent precedent.

When China first allowed and supported stock trading in this current version exchange, the only businesses that could offer stock there were state run and managed enterprises, and this was allowed for two reasons, both of which are crucially important to this discussion:

• This was used to raise business development funds from the public that could be used in support of modernization goals, as China sought to become more current and more competitive where it was hobbled by out of date technologies in its key industries.
• And this was done, and publically so, in order to demonstrate to the world that China was emerging as a modern society, and with the types of investment opportunities offered to its people that were standard in the West and in the more developed world.

China set up this, their first current government run, open public stock exchange with a goal of raising public support, and public funding for capital development of state owned and run businesses and industries. And they saw this as a way to develop and demonstrate widespread public support for their system, as their citizens sought to participate in it as investors in their country’s future. And as a matter of both Party and central government policy and its execution, this new stock exchange was set up essentially entirely as a tool for raising money, and both to fund state-run enterprises and to show China’s growing economic strength.

• Real stock markets show up and down fluctuations, and with course corrections a norm, when momentum of trading activity, and either to buy or to sell, leaves a significant proportion of stocks and their underlying businesses either overvalued or undervalued, as would be determined by informed investors.
• The Shanghai Stock Exchange as formally opened in 1990, as an element of China’s modernization, was designed and run so as to grow, and with no real downturned and no shifts from Bull Market to Bear Market allowed. And this was accomplished both by managing and even overtly controlling the flow of information available to potential investors, and by managing what types of trading decisions they would be allowed to make, and when and under what circumstances.

So their stock market has trended upward and with some periodic downturns but with that centrally limited. When stock prices have started to slide, China’s central government has essentially always moved in to buy shares to stabilize their exchange and to stop any real slide downwards.

And then China decided as a matter of Party and government policy, to allow the formation of privately held, ostensibly free market enterprise businesses and a decision was made to allow businesses from this new sector to enter into this exchange too, and to hold initial public offerings and to raise funds through sale of shares of stock. And the index value of the Shanghai Stock Exchange as a whole became a composite index with both public and private sector businesses traded through it. And the exact same controls were kept in place and both for managing and limiting what investors and potential investors could know about the businesses traded in this exchange – except that these controls were expanded and refined. And the exact same central controls were kept in place for managing what types and sizes of trades, members of the public could make, as well what businesses could and could not do when offering stock shares through the exchange – except that once again these controls were expanded and refined.

State run, government controlled news reporting extolled the value of buying shares of China’s future through this stock exchange, and many of China’s new large middle class (totaling upwards of 400 million leading up to China’s economic drop-off) bought into this. And lacking specific information on what they would invest in, and even basic understanding of stock market investing, they for the most part seem to have invested in stock shares as more of a gamble than a matter of informed investment. And those stock prices went up and up and more and more people in China came to see this as a way to get rich along with the government, and according to an assumption that their government would not let them down because it would be losing too if it did so. And a vast stock market bubble formed, and then it burst.

I read this morning (as of September 1, 2015, Eastern Time Zone) that the Shanghai Stock Exchange has now lost 37% of its value, from its recent high just before it began to crash. And this brings me directly to the four questions that I repeated at the top of this posting, which I raise again here as points for thought.

I might post another off-day installment to this series early, but as of now I am planning on following up on this update with a next installment for publication on October 23, 2015. My intent in that is to wait until China has stabilized more, after its recent and still unfolding crises, as I have been touching upon here since my June 16 posting: China and its Transition Imperatives 19.5: China’s expanding economic bubble and a prediction for the coming year. I want to start putting this story into a fuller perspective, and am planning to start doing so as it becomes clearer how China is going to respond longer-term to what has recently been happening.

Meanwhile, you can find this entire series and all of its postings at Macroeconomics and Business as postings 154 and loosely following for Parts 1-12 and for a supplemental posting: Part 12.5. And see Page 2 to that directory for subsequent main sequence and supplemental installments. You can also find other, China-related postings and series at those directory pages, and at Ubiquitous Computing and Communications – everywhere all the time too.

Addendum note (of September 2, 2015): I have just written in this posting about China’s ongoing efforts to control information flow and access, and everywhere and for everyone in their country. That, in fact is one of my longest-standing threads of discussion in this blog and certainly for all that I have written here about China, with analysis and discussion of their Golden Shield Project, or Great Firewall as it is known in the West extending back to late 2010.

Ever since their stock market began collapsing, the Chinese government has been actively pursuing and arresting anyone who in any way raises doubts or concerns about China or its economy. I cite a recent news article concerning this turn of events as a reference in support of that contention: China Punishes Nearly 200 Over ‘Rumors’ About Stocks, Blasts and Parade. And I note that the reported number of such arrests as noted there was already way out of date before that story first went public. I do not know the exact total number of those arrested for commenting through social media about China’s economy or about the explosions at Tianjin, or about the big parades that are being organized to rally the public. But I fully expect that a true total number would already be many times higher than that, and many, many times higher than any total that China’s official news outlets might divulge.

China continues to try to stabilize it economy by, for example buying up publically traded stock shares to stop or at least limit any further slide in the Shanghai Stock Exchange composite index. And it continues to try to prop up and support its economy and its system through control of news and information. And people there keep looking for ways around the censorship and around their Great Firewall, and many at least discretely do continue to speak out as well. I will have a lot to add to this ongoing news story in my next installment.

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