China’s monetary authorities are in a futile struggle to guide the country’s economy, and their loss of credibility among investors will spread to the United States and Europe, said Albert Edwards, head strategist at Société Générale.
The country this month took steps to halt a 30 percent plunge in the Shanghai Composite Index of stocks, the steepest three-week decline since 1992. Those measures culminated with a July 8 order by the China Securities Regulatory Commission for some shareholders to stop selling stock for six months.
Edwards said China’s actions were reminiscent of similar policies by Pakistan to put a price floor under its equity market in 2008, when a global financial crisis shook the confidence of investors. The
Karachi SE100 stock index had fallen 40 percent from an all-time high before the floor was set, but as soon as the selling ban was lifted three months later, the market sank another 52 percent.
China “should take a lesson from Pakistan,” Edwards said in
a July 10 report obtained by Newsmax Finance. “It turned the catastrophe into calamity. The episode left the authorities’ reputation in tatters.”
Edwards established his reputation as a perma-bear in 1996 with his Ice Age thesis that argued that stocks will collapse and bond values will climb because of deflation. Stocks and bonds have gained since then, but central banks also have intervened on a record scale to support growth.
China’s government faces the possibility of losing credibility among investors after helping to blow up an asset bubble whose subsequent collapse vaporized $3.2 trillion of market value.
“Chinese authorities’ credibility began to decline … when they actively began to encourage the equity market bubble with state-controlled media urging individuals to buy and characterizing the stock boom as an affirmation of the government’s policies,” he said. “The reality of these things is that you can never control a bubble.”
The loss of credibility threatens to spread westward, where the Federal Reserve and European Central Bank undertook massive monetary stimulus programs to promote a recovery from the global financial crisis, Edwards said. Those programs helped equity markets to reach record highs.
“The Fed and ECB have created similarly grotesque stock market bubbles in an effort to shore up their anemic economic expansions,” he said. “Do not be surprised with the S&P collapses in exactly the same way as the Shanghai stock exchange.”
Wealth Transfer to Rich
David Cui, a strategist at Merill Lynch in Singapore, said Chinese consumer spending will likely suffer because of the market crash.
"The net result of this volatile market is a transfer of wealth from the people on the street to the wealthy, including many major shareholders who cashed out," he said in
a July 7 research report.
Banks and other financial institutions may become more cautious in their lending policies if their balance sheets have been adversely affected by the market decline, Cui said.
"The ripple effect from the market correction has yet to show up," he said. "We expect slower growth, poorer corporate earnings and a higher risk of a financial crisis."
Those risks may mean that Chinese assets will be re-priced lower in the future, Cui said.
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