The Shanghai stock market capped yesterday’s 1.5% decline with a further decline today of 0.7%.  It’s still been a great week, up nearly 8%, but the party, at least for a while, seems to have ended.

At least one government official is, alarmingly enough, wondering if there are ways to manage the process better.  According to an article in today’s China Daily:

It's necessary and urgent to set up buffer funds to confront big speculators and stabilize the mainland market, a senior official said.  Jiang Lianhai, head of Jilin provincial securities regulatory bureau, published an article in Shanghai Securities News yesterday, which pointed to the necessities, functions and capital resources of launching a buffer fund. Later, an official from China Securities Regulatory Commission reiterated the view in an interview with China Daily.

In the article, titled "The capital market with Chinese characteristic calls for a buffer fund", Jiang said that in recent years, international hot money has flooded into China's stock market and real estate sectors. Some international speculators are planning to buy cheap stock when the market is sluggish and close out in a high price. "If the government does not have an effective tool in hand, it will be dangerous."

One of my Peking University students sent me the article, highlighting the last two sentences.  His sardonic comment: “Nothing can be worse for China than to allow foreigners to make money.”  

He was being sarcastic, of course, and I am glad to see that my students are sophisticated enough to laugh at this kind of comment (a very widely held view here, by the way), but it is a little dismaying that a senior government official would say something that even an undergraduate would find so silly.  There is plenty of evidence that hot money inflows are driven mainly by Chinese at home and abroad, but even if that weren’t the case, foreign buyers during a time of market collapse are a force for stability, and the fact that they may profit shouldn’t be a driving factor in determining policy.

But I digress.  Here is what today’s South China Morning Post says about the article:

A senior official at the mainland's securities regulator has come out in favour of setting up a fund to help stabilise the volatile stock market, the first time a government official has openly advocated the controversial idea.  In an unusual and bold move that may press top decision makers to consider the issue, Jiang Lianhai, the head of the China Securities Regulatory Commission's Jilin branch, wrote an article in Modern Bankers magazine calling for the launch of a non-profit-making fund.

The government had no reason to stay on the sidelines of the troubled stock market, and its intervention could help stem destabilisation of investments, Mr Jiang said.  Unlike their more outspoken counterparts in the west, mainland securities officials rarely comment on policies, to avoid media attention that might not sit well with leaders.

We have heard these rumors before, in 2006 I think, before the market took off, but this is the first time a government official has made the point.  It may be a good short-term political move to bail out middle class investors, but these kinds of comments only reinforce the pessimism of those of us who do not expect to see a well-functioning capital market in China for many more years.

On a separate note, Paul Cavey of Macquarie has an excellent new research piece out on China called “China’s great Monetary Con” in which, among other things, he torpedoes the idea that Chinese monetary policy is tight.  His piece starts out:

Macquarie analysts. Global investors. Ordinary people. Everybody believes China’s monetary policy is tight. As a result, the market has sold off, and savings rushed into the banks. But why? Rates have fallen further behind inflation. The stronger currency has been offset by bigger capital inflows. Reserve requirements have been hiked, but credit growth has hardly slowed.

The only thing that has really changed is rhetoric, notably the announcement of a “tight” monetary policy. The impact of what has been purely a rhetorical shift suggests Beijing has more credibility than the Fed. Neither the US nor China has much ability to raise rates, but while attempts to talk up the USD have floundered, verbal threats in China have bought money back to banks.

With rhetoric a lot less disruptive than real policy changes, conning investors – more politely, the guiding of expectations – is a key central bank tool. As an example, China’s talking down of CPI will probably work. With households putting their money away, domestic inflation will indeed likely ease.

I have often referred in my blog to “tight” (quotations included) monetary policy in China, but after reading Paul’s piece I wonder if I may have been a little aggressive in assuming that everyone would know that what I meant by those quotation marks is that I don’t believe monetary policy in China is tight at all, or for that matter has been tight during any of the nearly seven years I have lived here.  China has a very loose monetary policy, and this was an inevitable consequence of the combination of ample global liquidity, an undervalued currency, and the country’s ongoing decision to manage the dollar value of the RMB, which almost automatically precluded its ability to manage domestic monetary policy.

How can I say that money is loose, not tight?  Except for the assurances of the central bank there is no other good evidence that money is tight:  Interest rates are negative, inflation is rising, and credit growth is actually very high and growing from a high base.  Remember that officially credit growth is supposed to be limited to 16% this year (from 18% last year), which already doesn’t seem particularly tight, especially given the high base, but this growth limit doesn’t apply to the policy banks, the informal banks, and to dollar loans, and all of these, to the extent that we can measure, have surged.