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Is China on its knees?

14 Aug 2015

Global superpower’s status under threat amid economic volatility

China Slowdown 1

China’s currency is sliding and its stock market has suffered its worst crash since the global financial crisis.

Sustained falls in the value of the renminbi - which this Wednesday slumped for a second straight day - are sending share prices lower and have shaken global markets amid rising concerns over the world’s second-largest economy.

China’s central bank again let its currency fall, prompting panic in European markets, home to large companies reliant on the spending power of China’s emergent middle class.

So what is behind the unusual measures being taken in China and how are they affecting its reputation as the most rapid of emerging markets?

Linda Yueh, Adjunct Professor of Economics, London Business School and author of 'China’s Growth: The Making of an Economic Superpower', has been weighing up these questions.

What goes up

Of course it’s not wholly unexpected that a market which has enjoyed such an unparalleled economic rise in recent years should start to slow down.

The Chinese stock market is also unusual, in that it’s not globally integrated. Its true wheels of industry are the Chinese people, its savers. Only in 2009 did the balance tip so the majority of shares on its market became tradable.

Linda Yueh sees China’s stock market situation not such much as a roller-coaster ride, but a casino.

“Retail investors account for 85% of trades, in contrast to other major markets, where institutional investors - with their relative abundance of information - are the biggest traders,” she says.

“The result, no surprise, is an extremely volatile market, in which rumour and emotion play an outsize role in driving outcomes.”

On the other side of the coin though, due to its make-up China’s stock market can feasibly rise or fall by double digits without triggering a wider economic crash - at least so far, as Dr Yueh points out.

“(The slowdown) has revealed the importance of China to the world economy, as investors watched that market closely even though it is mostly closed and largely serves domestic investors,” Dr Yueh says.

“The government's actions to stem the market's fall, though, raised questions over whether financial reforms have progressed far enough for China to take a central role in the global system, such as the RMB becoming a reserve currency.

“Heavy government intervention to support the market isn't normal in other countries.”

Weakening growth, greater scrutiny

China's government insists moves to devalue its currency are attempts to make its exchange rate more responsive to the market. 

But a weaker yuan also helps China by making exports cheaper to overseas customers.

Indeed, there is an element of scepticism surrounding aspects of this week’s news, and some in the US suspect China could be up to its “old tricks”.

America has previously accused the nation of building up huge trade surpluses on the back of a currency that had been deliberately undervalued.

Senator Chuck Schumer told the Associated Press this week: “For years, China has rigged the rules and played games with its currency.

“Rather than changing their ways, the Chinese Government seems to be doubling down.”

So what damage will weakening growth and greater scrutiny do for inbound investment into China?

As Linda Yueh explains: “Foreign investors will be wary of volatility as China's reforms progress. 

“But it is worth bearing in mind that the slowdown is also part of the structural transformation of the economy into one being driven by its own middle class and not exports which offers huge opportunities for foreign investors over the longer-term.”

“It'll take some time before China adjusts to a more stable growth path, which is to be expected of an economy that has just become middle class,” she says.

“So, this sort of volatility will be with us for a while and perhaps worse. On the other hand, China has been known to surprise with a quick adjustment and rapidly assimilated market reforms.”