By  on July 20, 2007

SHANGHAI — When Chinese greet each other, they usually politely inquire, "Have you eaten?" But in the past few months that has frequently morphed into, "Have you bought stocks today?" Now it has shifted to a downbeat, "Have you sold stocks today?"

The Chinese juggernaut is speeding up. Although China said Thursday that its economy grew at an annual rate of 11.9 percent in the second quarter, the most in more than 10 years, that torrid pace carries heightened risk that the economy will overheat and inflation will soar. And there is mounting pressure to raise interest rates, which could chill the stock market.

Starting in April, Mainland Chinese went on a stock-trading frenzy, with rumors of overnight riches and insider tips swirling. The whirlwind has turned China's stock market into a feeding frenzy, and professional services firm PwC recently forecast that the capital raised in new share listings in China this year will exceed $52 billion, twice the figure it predicted in January.

According to the China Securities Depository and Clearing Corp., an average of 440,000 individual trading accounts were opened per day in May, and 271,000 per day in June. On April 30, a record 1.1 million new accounts were opened. Yuan-denominated A shares on the Shanghai Composite Index went from about 1,000 two years ago to a peak of 4,300 at the end of May; the smaller Shenzhen Composite Index climbed similarly.

On Thursday, the Shanghai index dropped 0.4 percent to 3,913, and the Shenzhen index was up 0.2 to 1,082.

The growth of the stock market was propelled by small investors, many from the lower- and middle-income brackets, buying and selling as short-term speculation rather than protracted investment. Peter Alexander, founder of Z-Ben Advisors, speaking recently at the Shanghai Foreign Correspondents' Club, explained there was some substance behind rising stock prices as more and more state-owned enterprises have started putting their main assets into their stock listings, rather than just listing subsidiary companies. However, the lack of transparency endemic to China's business climate means the true value of a company is difficult to ascertain.

"Right now is a period of intense speculation," said Access Asia director Paul French. "The price is rising, so people are moving in to speculate. However, everyone quotes the number of trading accounts opened, but a vast amount of those are dead. Most people will open them, not do well, and move out. Also, people do open multiple accounts to manipulate the market. What we think — that everyone is piling in — it is not as serious. Some people are in and out."On May 30, China's Central Bank increased the stamp tax on trading transactions from 0.1 percent to 0.3 percent, precipitating a single-day record drop of 8.3 percent on June 4. As of June 28, less than 150,000 new trading accounts were opened, and Shanghai's index had declined to 3,712.

French stressed the government's commitment to prevent overheating, as it did with the property market two years ago. "The 0.3 percent tax increase, so low you don't even notice it, proved good for the government with the cumulative effect. The fact that the small-time traders — what in the West we call day traders — so many of them got out, shows how very price-conscious the Chinese are, and how responsive. The government got through without a crash, and that is interesting, that China plays it so local. More people are looking at China now and thinking, '[Expletive] that, that's madness!' with capitalism inverted and the herd mentality of the market."

Like many analysts and commentators, French shied away from calling the situation a bubble. "I hate the term 'bubble,' it says there is a point at which it will explode. Rather, China has multiple bubbles, literally thousands of them, when one bursts, another grows. And bubbles don't always burst, they can deflate." He echoed the common consensus that the current situation is limited to China, and even a steeper fall will have little impact on global markets.

There was a common perception that new wealth being generated from the stock market would be funneled into higher consumption. Supporting that hypothesis, during the seven-day May Day holiday, retail sales rose 15.5 percent year-on-year, reported the Ministry of Commerce. Sales of consumer goods hit the equivalent of $41.4 billion. The increase was focused in LCD televisions, air-conditioning units, jewelry and clothing.

On the other hand, several stock-trading enthusiasts said the market activity either had no impact on their consumption patterns, or caused them to consume less than usual. When the market was rising, their spare money and time was spent on buying more stocks, rather than shopping. Now that it has slid, they are curtailing their spending out of fear that they will lose money.French, whose consultancy tracks consumer behavior in China, said the stock market is "having no effect on retail and luxury consumption. My impression is that anyone who is making anything is spending to pay off their mortgages. Interest rates have been rising since 2004, so people are trying to pay it early, they are very sensitive to interest rate rises. Forty-five to 50 percent goes into savings. Once the mortgage is paid off, they want assets. This annoys those who want the Chinese to consume. Compare it with savings rates of 12 percent in Europe, 2 percent in the U.S. In China, it is not savings so much as self-taxation, saving for a rainy day, when they need an operation or whatnot. Since there is no retirement or health insurance, people live 90 years, they practice self-taxation." Government plans to end or reduce a 20 percent tax on bank deposit interest income, which are also likely to further boost saving proclivities, are expected to draw funds away from the stock market.

Of those who have made profits, he continued, "my guess is that money made goes back to themselves in terms of paying off loans, or back into more stocks. The idiots are the ones who keep at it. They're not spending it shopping at Zara; and I'm not convinced that everyone wants a Prada bag anyhow. If they do spend it, they will go for big-ticket practical items like a washing machine, or home decor."

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