Since June 12, the Shanghai Composite Index tumbled by 30 percent (take a look at the picture below). Obviously the investors are nervous and fretting. Obviously “something must be done”. Obviously the Chinese government will do something. Obviously companies will so something else. And obviously the market will do something completely different from what was anticipated! What a wonderful confirmation of Austrian Economics!
Governments hate major drops in their indices because it is a sign that their economy is in troubles. They would much prefer have a troubled economy and keep selling manure through their Public Relations people in the hope that nobody notices…well… nobody looking at investing in China. Because as far as Chinese people go, they are fully aware.
And so, when a major index drops governments do what governments do all the time: they freeze trading either partially or completely. The idea being let the markets “recover” from this “irrationality”. OK… if you say so. The Chinese government being no exception, did just that.
But then smaller companies did the same. They were afraid their capitalization would drop to nothing. And so they halted trading in the hopes of letting the market “cool down”.
All this manipulation caught the attention of a few pundits which were fast to point out how “immature” the Chinese market is, as all these measures are necessary…as if trading was never suspended in Western exchanges…right!
These pundits were also quick to point out that a freeze won’t work and that markets will come back with a vengeance increasing loses. To which the Chinese market responded by posting the biggest daily gain in six years!!!
But that’s OK, retort the pundits, because this freeze will make the markets more “volatile”. Aha… Uhum….yes,yes, we see… we see…
Look, this is not complicated. The Chinese government is printing money at a rate somewhere between 20 to 40% per year. All this “freshly minted” money needs to go somewhere and so it goes into exchanges. Prices go up and everything looks nice. But then the Chinese government gets inflation. Then they decide to “tapper down” the printing which reduces the amount of “free money” going into exchanges, hence prices begin to drop. The Chinese government then switches to “Plan B” which is essentially bullshiting unsuspected Chinese into buying. Price goes up…until unsuspected Chinese become suspecting Chinese and they sell. Price tumbles. Government goes into hyperventilation mode and freezes markets while in the background attempts all kinds of “off books” operations to prop the market. Market drops, jumps, becomes more volatile and remains as unpredictable as always.
The bottom line is that this is yet another bubble popping and nothing more. What we are seeing is the end result of Chinese Central Bank action. What a surprise…not!
And so the Chinese dilemma is this: do we continue “intervening” in the market or do we stay away. As explained above, their answer is intervention whereby the correct answer is stay away.
Again, this is not complicated. Drops in financial markets are nothing more than markets correcting Central Bank actions. It is the market way of cleaning up the mess and destroying “fake” capital that was created out of thin air through fiat money printing. Real value, real capital does not get destroyed; it simply changes hands.
Of course, if there continues to be a Central Bank operating in the background, this will repeat time and time again, which is lunacy! But then again, this has never stopped “modern” politicians and/or “mainstream” economists.
In the end it is a matter of facts. Free markets (real ones) work; managed ones, do not. Period. Full stop. The Chinese have not yet learned this lesson. Westeners need to re-learn it. We sincerely hope it won’t take them that long, albeit we suspect it will. Basically, we are collectively screwed.
And then we have those who believe in “workers’ paradises” and “free lunches”. OK then. Good luck with the financial rollercoaster. Hope your stomach is empty and you have plenty of airsickness bags because you are going to need them.
Note: please see the Glossary if you are unfamiliar with certain words.