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Fending Off the Crisis
Special> Fending Off the Crisis
UPDATED: October 10, 2008 NO. 42 OCT. 16, 2008
A Defensive Battle
China jumps into action to counteract the fallout from the crippling U.S. financial crisis

The hard-won passage of the unprecedented $700-billion bank bailout plan in the United States has finally brought hope of an end to the country's financial nightmare. While it remains to be seen whether the government rescue can cure the market ills at their root, the repercussions of the financial woes have been felt far beyond the United States. Wall Street-generated gloom also has spread to already skittish Chinese investors, illustrated by the roller-coaster ride that domestic stock prices have been on in recent weeks.

While China's economy chugged along by a robust 10.4 percent in the first half, concerns that its growth will be subdued have taken hold. Signs of looming recession are proliferating in the export sector, a key drive of the country's growth because of waning demand from the United States.

Meanwhile, a consumer-spending spree seems less likely to take place since an overwhelming bear market has wiped more than 60 percent off domestic stock markets this year.

"Given the global financial chaos and a marked slowdown in the world economy, the domestic economy may head for a downward spiral," Premier Wen Jiabao said in a statement last month. His comment indicated the government's growing concerns about far-reaching damage to the broader economy if the stock market, overshadowed by the roaring U.S. financial fallout, is further left to find equilibrium on its own.

As the latest effort in a string of moves to shore up the shaky confidence in

domestic markets, the central bank on October 8 announced cuts in both the reserve-requirement ratio and the benchmark one-year deposit and loan interest rate, by 0.5 percentage points as of October 15, and by 0.27 percentage points as of October 9. On the same day, the State Council suspended the 5-percent tax

levied on the interest income of bank deposits starting on October 9.

Prior to that, the China Securities Regulatory Commission (CSRC) announced on October 5 that it would shortly start a trial program for financially sound securities firms to engage in margin trading and short selling. Margin trading allows investors to borrow money from brokerages to buy shares, while short selling lets them sell securities that they do not own, but have borrowed from securities firms. Short sellers then try to buy back the stock at a lower price, attempting to profit from an expected decline in the stock price. Analysts say the program will bring a measure of calm to the shell-shocked market because brokerages currently have much more cash available to lend than shares, and the scale of any margin trading would far outweigh that of short selling in the initial stages.

The CSRC said in the announcement that the program, in the long run, would inject more vitality into the market and bump up liquidity. More importantly, it could provide a vehicle for investors to hedge against risks, diversify the business of brokerages and help the fledgling market mature beyond the boom-bust cycle, it said.

Analysts say the stock market has appeared to be bottoming out since the central bank on September 16 cut interest rates for the first time in more than six years. The central bank also lowered the reserve requirement ratio for small banks, further salving the wounds of small and medium-sized enterprises starved of liquidity. The surprise move was widely interpreted as a decisive shift by the government toward bucking growth after protracted inflation fears that had crimped the economy.

The interest rate cut came just a few hours after Lehman Brothers Holdings Inc. announced it had filed for bankruptcy. It is expected to prevent external pressure on China's domestic economy from becoming entrenched, although the central bank made no mention of the U.S. economic washout in announcing the rate cut. Domestically, the country's inflation eased to 4.9 percent in August from 8.7 percent in February, removing the major stumbling block to the government's stimulation efforts.

In another move, the country encouraged government entities to lift their stakes or buy back shares of major listed banks and companies that they control to provide a floor for the tumbling market. The share-buying mania of listed companies was led by Central Huijin Investment Co. Ltd. (Huijin), an investment arm of the government, which already held majority stakes in the Industrial and Commercial Bank of China Ltd., Bank of China Ltd. and China Construction Bank Corp. Huijin purchased 2 million new shares of each bank on September 23, infusing some steam into the market's recovery.

Moreover, regulators lifted the stamp tax on share purchases on September 19-the first time in history that the government had levied a unilateral stamp tax on stock trades. This move enlivened stock trading in the following days.

On the fiscal front, the government this year dropped administrative fees for individually-owned businesses and reinstated higher export tax rebates for textiles and some other products. Besides this, the country's embrace of a reformed value-added tax system is expected to further alleviate the burden on enterprises. Analysts also believe that more fiscal stimuli are on the way as the risks of an economic freefall deepen.

Affect on China

Premier Wen Jiabao reassured investors at the beginning of October that the government would continue to support a stable capital market, prop up exporters and spur the consumer market as the country edges toward a market-driven economy.

The foundations of the Chinese economy remain solid with a fluid and resilient financial market, Wen said. "But the impact of the U.S. financial meltdown on the Chinese economy should not be underrated, and efforts to maintain a healthy financial sector should not be relaxed," he said.

China's safeguards against the U.S. financial meltdown had come more swiftly than expected. The central bank said in a statement on October 4 that the country's financial regulators had put in place counteractive programs, including stronger financial oversight and risk controls.

Meanwhile, the central bank has pledged to work closely with international financial institutions to scan every corner of the global financial system where a new set of risks may hide.

"We are confident and well-positioned to maintain a stable financial system and a sound real economy through a variety of flexible control measures," the central bank's statement said.

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