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Chinese Checkers

I was listening to a debate on the radio yesterday morning about the Chinese authorities’ inability to keep their financial markets in check. Amidst all the discussion on manufacturing indices, circuit breakers and the like, everyone on the show seemed to be missing the real point. Chinese financial markets are the perfect melting pot for capitalism and communism. Nothing epitomises a free market economy better than a stock exchange where budding entrepreneurs raise finance and where stock prices take daily random walks guided only by market sentiment. China’s command economy, on the other hand, is built upon five year plans where everything is centrally organised and seemingly, therefore, under its complete control. But what the Chinese financial authorities are beginning to realise is that whilst they can pass as many rules as they like to control participant behaviour, they can only regulate markets not prices. And, the more restrictions they place on participants’ trading behaviour, the less attractive they make the market to newcomers.

The real problem for Chinese financial markets is that participation is limited to a small number of quasi government controlled institutions at one end and millions of relatively unsophisticated retail investors at the other. Western markets understand well that financial markets depend upon having a wide variety of participant types that bring with them a similarly wide variety of trading views and time horizons. But, by putting in more and more King Canute style controls, China is only making things worse as it is actually discouraging new participants.

The risk is that Chinese financial markets become increasingly irrelevant as a proxy for its underlying economy. Given the fallout of Monday’s 7% decline on other markets around the world, it looks like 2016, as the famous saying goes, will be a year that we may all get to live in interesting times…

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