In 1995, China was ranked by the World Economic Forum's Competitiveness Report for the first time. The report found that China was second in capital formation, behind only the United States, and that China's growth in gross domestic product (both overall and per capita) was highest in the world. Nevertheless, with its large state sector and arcane, protectionist regulatory structures at every level of government, China finished 34th out of 48 ranked nations in overall competitiveness. With respect to its underdeveloped financial markets, the subject of this paper, China ranked 46th out of 48 and last in terms of stock capitalization.(1)
Throughout Asia, the corporate sector relies more heavily on bank finance and on internally generated funds and less on equity than in Western markets. Still, China's inexperience with corporate equity is extreme, and far more than elsewhere the result is that firms are weakened by a dependence upon banks (in this case officially sponsored banks) and fragmented, inefficiently utilized domestic markets for capital. According to a study by the World Bank, in terms of its value in the overall GDP of the national economy, stock market equity is less important in China than in the economies of every other major East Asian emerging market (Hong Kong, Indonesia, Korea, Malaysia, the Philippines, Singapore, Thailand).(2)
As if this were not bad enough, the equity markets that now serve Chinese companies are awash in problems. The Chinese government, in its winding, long march from socialism, began permitting state-owned enterprises to issue stocks in the second half of the 1980s. Yet a decade later, foreign commentators describe the exchanges as plagued by "volatility, scandals, regulatory weaknesses, a limited choice of listed firms and a void of reliable information."(3)
After a brief period of securities experimentation resulting in depressed markets and some justifiably negative press, can the government claim any successes in its new securities markets?
It is true that China's securities markets are nascent, poorly regulated and plagued by irregularities, some of which will be outlined here. However, a close look at the markets suggest the serious attention they are given by China's top leaders, by Chinese managers and by millions of domestic investors.(4)
This article argues that despite significant problems, there is one other group -- beyond the government, the state enterprise managers and the 10 million Chinese investing in the most prominent markets for equities -- that should take a more serious look at China's securities markets: international analysts of China's political economy. If one includes China's securities issued and traded outside of the officially sanctioned exchanges in Shanghai and Shenzhen, the securities markets are large, and their precipitous rate of growth is helping to fuel the Chinese economy. This article argues, moreover, that these markets are a significant force pushing China's integration into the world economy.
Some background information on China's securities reforms is provided below, followed by an outline of the problems that the Chinese government must face in order to enhance the viability of its markets. Next, the article examines, despite the peculiarities of "capitalism with Chinese characteristics," the growing importance of Chinese securities markets. Finally, it focuses on how, as the Chinese government struggle to reform the weaknesses of equities markets, it is being pushed slowly into further economic integration with international capital. The conclusion attempts to assess the consequences of this "peaceful evolution" and the increasing international economic interdependence between China and its trading partners.
Background to the Chinese Securities Markets
China possessed small stock markets for Chinese stocks from 1911 to 1949, but Mao Zedong shut down all of them (outside of Hong Kong) by 1952. Mao permitted some national domestic bond issues in the first decade of his rule, but he considered corporate ownership through equities to be anathema to the Communist program. He essentially ended all private ownership of means of production by the Great Leap Forward (1959 to 1961). Encouraging profit earned against the government, through bonds issued by state corporations or the treasury, similarly was regarded as counterrevolutionary by the Cultural Revolution. Hence, through much of Mao's reign (the mid-1960s to 1976), for ideological reasons no stocks or bonds were issued by the central government, its bureaus or government-controlled work units.
Under Deng Yiaoping, the government hesitantly promoted new securities markets, first as a modern means to provide domestic and international loans to the treasury, and then in order to revitalize ailing state industries. The State Council issued National Treasury Bonds (guokuzhai) in 1981 and continuously thereafter. Several other kinds of national bonds followed, including bonds issued by the Ministry of Finance (bonds for key construction projects and finance bonds starting in 1987 and 1988 respectively) and bonds issued by several other national bureaus and organizations.(5)
The value of bonds now fluctuates according to supply and demand, and interest rates (both on bonds and at the banks) are regulated, but at least partly driven by market forces.
When the futures trade in treasury bonds was introduced by the Shanghai Stock Exchange from late 1992, several domestic exchanges throughout China traded in "T"-bond (treasury) futures. However, while some would argue that China's interest rates are overregulated, the T-bond futures markets clearly were underregulated. Due to several associated problems (overspeculation, heavy losses for some companies and government bureaus, misuse of government funds), the government closed down T-bond futures trades in May 1995.(6)
Without government sanction, isolated enterprises started to issue securities -- at first all bonds, although not always named as such -- as early as 1981. At the beginning of 1987, the public market for enterprise securities exploded. Organization representatives and even some ordinary investors began trading these securities in greater numbers, often outside of government regulations and without an officially approved exchange floor.
At the end of 1990 and the beginning of 1991, the Shanghai and Shenzhen Stock Exchanges opened, with official approval. Of the two exchanges, the Shanghai Exchange is by far the largest. It trades more than 200 treasury bonds, stocks and funds, with nearly 600 members and a trade network covering perhaps 300 mainland cities. In 1996, it plans to move its trading floor to Pudong, a business district of Shanghai, and the new trading floor will be twice the size of that of the Tokyo Stock Exchange. The Shanghai and Shenzhen markets together listed a combined total of over 300 companies by the end of 1995, with almost two-thirds listed in Shanghai.(7) In addition to the growing volume of legal trading since 1991 in other approved investment houses that report transactions to Shanghai and Shenzhen and illegal trading (in unsanctioned street markets) has also grown all over China.
In the official markets, China offers three types of shares. "A" share listings are for Chinese investors; companies that are joint ventures are allowed to sell "B" shares to foreigners, and these are also traded on the exchange. B share prices are quoted in yuan, but transactions are settled in U.S. dollars in Shanghai and Hong Kong dollars in Shenzhen. (Some Shanghai officials have campaigned to abolish all residency and passport restrictions on A and B shares, but central authorities are unlikely to permit changes until the yuan is fully convertible.) Next, "H" shares are mainland company listings in overseas markets. Chinese enterprises have listed H shares in Hong Kong and foreign markets.(8)
In addition to A, B add H shares, three other stock classifications (or complications) are created based upon type of ownership. First, all of the equity on the Shanghai and Shenzhen Stock Exchanges (both A ana B stocks) is theoretically traded by and issued to "individuals," and millions of individuals have legally traded these publicly-issued stocks. Outside of these exchanges, individuals can also trade stocks, legally and illegally (on informal street markets), that are issued privately to employees, as rig and bonuses. Second, state shares owned by the "central government" are theoretically not legally tradeable under any circumstances. Third and finally, "legal person shares" -- also known as "institutional shares," owned by public and private economic organizations -- increasingly are openly traded, in formal and informal markets, despite frequent efforts to ban various kinds of transactions. For example, in December of 1990, China launched a Securities Trading Automatic Quotations System (STAQ) in Beijing. In China's tiny STAQ market, by the end of 1995, the institutional stock of 10 companies was traded openly and legally by computer. By the end of 1995, an even smaller National Electronic Trading System (NETS) also permitted open trading of the "legal person" shares of seven companies.(9)
In Chinese, touzi (to invest) can be translated literally as "to toss capital," and this captures the seemingly wanton way that money has recently been thrown in and out of China's securities markets. China's stock indices reveal that the prices of securities have fluctuated wildly since the opening of the Shanghai and Shenzhen exchanges, as government organizations and citizens move billions of yuan in and out of these two flagship exchanges, sometimes on a daily or even hourly basis. In Shanghai, the index shot up dramatically in 1992, only to lose more than three-fourths of its value. The index then surged again in the first months of 1993, only to lose one-third of its value in May. After another peak in February...