Beware of the present stock market frenzy
Updated: 2007-07-13 14:21
The continuous economic boom improves the profitability of businesses and the rise in the stock market is a result of this. But the question is: does the stock market mirror the real economic situation. A large number of businesses that are doing well are not listed on the stock exchange.
Some mature foreign invested enterprises cannot be listed here. And, private local businesses that are fundamentally strong, do not have an opportunity to go public.
Given these factors, the Chinese stock market has become one for speculators, instead of investors.
According to the definition of Charles P. Kindleberger in the New Palgrave Dictionary of Economics, an asset price bubble takes shape when an asset or several assets are on a continuous price hike, which, at an early stage, gives people the impression there will be further increases and attracts more purchasers. If this proves to be false, prices slump, causing a financial crisis.
Bubbles are all alike, resulting in huge losses when they burst.
Investors see a substantial reduction in their wealth and businesses a cost rise in getting adequate finance. Investors cut back their consumption and businesses stop making investments. The consequence is an economic contraction.
Judging from the current situation in China, the market value of stocks does not have a considerable share in the GDP and therefore the impact on the economy would be moderate if the stock market crashes.
However, this does not mean the current stock frenzy should be allowed to go on.
A decreased flow of deposits to banks is a potential threat to the financial sector.
Businesses and individuals tend to invest more in a bull market for quicker and better gains than through bank deposits. But this is risky and short-term.
The stock market fever has affected a number of people, and most are not prepared for the risks involved.
The present situation calls for cool-headedness and a cushion to absorb or reduce losses.
It could become a tragedy for the economy if we continue to turn a blind eye to the threatening dangers.
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