Chinese stock market rout may lead to political instability

During a grand military parade in Tiananmen Square on Sept. 3, the first such event since President Xi Jinping took office in 2013, the Chinese leader showed off his complete grip on power by announcing the largest troop reduction in nearly two decades.

 It’s a dramatic show of confidence, and a sharp contrast to the Chinese economy’s rocky summer in which stock markets took the steepest plunges since the 2008 global financial crisis. The Shanghai composite index has fallen 38 percent since June, prompting government intervention through a barrage of restrictive measures intended to pump the prices back up. Beyond its international ramifications, the latest stock market rout was yet another reminder of how much the economy affects the image and stature of the Chinese Communist Party (CCP) leaders.

The CCP has long used seeking profit for the middle class as an excuse for putting economic opportunism above democratic reform. The effect of the financial downturn on the citizens wallets and savings is likely to challenge the CCP’s narrative and grip on power. A staggering 80 percent of urban Chinese have invested in some sort of equity, putting around 30 percent of their money into stocks, according to Credit Suisse, a leading global financial services company. And this is taking place as China’s tries to bounce back from the slowest growth rate since 1990. After hitting a record 10.4 percent growth in 2010, China’s economic progress has decelerated by around 30 percent over the past five years. This will create financial pressure for anyone in China looking for a stable middle class lifestyle, not just for those who own stocks.

Among other protective measures, the CCP has stepped in once more to discourage shareholders from selling their stakes in anticipation of another crash. Chinese regulators and several government agencies have teamed up to monitor investor behavior so much so that individuals owning more than 5 percent of shares in a company are prohibited from selling.

To be sure, this is not unique to China. Regulators around the world often investigate hedge fund managers and investors to detect or eradicate illegal activities such as insider trading. But China has opted for a more direct route, allowing state agents to intervene in ways that influence and alter the course of the economy. Since June, officers from China’s Ministry of Public Security have partnered with federal regulators to examine the transaction records of large investment and brokerage firms in Shanghai and Beijing in an effort to reduce the stock markets’ volatility. Many managers have been told to stop selling shares, while others have been jailed for unspecified financial crimes. Moreover, the CCP has directed brokerage firms and other financial entities across China to buy up billions of dollars worth of shares, while also warning the news media not to publish stories that may discourage domestic or foreign investment.

This direct connection between China’s politics and its economy underscores the fragility of the CCP’s undisputed control. For decades, the party has presented itself as an all-encompassing force that can insulate the country from international forces that will, in its eyes, hamper the Chinese people’s road to affluence. In order to reduce risks for those rich enough to participate in it, the CCP have built a cocoon of Western-style financial markets. However, the success and failure of this state-led capitalist scheme affects the stability of China’s political situation. The current turmoil in Chinese stock prices may go a long way in determining the country’s future and a potential for reform.

In the interim, the CCP is likely to continue its aggressive damage control (for its own image as much as for the stock markets and the wider economy), but further restrictions on who can buy and sell stocks may force investors to care less for the party’s stature. These investors and China’s middle class citizens rely on good financial information, especially in times of instability. But the government has largely coopted the state media and financial sector to portray Chinese markets as risk-averse and conducive for foreign investment.

In the long run, the party’s obsession with managing its own image and its constant obfuscation of the country’s financial health through the state media is likely to force more and more investors to pull out. People are already turning away from mainstream Chinese outlets such as the People’s Daily and toward social media apps such as WeChat, which features myriad freelance finance experts claiming to possess useful information on how to get through a crisis. Still, there are limited alternatives. Chinese social media network, Weibo, is less censored than most of the country’s newspapers and magazines but it is also not completely insulated from tampering. (Search engines such as Google and social media sites such as Facebook are blocked in China.)

The CCP’s desperate half-measures are becoming increasingly obvious. For example, it has forced prominent journalists such as Wang Xiaolu to apologize on national television for “spreading rumors.” A Bloomberg report last month suggested Chinese officials held Li Yifei, China chief for the London-based Man Group hedge fund, for questioning regarding the steep stock market plunges. Li has denied the rumors and blamed her sudden disappearance on an industry meeting and Taoist retreat.

The CCP’s aggressive interventions in the economy will continue to undermine the people’s trust in the party’s ability to lead the country toward greater wealth creation and protect it in a volatile global economy. The CCP’s promise relies heavily on propaganda, but the Chinese peoples’ growing realization of its hollow narrative is almost certain to set off enormous political shifts.