By Sarah Luke, Vanderbilt University
Even if you don’t follow the Wall Street Journal or CNBC, you may have heard about investors' concerns regarding the Chinese stock market over the last couple of months. Why do so many people care in the first place? Because China happens to be our world’s second largest economy! Bad news for China generally means bad new for us all, as well.
How did it all start?
China’s economy has historically grown at high rates. But in recent years, this growth has slowed down. Despite this, investors continued to make risky investments in the stock market, typically using borrowed money and exceeding the economic growth rate. This created what is termed as a bubble. Bubble gum bubbles, soap bubbles, financial bubbles—they all pop eventually, just like this one did on June 12th, 2015.
What exactly happened?
The Chinese stock market dropped 30% in July and another 8.5% in August. These were the largest falls since the 2008 Financial Crisis. Huge changes in any stock market, positive or negative, influence investor confidence in the economy’s stability. As you can imagine, these drops sent investors running. This event also worried U.S. investors, especially those who had invested in international corporations. This caused U.S. indexes to drop significantly.
What did they do?
Since the aforementioned crashes, China has taken serious measures to reverse the economic turmoil. First, they banned all initial pubic offerings, limiting additional opportunities for investors to throw their money into. Next, they devalued their currency, the yuan, to about a third of its value. This made it a lot cheaper for surrounding countries to buy exports, which helped increase cash flows. In reaction to their record low economic growth of 6.7% after the third quarter, the central bank cut interest rates. This basically made it cheaper for people to make safer investments (the U.S. also did this after the 2008 Financial Crisis. If you're interested in learning more, click here to find out where our interest rates are going).
Where are we now?
In the past few weeks, China entered a bull-market territory, meaning the equity markets are back on the rise. The measures the government has taken have replenished investor confidence in the market. The Chinese stock market has risen 20% since its low in August, and they are planning on lifting IPO bans. While these rebounds have signaled an overall healthy global economy, analysts are unsure that this brief rise in China’s stock market will last. When it comes down to it, it all depends on whether the Chinese companies are profitable in the coming quarters, which some investors don’t think is a possibility. Stay tuned to see if this recent growth will last!