Originally published by the Voice of America (www.voanews.com).
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July 7, 2007

Economists: China's Stock Market Bubble Poses Financial Risk
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http://enews.voanews.com/t?ctl=1811CA2:A6F02AD83191E16096F73F294CFAFBE09574F7DCC14957C0 They say there is
little doubt bubble will be deflated one way or another International
economists say China's huge buildup of foreign currency reserves has
contributed to the boom conditions that have led to a bubble in the
Shanghai stock market, which is up 400 percent in less than two years.
VOA's Barry Wood has more on what might be an unanticipated
consequence of China's export success.

Ted Truman was the top international specialist at the Federal Reserve
and then the U.S. Treasury during the East Asian financial crisis a
decade ago. Now a fellow at Washington's Peterson Institute for
International Economics, Truman believes China has made a mistake by
not allowing its currency's value to rise faster against the dollar.
The resulting buildup of foreign reserves, he says, is having
unintended consequences that could hurt China's domestic economy.

"The risk is principally on the internal side. The buildup of these
reserves is creating domestic liquidity (expanded money supply), which
will create boom conditions in domestic markets -- real estate and
other markets -- and eventually a bust," he said.

China's has more hard currency reserves than any other nation.
Currently exceeding $1 trillion, China's reserves are growing rapidly
in tandem with its expanding trade surplus. David Hale, a China
specialist based in Chicago, says the accumulation of reserves is a
legacy of the 1997-1998 financial crisis in Asia.

"You know, one of the reasons the Asian countries are so conservative
in running current account (balance of payments) surpluses and having
these huge foreign exchange reserves is because they remember this
crisis very acutely. It was the most traumatic experience they've gone
through in living memory. So it had a major impact in how they think,"
he said.

Truman agrees that the accumulation of reserves is a defensive
response to the 1997 crisis. "They think it was lack of foreign
exchange that caused the crisis. And that is one reason for the
building up of reserves. The other reason basically is that they're
running export-oriented growth policies," he said.

But Hale says there is little doubt that the Chinese stock market has
become a bubble that will be deflated one way or another, either by
raising interest rates to take money out of the economy or by allowing
it to keep growing until it overheats.

"If they (the Chinese authorities) keep raising interest rates, they
could eventually crush it. But right now their policy is to change
policy very incrementally and gradually. The odds are low that they
will fully get what they wan," he said.

Both economists agree that East Asia's financial defenses are stronger
than they were a decade ago when institutional investors (hedge funds)
were able to force a devaluation of Thailand's currency, the event
that triggered what became a regional financial problem. Truman
believes there could be financial turmoil in China," he said.

"The problem would be if there is a bust and generalized downturn in
East Asia, probably led by China -- not necessarily a downturn but
just a severe slowdown -- that will lead to a series of bad loans and
an internal crisis," he said.

So, would a currency revaluation help avert financial turmoil in
China? Ted Truman says Chinese policy makers have not made up their
mind. "On the one hand, they want to slow down overall growth. On the
other, they don't want to slow down overall growth. It's always
difficult to manage a boom. The best thing would be not to start from
where you are. But they don't have that option," he said.

China continues to have the fastest growing major world economy. Its
rapid growth over the past decade has lifted 300 million Chinese out
of poverty. And yet for all its success, it faces some potential
problems. Its banking system remains weak and, if the stock market
bubble bursts, it may have trouble coping with the financial distress
and bad loans that would accompany a sudden market decline.

During the financial crisis of 10 years ago, China's economy was
relatively weak and did not suffer nearly as much as most other Asian
countries. However, if another crisis hits now, China's leaders
realize they -- and their people -- have much more to lose if they
cannot deal with it properly.