capital market reform

China’s entrenched favouritism challenges CSRC reforms

China's securities regulator wants to let ordinary investors share in the country's success, but that means diverting profits away from powerful individuals. Politics may stand in the way of such reforms.
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CSRC chairman Guo Shuqing wants to crack down on insider trading, but does he have the power to do so?
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<div style="text-align: left;"> CSRC chairman Guo Shuqing wants to crack down on insider trading, but does he have the power to do so? </div>

China’s well-intended reforms are often compromised by political wrangling and broader economic goals, so when the securities regulator announced new policies to strengthen the languishing equities market there are reasons to be wary.

The ultimate goal of the new rules is to let the vast majority of investors share the success of fast-growing enterprises and the country’s booming economy as a whole. Sadly, that is likely to be challenged by China’s deep-rooted structural problems, which tend to mean that profits flow almost exclusively to the most powerful individuals.

The China Securities Regulatory Commission (CSRC) and the country’s two exchanges announced plans last week to cut transaction costs for equity transactions, tighten IPO requirements and enforce the delisting of unqualified firms. CSRC chairman Guo Shuqing, also expressed his determination to crack down on insider trading and require higher dividend payouts from listing members soon after he took the helm.

“The new policies show that Guo has very good knowledge of where the problems are and is willing to tackle them, but enforcement of these new rules remains a challenge because these problems are part of a bigger problem that arises from China’s economic and political system,” said Minggao Shen, chief economist for Greater China at Citi.

“It is all very well to tighten IPO requirements and crack down on insider trading, but when there are powerful state-owned enterprises and princelings involved, the CSRC may not have enough power to execute its rules,” he said.

Indeed, China’s government hierarchy often means top officials also head up SOEs, while high-ranking government bodies enjoy absolute authority over those lower down the hierarchy. 

Among the 17 institutions under the direct supervision of the State Council, Xinhua News Agency has the top seat; CSRC is ranked at number 10, right below China Meteorological Administration and China Banking Regulatory Commission. The State-owned Assets Supervision and Administration Commission, or SASAC, which is the controlling shareholder of more than a hundred listed SOEs, doesn’t belong to the 17-member category, but it has a much higher position than the CSRC.

Critics describe the A-share market as a casino in which only those with the right connections are able to make big profits, while the majority of retail investors are at the mercy of market conditions, which have been dire for two consecutive years. As a result, investors are losing faith in the stock market.

Shen reckons the CSRC’s new policies are part of government’s efforts to lift the confidence level of investors in the A-share markets ahead of the leadership reshuffle later this year.

If the enforcement of these new rules goes well, the move to cut trading fees by 25% would give the most immediate benefit as it is estimated that trading costs will be reduced by about Rmb3 billion ($476 million), or up to 3% of total trading costs.

The new delisting rules, which require companies to be removed from the bourse if net assets are negative for the past two consecutive years and operating revenue is lower than Rmb10 million for four consecutive years, will also add some stability to the market.

These moves, alongside accommodative macro policies, should attract capital flows back to China's equity markets. Better still, the A-share market could have a positive spillover on the H-share market as “strong rallies in the A-share market will encourage people to invest in the same companies' Hong Kong-listed shares,” said Shen.

Stocks that are likely to see a rebound including those from sectors such as infrastructure, utilities, commodities and even developers — there are signs that the government has already loosened policies on the property industry.

Analysts at HSBC say that 2012 is the year of reform for China's financial and capital markets. That will only be true if the reforms are not disrupted by politics.

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