http://www.iht.com/articles/2007/05/31/business/chistox.php

BEIJING: In the end, it was a tax on trading that became the valve that would let some heat out of China's overcooked share market.

The former chairman of the U.S. Federal Reserve, Alan Greenspan, could not do it. Prime Minister Wen Jiabao was unsuccessful, and Zhou Xiaochuan, the governor of the People's Bank of China, fared no better.

Like the others, Zhou warned of dangerous overheating and his central bank raised interest rates twice, without any discernable impact.

Even Li Ka-shing, the tycoon known to generations of Hong Kong investors as Superman, was unable to deter a swarming army of Chinese investors.

He was prompted last month to voice concern, saying that it "must be a bubble."

Clearly, it was going to be difficult to cool a market in which shares had soared 90 percent this year, after a 130 percent rise in 2006, without resorting to drastic measures that could lead to a collapse, or in Greenspan's words, "a dramatic contraction."

But the tripling in stamp duty on the value of share transactions to three-tenths of a percent announced before the market opened Wednesday seemed to deflate it.

China's benchmark CSI 300 Index plunged 6.8 percent in a day, wiping out $161 billion in market value.

Shares recovered slightly Thursday, with the index closing 1.1 percent higher, but some analysts and economists believe the authorities will be looking for further levers to cool the market.

"I don't think it is quite complete yet," said Connie Leung, chief economist for ERA Economic Research in Hong Kong.

"I expect there will be more to come," she added. "If they get a correction of 20 percent or 30 percent, I think they will feel it is quite safe."

It is unclear why the stamp duty increase seemed to spook investors.

Analysts speculate that brokers and investors finally grasped that the authorities were serious and would do whatever it took to prevent a bubble from getting out of hand.

But, as the rebound Thursday suggests, it could be just a temporary pause.

"However. even with this breathing space, policy makers should not take for granted a desired correction in the domestic stock market," warned the official People's Daily newspaper in an editorial Thursday. "The bullish market can continue and even accelerate if other measures are not quickly put in place."

The problem for China's market regulators is that buying shares is one of the few investment options available to ordinary Chinese other than depositing their cash in low-interest-bearing savings accounts with state-owned banks.

As the index soared, small investors rushed to open share trading accounts. Earlier this week, the number of share trading accounts topped 100 million, according to reports in the state media.

For the governing Communist Party, there is now a lot at stake.

A market collapse could ruin millions of small investors who have gambled much or all of their savings on stocks and this could lead to protests against the government.

"People will go bankrupt and that will lead to social implications," Leung said.

The World Bank also has warned that a major correction carried risks for the government.

"The newfound confidence in the Chinese capital market could be damaged, and, although the impact on the real economy and the banking sector is likely to be modest, large losses of financial wealth for specific groups could lead to pressure to bail them out," the World Bank said in its quarterly update on the Chinese economy released Wednesday.

There are also clear risks for the global economy.

A 9.2 percent slump in the main Chinese index on Feb. 27 sent international markets plunging over five days before they steadied and recovered ground.

The decline on Wednesday did not have a similar impact, but the psychological impact of a major crash in the world's fourth-largest economy cannot be discounted, analysts say.

But most analysts believe that the Chinese economy is well placed to absorb a moderate stock market correction.

They note that China's equity markets account for a relatively minor proportion of an economy where exports, investment and consumption were the main drivers of economic growth.

The World Bank and other analysts also believe that China's fragile, state-owned banks would not be exposed in a correction because most investors have been buying shares with their savings rather than taking out loans.

While Chinese authorities have been attempting to calm a feverish share market throughout the first half of this year, not long ago they had exactly the opposite problem.

Stock markets languished throughout the first half of this decade, stifled under a giant overhang of non-tradable shares in listed companies owned by government bodies and state-owned enterprises.

The stalled market was a major setback for economic planners in Beijing who were counting on the country's embryonic share markets to play a key role in reforming inefficient, state-owned enterprises.

The theory was that the scrutiny of the market would force these companies to improve their management and profitability and wean them off borrowing from banks that were already laboring under a mountain of bad loans to the state-owned sector.

In an effort to free this log-jam, market regulators began gradually selling off some of these shares in mid-2005 and also encouraged new listings of companies attractive to investors including state-owned banks.

They even reduced the stamp duty on share trading, the same tax they raised Wednesday.

With a booming economy awash with cash, the market took off.

(Courtesy of International Herald Tribune)