30th October, 2014
Shanghai-HK Stock Connect Reveals China’s Ambitions in the Global Financial Market
Shanghai-Hong Kong Stock Connect (SHKSC) has been suspended. Some media have described this as “China’s punishment to Hong Kong”. This is simply ridiculous! China has always been relying on Hong Kong, an international financial centre, to participate in the international financial world. Whether a China SOE list on the Hong Kong Stock Exchange or China’s State Council issue treasury bond in Hong Kong, the HKSAR Government’s officials always claim that they are “China’s gifts to Hong Kong”. The fact is, however, if China SOEs could list on Shanghai Stock Exchange and international investors would buy those shares according to China’s law, these SOEs would have floated in Shanghai instead of Hong Kong.
The reality is that international investors do not believe in China’s law, they believe in the independent common law system in Hong Kong – that is why China SOEs have to come to Hong Kong to attract international investors. Due to the foreign exchange control in China, even the State Council had to come to Hong Kong to issue treasury bond, instead of going to Shanghai, which has been claiming to replace Hong Kong as the international financial centre in Asia.
On the surface, SHKSC is a mutually beneficial system allowing people in China to buy Hong Kong stocks and vice versa. It does not require any deep thought to understand that there are more Chinese buying Hong Kong stocks than Hongkongers buying Chinese stocks. Shanghai Stock Exchange Composite Index stood at around 2,000 points at the end of year 2000. In 2014, 14 years later, it stands at 2,300 – representing a 10% increase. Hong Kong’s Hang Seng China Enterprises Index surged from 2,000 point in 2000 to 10,500 points at the moment – increased fourfold! Which stock exchange is more worth investing in, is perhaps not difficult to imagine.
Suspending SHKSC is definitely not a punishment to Hong Kong. Instead, it is punishing the China SOEs and the rich who plan to transfer their wealth to Hong Kong – or even the CCP itself. Why the CCP? According to a financial news article published last month by Xinhua Net, Charles Li Xiaojia said at an investment seminar that the SHKSC is a pilot programme. Allowing money from China and Hong Kong to invest in equities is only to allow China to understand the practice of foreign exchange mechanism and gain experience. The article says:
“Charles Li Xiaojia said in Minsheng Bank’s investment seminar on large commodity cross-border trade that with mechanism, regulation, clearance and settlement, and trade remaining unchanged, SHKSC allows the Chinese market to connect with the international capital market comprehensive, and to connect using their respective exchanges and settlement agents. Renminbi (RMB) will also move forward from a currency for settlement to a currency for investment. Regulatory issues will be safeguarded by the regulators in both ends. This important framework will be replicated in the future for commodity trade.”
Since RMB is not a freely traded currency, when China purchases international commodities like oil, copper, iron and aluminium on European and American markets, it cannot use RMB but US dollar. If SHKSC is successful, China’s next step would be to adapt the same mechanism bypassing the commodity markets in the US and Europe, to use RMB to buy international commodity futures, as HKEx had acquired London Commodity Exchange.
Based on logical deduction if China, in the future, issue treasury bonds, it can execute it the same way as the SHKSC. SHKSC is only a pilot programme, commodity trade and China treasury bond are the China’s ultimate ambitions. If China could buy international commodities and issue treasury bond with the non-freely traded RMB instead of US dollar, this mean would ease off China’s risk and burden of having to have US dollar reserve and the massive US treasury bond China holds. The Fed has announced that it will, sooner or later, increase interest rate. When interest rate goes up, bond prices fall – which means China will suffer from a huge loss caused by the massive amount of US treasury bonds it holds.
Of course, China did not want suspend SHKSC to punish itself – no one really knows what China’s real intentions were. However, it is more than obvious that China’s ambitions in the financial market have to be fulfilled via Hong Kong.
By Ng Tai-ching