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Will China’s market crisis spur a confidence crisis for President Xi?

The sudden slide in the Chinese stock markets has spurred worries that the panic could spread beyond China's borders. What’s the root cause of the deflating bubble? Chief foreign affairs correspondent Margaret Warner joins Gwen Ifill to discuss the economic troubles and the potential political fallout.

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  • GWEN IFILL:

    And Margaret joins me now.

    So, Margaret, what is at the root of this — what seems like a sudden slide in the Chinese market?

  • MARGARET WARNER:

    Gwen, it was really a classic bubble.

    Last year — the Chinese economic growth has actually been slowing. And the government started encouraging individual investors to get into this market and help capitalize these small entrepreneurial companies, not the big state-owned enterprises, but the ones that have trouble getting money from banks, sometimes with good reason.

    And so they did it by, for one thing, relaxing the restrictions that used to not allow you to borrow money to finance your stock purchases. So that's the first thing. You now had all this margin lending.

    Well, then, if the market goes down, these investors have to pay back with real money, either what they have got in the stock market or in other assets. And, secondly, as that all developed, the most — the ones that were caught are these smaller investors, which, as we said in the setup, are 85 percent of the market.

    These are uneducated people. You can see it in the quotes that we had from people. And so they are what is known as momentum investors. They jumped in, in like April and May, when stocks were selling at 150 percent price-to-earnings ratio, even worse than before the Nasdaq bubble here in 2000 in the U.S.

    And so they are getting tremendously hit because they were not in for the run-up.

  • GWEN IFILL:

    So, does that mean that the government has had to step in to arrest this, not so different from what we had to do in 2008?

  • MARGARET WARNER:

    Well, true, but here's the difference.

    You saw some of the steps they took. They're making brokerage firms buy stocks. They are making executives no longer sell stocks. They are putting government money into it. The difference is that, in the U.S., the U.S. bailed out big financial institutions that they thought posed a systemic risk to our whole system.

  • GWEN IFILL:

    Too big to fail.

  • MARGARET WARNER:

    Too big to fail, classic.

    They did not say our — but they said our test is restoring GDP growth and employment. They didn't make the markets a test. So people didn't sit there and watch television and go, oh, my God, we're failing. So what are they doing in China is, they set up the markets as the test of their own economic management and of this whole theory of economic liberalization.

    And the danger is, of course, that the more they do and it doesn't work overnight, then it encourages more panicked selling and that, in fact, it's going to make people lose confidence in government's economic management.

  • GWEN IFILL:

    So, does this have political ramifications for President Xi?

  • MARGARET WARNER:

    Of course. Of course.

    And that's certainly clearly what the Chinese leadership is worried about. One, they had set this up as — really, the president is not supposed to be in charge of economic policy, but he has presented himself as this sort of all-powerful leader. And getting into economic liberalization was considered a vote of confidence in his system.

    OK, so they get more people in it. As somebody said to me last night, he owned the run-up, he owns the slide. Clearly, secondly, they're worried about economic popular discontent. You could hear that from one of those people in our piece, that now that more Chinese-owned — now, it's small compared to the U.S. In the U.S., 55 percent of the Americans are in the market in some way.

    In China, it's only been 10 percent. But this past year, it's, by some estimates, gone up to 17 percent. And these are poor people. So that is the threat that they're worried about.

    And then third, of course, is that if people don't feel confident, they're not going to buy things. Well, this is a government that said, we're going to change our economy from export-driven to consumer-driven. And…

  • GWEN IFILL:

    But that's what's happening inside China.

  • MARGARET WARNER:

    Yes.

  • GWEN IFILL:

    Is there a potential, briefly, for this to spread?

  • MARGARET WARNER:

    Well, as Jack Lew, the treasury secretary, said today, not in terms of investment exposure, because the Chinese have kept this market so insular. Only 5 percent of the investors are even foreign.

    But the danger is that it will slow economic growth, which will affect — because it's the world's second largest economy — will affect a lot of other export-driven economies and that it could have a sort of knock-on effect on the commitment of President Xi to continue with economic reforms.

  • GWEN IFILL:

    Fascinating, Margaret. Thanks for keeping us up to date.

  • MARGARET WARNER:

    My pleasure.

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