China's Fine, but Beware the Stocks

That gives the Beijing government power over any rally. The government could stop any stock market boom dead in its tracks simply by selling its immense shareholdings. That would add enough supply to the market to overwhelm even the fast-growing demand from individual investors.

Of course, the government has a vested interest in not crushing domestic share prices. The biggest winners in the stock market rally of the past 18 months have been the wealthy elites of the Communist Party and the Beijing government, as well as the entrepreneurs and corporate managers connected to those officials. Fortunes have been made by corporate managers -- who officially receive meager salaries -- from stock options that have soared in value during this market run.

The overnight stock selloff in China is reigniting fears that the country's economy could slow down and, in turn, affect the U.S. economy.

The stock market has become a prime tool for passing a big hunk of the country's growing wealth to the elites whose support the Communist Party needs to maintain its hold on power. (You'll be excused if you think this is strikingly similar to how capitalism works in overtly capitalist countries.)

But the government also doesn't want the stock market boom to get too far out of hand. Too much wealth in too few hands will stoke the resentment that those left behind in China already feel. It also contributes to inflation and could produce exactly the kind of economic bust that the government desperately wants to avoid in the run-up to the 2008 Beijing Olympics.

A Toe on the Brakes

So the government has taken steps to damp the stock market boom. For example, margin lending -- borrowing on stocks in order to buy more shares -- has been restricted. Banks have been required to keep higher reserves, cutting the amount they have to lend.