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China's Iron Lady

Laura Cha Shih May-lung, the Shanghai-born, U.S.-educated regulator who arrived in Beijing from Hong Kong in March 2001 to assume the post of vice chairman at the CSRC.

The excuse is Laura Cha Shih May-lung, the Shanghai-born, U.S.-educated regulator who arrived in Beijing from Hong Kong in March 2001 to assume the post of vice chairman at the CSRC. The favors generally have to do with lending a hand when government officials, on behalf of the mostly state-owned companies listed on China's exchanges, want the agency to turn a blind eye to unorthodox market practices or sudden share issues. Cha is the author of a maelstrom of rules , dubbed the "regulation storm" by local media , issued over the past year and aimed at establishing order in China's chaotic stock markets. She doesn't believe in granting exceptions, so CSRC executives invoke her name to make it plain that no favors can be dispensed. "We say, 'Sorry, we would like to help you, but we cannot because we're afraid of the American lawyer,'" says one colleague, who requests anonymity.

Her status as an outsider , or "returnee," a Chinese who may or may not have been born on the mainland but has mostly lived abroad , and her devotion to Western-style securities regulation have made Cha a lightning rod for criticism (see box, page 80). She is attacked not only by big-time speculators but also by small shareholders who believe her discipline is depressing China's markets. Indeed, although Premier Zhu Rongji himself appointed Cha, and though her boss, CSRC chairman Zhou Xiaochuan, is a vocal proponent of fairness, transparency and good corporate governance, Cha has become the whipping girl in the backlash against China's drive to modernize its securities markets.

Cha, the former deputy chairman of Hong Kong's Securities and Futures Commission, is in charge of the CSRC's listed companies, IPO and fund management departments. She wasted no time in tackling her portfolio. A blizzard of new regulations, directives, guidelines and notices came down on listed companies and IPO candidates in 2001. By the CSRC's own count, 35 new regulations were introduced between the time Cha took office and the end of the year. During the same period, more than 80 listed companies and ten stock brokerages were publicly criticized, penalized or put under judicial investigation, according to the Chinese-language financial biweekly Caijing.

Some economists, academics, securities firms and investors blame Cha's regulatory blitz for the MSCI China index's 32.8 percent plunge in the third quarter of last year. (In the same period, the MSCI world index dropped 1.85 percent, and the MSCI emerging markets free index fell 6.15 percent.) That wiped $140 billion off market capitalization on the Shanghai and Shenzhen exchanges and left many investors and securities firms looking at a deep pool of red ink. Cha's campaign to tighten regulatory discipline, critics charge, threatens to derail China's stock market and thus damage the country's economic reforms. They argue that the CSRC is trying to impose international standards of regulation too quickly on a fragile emerging market that needs careful nurturing.

Influential voices backing this perspective include Zhou Zhengqing, who formerly headed the CSRC and is now deputy chairman of the economic committee of the National People's Congress. Zhou was unceremoniously removed from the CSRC in February 2000 after launching an all-out campaign to shore up the flagging stock market in 1999. At the time, the CSRC announced that officials wanted to see stock prices move higher because the government planned to launch more IPOs of state-owned enterprises. There was even a front-page editorial in the Communist Party's national newspaper, People's Daily, urging small investors to put their savings into stocks. Some say the former chairman is angry that his policy backfired and is now taking out his resentment on Cha.

Another critic of her regulatory fervor is Li Yining, often considered a principal architect of China's stock markets, who heads the finance and economic review committee of the NPC. Li's son is widely known to be a big player on the Shenzhen exchange. Neither Zhou nor Li could be reached for comment.

Wearing a turquoise Ralph Lauren sweater and neat black slacks during a whirlwind trip to Hong Kong in March, the 52-year-old Cha seems an unlikely candidate to fight such powerful and entrenched opponents. Yet there is no mistaking her determination. "We are going after the most egregious cases of abuse," she says. "We want to increase the cost of misconduct so that you know if you take a chance and you are caught, the consequences will be severe."

So far the government is walking a fine line between supporting Cha's efforts and placating her critics. Last October Beijing suspended IPOs of state-owned enterprises , a move that some observers interpreted as a retreat. And in March central bank governor Dai Xianglong said the government needed to find ways to channel more bank savings into the stock markets. "You can see obvious signs that the government wants to comfort opponents of regulation," says Wu Jinglian, a famous pro-reform economist and senior fellow at the Development Research Center of the State Council.

But Wu and others think that even if Cha's crusade is temporarily stalled by such policies, she will prevail. Beijing, they believe, is simply trying to ease the pain for mainland investors. "There,s no question about the country's commitment to bringing regulation up to international standards as quickly as possible," says Shanghai Stock Exchange vice chairman Michael Wu, also a returnee from Hong Kong. "Premier Zhu's view is clear by the fact that he is bringing in foreign expertise."

UNTIL CHA ARRIVED ON THE SCENE, China's stock markets had been virtually unfettered by regulation since they were established in Shanghai (1990) and Shenzhen (1991). Combined, they have a market capitalization of $500 billion and trade 1,160 stocks. Both have become infested with fraud, manipulation and obfuscation. A Ministry of Finance analysis at the end of 2000 concluded that out of 159 listed companies it investigated, 157 had inflated their 2000 corporate earnings while 146 had falsified their asset values. In a research paper published a few months later, economist Wu described China,s markets as "worse than a casino."

Stocks built up a remarkable head of steam thanks to the government-encouraged buying frenzy of 1999. By early 2001 price-earnings ratios had hit an average 56 times earnings. Although the transfer of money from banks into securities is in theory strictly regulated, huge flows of funds seeped into the market from banks through illegal channels , some 600 billion yuan ($72.5 billion) worth, according to Wu. China's leadership increasingly worried about a bubble and the consequences of its bursting.

Premier Zhu had moved earlier to strengthen the CSRC. He appointed former Hong Kong SFC chairman Anthony Neoh as an adviser to the watchdog agency in 1998. Then, in February 2000, apparently repenting the market-priming tactics of the previous year, he surprised everybody by booting out Zhou Zhengqing and appointing former China Construction Bank president Zhou Xiaochuan as CSRC chairman. A widely respected reformer, the latter had been expected to become the next central bank governor. His appointment signaled Zhu,s intention to give greater attention to securities regulation.

But the premier felt more was needed. China still lacked a seasoned regulator in a top-echelon job. Most mainland regulators have studied Western-style market economies and stock exchanges only tangentially. If you haven,t eaten pork, says a Chinese proverb, you should at least have seen a pig running. "We have too many people who haven't even seen the pig running," says a CSRC executive. "In Laura Cha we recruited somebody who has already tasted pork."

Cha earned her stripes , and her reputation , during her ten-year career at the Hong Kong SFC. She was its executive director from 1994 to 1997 and then rose to deputy chairman, a post she held until early last year. She won a name in Hong Kong as a principled and hard-nosed regulator. In 1994 local newspapers dubbed her the Iron Lady when she refused to grant diversified conglomerate Jardine Matheson Holdings exemptions from the local takeover code. Jardine, fearing a hostile takeover by Chinese tycoons, threatened to delist its shares from the Hong Kong exchange if it were not exempted from the rules. Cha refused to budge, and Jardine exited, taking with it 7 percent of the Hong Kong stock market's capitalization. "She has principles, and she sticks to them despite whatever pressure is put on her," says Alex Pang, another returnee and a longtime Hong Kong SFC colleague who joined Cha at the CSRC in November as head of strategy and development.

Cha moved to Hong Kong with her family when she was two years old. She spent her childhood years in the then,British colony before moving to the U.S. to study law. She graduated from the University of Wisconsin-Madison in 1972 and in 1982 completed a J.D. at the University of Santa Clara Law School. Having taken dual U.S.,Hong Kong citizenship, she then practiced with Pillsbury Madison & Sutro in San Francisco before returning to Hong Kong in 1985 as a lawyer for Coudert Brothers. She joined the Hong Kong SFC in 1991 as assistant director of corporate finance and was promoted to executive director three years later.

When she gave notice at the SFC in mid-2000, Cha was mulling a change and wanted to take things easier. Then came the CSRC's unexpected offer, which would make her the first overseas Chinese ever to hold vice ministerial rank in China's government. Though she had not worked in China before, Cha had established close relationships with senior CSRC executives over the years by working with them to list state-owned mainland companies on the Hong Kong stock exchange.

Cha had to give up her U.S. citizenship in order to take the post. This was relatively easy, she says, because she had not lived in the U.S. for more than 15 years and because she and her husband, a wealthy Hong Kong businessman whose family owns a real estate company, saw their future in Hong Kong. Cha visits him there every two weeks. She has, says Pang, almost totally given up her private life in order to serve her country. And although Cha's annual salary, because of her expertise, exceeds the $6,410 earned by the three other CSRC vice chairmen by a factor of more than 100, she asked to be paid the same as the others and donates the difference to a foundation to finance the overseas training of CSRC officials.

Her appointment signaled China's willingness to use foreign expertise in an effort to bring stock market regulation up to international standards. Lawyer Guo Feng of Beijing-based Grandall Legal Group, who often represents minority shareholders in lawsuits, says that Cha's returnee status allows her a measure of freedom impossible for a mainlander. "She is relatively independent and can make her own decisions," says Guo. "Natives cannot be so independent because they,re part of the system."

Her reign at the CSRC began with a bang. One month after she moved to Beijing, Shanghai Narcissus Electric Appliance Co., which had been losing money for four consecutive years, was symbolically booted off the Shanghai Stock Exchange , the first company to be delisted since the exchange was launched in 1990 , as a warning to floundering corporations that they couldn't keep soliciting investors' money without delivering some results. Three more companies were removed by the end of the year. Regulations to allow delistings had been in place since July 1999 but had never been enforced.

Cha then required companies to report financial results quarterly rather than twice a year, as they had been doing (in Hong Kong and most other Asian jurisdictions, biannual reporting is still the norm). In August she ruled that all of the country's 1,160 listed companies must appoint at least two independent directors by this June. And one third of all board seats must be held by independent directors by June 2003.

This latter initiative received much criticism from parties who argued that it would be impossible to find enough individuals capable of functioning as effective independent directors. Cha does not totally disagree. Even Chinese academics who believe in free markets have little actual experience with them. "I certainly have no illusion that these independent directors will be effective as independent directors in the next three to five years," she says. "But we have to start somewhere. We cannot wait until there are enough qualified people before we bring in this requirement."

In November Cha moved to enhance market surveillance by hiring former SFC colleague Pang. He was a senior director at the SFC specializing in market surveillance and enforcement. He now works with Cha on the supervision of listed companies and also serves on a committee that plans the CSRC's strategic development.

Cha's latest initiative came in January, when she unveiled China's first corporate governance guidelines. With the core principle that shareholders' interests must be protected, these guidelines spell out directors' responsibilities and fiduciary obligations. Foreign analysts say that at least on paper, China meets the highest international standards, and they believe that the CSRC is serious about enforcing the new guidelines.

The biggest task on Cha's desk now is the drafting of new rules on takeovers and mergers. Following China's entry to the World Trade Organization at the end of 2001, the CSRC anticipates a sharp pickup in mergers and acquisitions as foreign companies move to acquire stricken state-owned enterprises or set up joint ventures with them. The agency says the new rules will be issued by year-end.

But issuing new regulations is the easy part; enforcing them is a nightmare. More than 90 percent of all listed companies are majority-owned by the government, and most of the CEOs are party officials and former government members who frequently put Beijing's interests above those of minority shareholders. As high-ranking members of the Communist Party, such executives do not submit easily to regulation. Even when a state-owned enterprise is partially privatized, management often remains unchanged. Says the Shanghai Stock Exchange's Wu, "They look at you and say, 'What,s your rank?'"

As the controlling shareholder of most listed enterprises, Beijing naturally has an interest in keeping stock prices high. Critics say it has done that in part by limiting the supply of listed companies, thus helping to inflate stock valuations. It does this through the CSRC, which is the government's gatekeeper in deciding which state enterprises can list.

This puts the CSRC in a conflicted role. While its stated goal is to let market forces prevail, the agency continues to intervene by determining the flow of IPOs through so-called administrative guidance, as and when this suits the government. "The CSRC is supposed to be an impartial umpire, but some people say that when the government is losing the game, [the agency] changes stripe and plays alongside," says a local economist.

Even when it tries to stop abuses, the agency must rely on an erratic judiciary for enforcement. Take the case of Yorkpoint Science & Technology. The CSRC early last year ruled that four companies had used 630 retail and institutional accounts to bolster Yorkpoint's share price, profiting to the tune of $53 million between October 1998 and February 2001. It fined the companies a total of $50 million and confiscated an equivalent sum from their accounts. But when 360 minority shareholders in Yorkpoint sued the four companies , all self-styled investment consulting firms based in Guangdong province , for $2.97 million in damages, the Supreme People,s Court refused to accept the case. It ruled that it would hear only cases in which the CSRC had fined the company concerned and where the company had provided false information. Though the plaintiffs argued that Yorkpoint had provided material resources for the four companies that manipulated its share price, the court refused the case on the grounds that it hadn,t drawn a fine from the CSRC.

Another frustration for Cha has been a barrage of media attacks. Though she says she knew what she was getting into when she agreed to join the CSRC, she has been taken aback by the rancor she encounters. She is derided as a "sea turtle," a phrase used to describe overseas Chinese who return to the mainland but do not really understand the country. Yang Fan, an economist at the Chinese Academy of Social Sciences in Beijing, told local newspapers early this year that "these returnees are plotting to destroy China's stock market." For an intensely private person like Cha, who shunned the spotlight during her time as a top Hong Kong regulator, the public scrutiny is difficult.

Much of the criticism originates from investors, large and small, hurt by the steep decline in stock prices. They apparently failed to notice that the major factor behind the market,s dive last year was, as economists and analysts agree, a central bank order issued in July requiring that bank loans extended illegally for stock investment be withdrawn from the market by September. Also in July, the Ministry of Labour and Social Security announced it would raise money for the national social security fund by selling state-owned enterprise shares , another depressant for stock prices. The latter decision was hastily reversed in October in an attempt to shore up the market.

In addition to lashings from the media and resistance from big market players, Cha faces obstacles within her own agency. The Shanghai Stock Exchange's Wu, who served as a full-time adviser to the CSRC from April 1999 to April 2001, recalls how difficult it is to push decisions through its bureaucracy. "I sat there and squirmed while they took months to make a decision," he says. Things have speeded up, says Wu, but he says that in a modern market regulators often need to make split-second decisions.

The CSRC's senior executives are committed to improving regulatory standards quickly. Chairman Zhou Xiaochuan last year called for a "year of supervision," and he is widely praised as a determined helmsman and pro-market reformer. The regulator's other key vice chairman, Gao Xiqing, who is in charge of intermediaries and market supervision, is also viewed as a committed pro-market regulator. He previously helped set up Bank of China's Hong Kong,based investment banking operation and before that was a New York,based lawyer with Mudge Jones.

But according to critics such as economist Wu, beneath the triumvirate of Zhou, Gao and Cha are numerous long-serving CSRC executives whose independence from the entities they regulate is dubious at best. That's because at its genesis in 1992, the CSRC emphasized market development over regulation. Executives who ran listed companies built close relationships with regulators, based on what Hu Shuli, Caijing's managing editor, calls a "one-big-happy-family mentality."

Cha is stoic about the hard times behind her and prepared to take more blows. She says it is important to keep things in perspective. China's markets have grown phenomenally in just over a decade, she notes. With their combined market capitalization of some $500 billion, the Shanghai and Shenzhen markets are now bigger than Hong Kong's. "We use our 21st-century benchmark to measure an 11-year-old market," Cha says. The important thing, she believes, is that the Chinese leadership has a strong determination to reform.

Indeed, the agency has received recognition for the progress already made. A January 2002 report on corporate governance in emerging markets by CLSA Emerging Markets praised China's efforts at regulatory discipline. According to the report, "2001 marked the beginning of the end of the freewheeling speculative environment in the A-share market [stocks listed on the Shanghai or Shenzhen exchanges that can be bought only by mainlanders]." China placed 16th in CLSA's ranking of corporate governance last year, up from No. 19 in 2000 and ahead of Indonesia, the Philippines and Thailand.

Cha agreed to serve a two-year term with the CSRC but has no contract. She describes as "vicious" recent rumors that she would leave ahead of time. "I have not said anything of the sort," she says. "I read first that I had resigned, then that I had issued a statement saying that I had not resigned. I had done neither. It's malicious. When people don't want to see you around, they spread rumors that you are going to leave." There are plenty of people who wouldn't mind if she did, not least the mayors, governors and other high-ranking individuals who these days find that the CSRC isn't granting any favors.

'People in China know what is wrong'

Laura Cha describes what she has accomplished in her first year at the China Securities Regulatory Commission as building the structure for a healthy securities market. We are "digging the foundations, putting in the beams," she says.

An efficient and well-regulated market is critical to China's future. Hong Kong,based brokerage BNP Paribas Peregrine estimates that the country will need 50 trillion yuan ($6 trillion) in capital by 2010 to meet its development needs. And the 6.7 trillion yuan in savings now socked away in bank accounts, says Cha, "could be better utilized by the capital markets in this development process."

In her rare spare time, Cha, 52, likes to explore old cultural sites in exotic destinations with her husband. (Last year they visited Myanmar and Cambodia's Angkor Wat.) She recently discussed her experiences as the first nonmainlander to hold vice ministerial rank in China's government with Hong Kong Bureau Chief Kevin Hamlin.

Institutional Investor: How do you respond to critics who say you are overregulating China,s securities markets?

Cha: What our critics do is pit regulation against development, as if to develop the market you don't have to regulate it. What we are saying is the two are not on opposite sides. They have to go on together.

My first question to our critics is, What do you mean by developing the market? Does it mean that we should leave a lot of space for misconduct, that we should tolerate fraud and all kinds of irregularities? I always ask, Which policy is it that is overregulating? And they can,t answer. At the end I think people know that what we are doing is needed. People in China know what is wrong with the market.

We are trying to find an equilibrium. Until investors are more mature and the professionals more experienced, we will continue to have this [image] problem.

The Ministry of Finance found that out of 159 listed companies it investigated, 157 inflated their 2000 corporate earnings and 146 falsified their asset values. Are you reducing the instances of such fraud?

We don,t have the kind of manpower needed to go after each of these. Nor do we intend to do that. If you ask any regulator, including the U.S. Securities and Exchange Commission, the regulator's resources are short compared to market forces. So what regulators need to do is prioritize and go after the most egregious cases of abuse. China is a vast country, and there are listed companies in remote areas. We are terribly short-staffed. We have 350 staff in Beijing and another 800 or so dispersed throughout offices in nine major locations. [The SEC has about 2,900 employees.] If I asked each department, they'd tell me they need three times the staff.

What I've been trying to do is get our staff in each of the regional offices to really understand the listed companies under their jurisdiction and identify problems before they arise. If we identify small problems early, hopefully we can defuse them. For example, if we find that a listed company's controlling shareholder has been using the funds or assets of the company, we could, one, stop it or, two, coerce them to cough up the money. We could also work with the local government , because most of these companies are state-owned enterprises , to try to get them to correct it before the problem turns into a big problem. We will not be able to stop everything, nor are we going to prevent fraud from being committed. We want to increase the cost of misconduct.

Are you educating directors about their responsibilities?

Should that be the CSRC's job? We feel that the CSRC is not a nanny to the market. We cannot be responsible for every single aspect. We offer training courses from time to time, but we feel the private sector will pick up this work.

Is it true, as some say, that you run the CSRC?

No, I don't run the CSRC. I run three operating departments: IPOs, listed companies and fund management.

But are you not its most influential voice?

I just do my job as a professional. Chairman Zhou Xiaochuan is a very hands-on chairman. No single person decides anything. You have to have consensus on major issues. It's not too different from Hong Kong or other more developed markets.

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