“Elevator operators and secretaries were buying on margin!”

--My father on the run-up to the Crash of 1929.

Lost in the news over Greece’s status in the Eurozone is that investors in China’s stock market have seen a stock market crash around 30% in a few weeks. The government has tried desperate measures to halt the cliff-fall, yet they are likely only to put off the day of reckoning.

Chinese investors have been borrowing money like crazy to buy stocks. As with borrowing to purchase any asset, it’s painful when the asset declines below the purchase price. But the potential disaster in China likely exceeds anything the U.S. saw in the housing bust and 2008-09 crash.

According to Fortune's Scott Cendrowski, "The otherworldly rise of Chinese stocks—more than 120% in the past year in Shanghai—can be attributed in part to the rise of margin lending, which doubled in the last half of 2014 and which allows Chinese investors, four-fifths of whom are small-time traders, to boost their bullish bets without needing much more cash." The Wall Street Journal reported that margin lending reached the mid-teens percentage of total Chinese trading this year—a high—and that last fall it passed the margin debt to market capitalization level in the US.   

It's time for a refresher on margin.

Brokerage firms will lend you money and charge you interest to buy stocks. Borrowing to buy stock is called buying on margin. Investors use margin because it can boost returns. Let’s say you pay $8,000 in cash and use a $8,000 margin loan to buy $16,000 worth of the fictional Rocket Stock. Rocket, as hoped, zooms so that your stake is worth $24,000. That’s a 50% gain from $16,000 to $24,000, right?

Wrong! You actually made 100%. If you sell for $24,000 and repay the $8,000 loan, you receive $16,000, putting aside taxes and margin interest. That’s double your $8,000, so your “cash-on-cash return” is 100%. You risked $8,000 to make $8,000. This is why margin is so alluring. However, there is a flip side. Investors on margin—the “elevator operators and secretaries” of my father’s Crash of 1929 stories—eventually learn that easy money today can kill you tomorrow.  

In the U.S., brokerage firms can lend up to 50% of the stock purchase price. After, they require investors to maintain from 25% to as much as 40% equity in the account. “Equity” is the same as equity in your home: its sales price today minus mortgage outstanding. Your brokerage account equity is the value of your securities (“house”) minus the margin loan from your broker (“mortgage”).

Now assume that Rocket Stock, as often happens, returns to earth. Instead of rising to $24,000, your stake declines to $12,000. Your equity is $4,000 ($12,000 value of stock minus the $8,000 margin loan). You exceed a 25% maintenance requirement, which would be $3,000. Good. But if the requirement at your brokerage firm is 40%, or $4,800, you lack enough equity. In that case, you will receive a “margin call” to deposit cash or securities into your account to return to the 40% equity level.  

The deeper the decline, the more investors receive margin calls. With everyone selling to raise equity, stocks plummet and bring further margin calls, sales and losses. Before you can say “Time for Netflix!” you’ve got a full-fledged screaming bloody crash on your hands. People, financial institutions and the whole economy are devastated.  

In China, massive borrowing has fueled speculation in real estate and stocks, where new profits have fueled more debt, and round and round. Eventually lending will freeze and debt-fueled profits will evaporate, as they did in our housing bust. With an unregulated shadow banking system of unknown size, the government fears a crash will not only have nuclear bomb-like repercussions, but has no idea how many bombs may fall or where.

Charles Kindleberger laid it out masterfully in Manias, Panics and Crashes: A History of Financial Crises. All manias are fueled by credit, and all panics become crashes when the debt comes due. China is no exception. Margin may look good today, but it can kill you tomorrow.