Yeah, I understand that, and it follows that C can then lend the...

Yeah, I understand that, and it follows that C can then lend the shares to D, who short sells them, and then D owns the shares, but C and A also own the rights to those shares. That is how 130% of Gamestop was shorted. Of course, shares are fungible so any shares of that company can be returned to A and C. What I am questioning is why the lent shares are allowed to stay on the books of the institution that lent the shares. Yes, they own the rights to those shares, but they do not own the shares until they are returned. For example, if an fund indexed to the ASX300 lends shares of a particular company to be short sold, then they are no longer in possession of those shares, hence they are not holding that company's shares in the same ratio as the ASX300 anymore.

I am not against short selling per se, however the loopholes that have been carved out – which are no doubt the result off extensive lobbying and donations to lawmakers on the part the entities that short sell – tilt the playing field strongly in favour of short sellers. Short selling, in its present form undermines the integrity of the stock market. You have situations in which super funds are lending shares to entities that will short sell them, often using HFT algorithms that are designed to inflict maximum damage to the share price. Yes, the super fund receives a small amount of interest on the lent shares, but the damage done to the value of the super fund's holdings of that company (which directly affects the amount of super that contributors to that fund receive) is orders of magnitude greater than the interest they receive for lending the shares. A similar situation arises when banks lend shares held by their clients to short sellers. It is a massive conflict of interest.

Edit: this was meant to be a reply to bonge.