China may slow down the pace of financial deleveraging after its stock market suffered another sharp decline on Friday, sparking concerns that domestic regulatory tightening coupled with external uncertainties could exacerbate selling pressure in the equity market.
The benchmark Shanghai Composite Index tumbled by as much as 5.9 percent during intraday trading - the biggest single-day drop in nearly two years - before recovering some losses. The index was down by 4.05 percent at the close. The CSI300 Index, which tracks blue-chip stocks, saw an even steeper fall of 4.27 percent.
While the China market plunge could be a chain reaction to the resumption of heavy selling in the US stock market the previous day, analysts said investors' sentiment could also be weighed by a string of domestic factors including worries about the government's intensified financial tightening and deleveraging efforts, the surging valuations of large-chip stocks and the potential liquidity shortage ahead of the Chinese New Year holiday.
Steven Zhang, chief economist at Morgan Stanley Huaxin Securities, said Chinese policymakers will likely lessen the pushing of financial deleveraging to cope with external shocks and to prevent short-term financial risks amid rising volatility in the stock market.
"If the global economic recovery leads to higher-than-expected inflation and tighter-than-expected monetary policy of the central banks, Chinese policymakers will respond accordingly and will likely reconsider the pace of its financial deleveraging efforts," Zhang said.
While Friday's market slump was largely triggered by the resumed fall of the US market, Gao Ting, chief strategist at UBS Securities, said that amplified fears about the domestic financial tightening, which could squeeze market liquidity and exert pressure on economic growth, may also be driving the selling.
Gao said Chinese policymakers will maintain flexibility in monetary policy to address any external shocks, including possibly faster-than-expected rate increases by the US Federal Reserve, although the country's current economic figures do not justify any shifts in its monetary stance.
People's Bank of China, the central bank, said on Friday that it has injected temporary liquidity worth nearly 2 trillion yuan (8 billion) to meet the cash demand before the Spring Festival holiday.