15% Drop in Chinese Stock Market Shows Impact of End of Stimulus

China’s stock market shows the world what happens when central banks and governments start to withdraw stimuli from the pandemic. The result is not encouraging.

The CSI 300 Index has lost 15% since rising to the highest level in 13 years last month. Concern over tightening monetary policy has replaced optimism about the economic recovery.

As in other markets, the rally was led by investors looking for a small number of shares, many of which accumulated shares at the peak of the buying wave. The indicator is now traded at the biggest discount against the global MSCI index since 2016, and the most popular mutual funds feel the impact.

Global central banks deal with the consequences of several interest rate cuts last year and trillions of dollars in stimulus. Some, like the Federal Reserve and the European Central Bank, plan to keep policies loose for the time being.

Others are forced to act due to the risks of inflation. Last week, the Central Bank of Brazil became the first in the G-20 to raise interest rates, with Peru and Russia following suit. Norway is also more inclined to tighten monetary policy.

In February, investors began to price US growth and consumer prices, anticipating the Fed’s forecast of rising interest rates. Although this means technical corrections in overvalued markets like Nasdaq, no global benchmark stock index is falling faster than than the stock exchange in China.

“The Chinese stock market may reveal the challenge of withdrawing stimuli globally, given that China was the ‘first to enter and the first to leave’ the pandemic,” said Peiqian Liu, economist for China at Natwest Markets in Singapore.

China has reason to reduce stimuli more quickly than other large economies. The best control of the pandemic, the focus on deleveraging and the lack of investment options for its citizens are some of them. But there is little doubt that the country’s stock market has been in the lead since Covid-19 was first identified in the Chinese city of Wuhan.

Lessons from the past reveal that there is a greater focus on China’s risks from too much liquidity, both internally and externally. The government resumed the campaign to reduce the leverage that was suspended in the midst of the trade war with the United States, as well as efforts to limit the impact of “speculative investment”.

“China’s exit policy remains one of the most important uncertainties for its own recovery and for the financial markets ahead,” said Li-Gang Liu, Citigroup’s managing director and chief economist for China, according to this month’s report .