(Reuters)
Updated: 2007-06-01 17:18

A woman blows a bubble gum at a stock exchange market in Shanghai May 29, 2007. China has raised stamp tax on securities trading has been raised from 0.1 percent to 0.3 percent beginning Wednesday, May 30, in an effort to cool the overheated stock market. [Reuters]

China's jittery stock market tumbled on Friday in response to rumors that the government planned to impose a stock capital gains tax or take other strong measures to cool the market.

Most analysts and fund managers believed the rumors were false, especially since the market had already been showing signs of cooling after a hike in the stock trading tax this week.

But nervous individual investors dumped stocks in the final 45 minutes of trade and the Shanghai Composite Index ended down 2.65 percent at 4,000.742 points, its lowest finish since May 16. At one stage, it sank as much as 3.5 percent.

Falling stocks overwhelmed gainers by 754 to 108 while turnover in Shanghai A shares was very heavy at 224.7 billion yuan ($29.4 billion), against Thursday's 234.8 billion.

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T he market has been swinging wildly since Wednesday, when it plunged 6.5 percent after the stock trading tax was raised to cool a bull run that had boosted the index 62 percent this year.

Three officials from the finance ministry and tax administration dismissed the capital gains tax rumor on Friday as mere speculation.

But that was unlikely to reassure investors much -- on May 22, officials denied rumors of an increase in the trading tax, which was announced a week later.

Another widespread rumor on Friday suggested the government would abolish the tax on interest in bank deposits, in a move to pull money out of stocks and back into banks.

LONG-TERM UPTREND

Many analysts said that with a strong stock market now key to China's economic reforms, and with a Communist Party congress to be held in the second half of this year, authorities would not take any action that might reverse stocks' longer-term uptrend.

"It is natural that some rumors like this are swirling when market sentiment is not stable," said Zheng Weigang, senior analyst at Shanghai Securities.

"But I don't think it's true as the government just wants to cool the market, not crash it."

In fact, the market has been showing signs of reacting well to the trading tax hike -- money has been moving from speculative small-capital stocks, which have continued to tumble, into blue chips, which have been much stronger.

This is exactly the pattern that authorities probably hope to see, analysts said. It should also please institutional and foreign investors, since it deflates speculative areas without dragging down the index sharply.

Toothpaste maker LMZ was typical of small-caps on Friday. It plunged its 10 percent daily limit for a third straight day.

But many blue chips and companies which announced positive news rose, suggesting longer-term investors were still upbeat about the market.

Oil refiner Sinopec climbed 2.15 percent to 15.17 yuan after rising 10 percent on Thursday. Many banks remained firm, with Merchants Bank up 1.61 percent at 22.07 yuan.

CITIC Securities , the biggest listed brokerage, rose 3.16 percent to 55.79 yuan after plunging over the previous two days on fears that the crackdown on speculation would shrink market turnover and thus brokerage commissions.

The food and beverages sector was also strong as the personal consumption theme reappeared. Kweichow Moutai , a traditional liquor maker, ended 8.31 percent up at 110.44 yuan.

Shanghai Auto , China's biggest car maker, climbed 3.36 percent to 15.71 yuan after announcing it would set up a unit for research and development of commercial vehicles.

Guangdong Macro jumped its 10 percent limit to 13.31 yuan after announcing a 2 billion yuan joint venture to make power transmission equipment with France's Areva , the world's biggest maker of nuclear reactors. ($1 = 7.64 yuan)