TAIPEI, Taiwan -- Does China have any idea what it's doing?

As its stock market continues to crater, causing massive selloffs in global markets, Beijing seems to be fumbling for a solution to yet another financial meltdown.

Thursday's trading offered a clear -- if worrisome -- look into China's haphazard regulation of markets.

After China decided to devalue the yuan more than traders were expecting, the stock market plunged more than 7% in the first half hour. That forced regulators to impose newly adopted circuit breakers for the second time this week. Trading, in fact, was halted for the rest of the day, making it the shortest session ever.

Late Thursday, China decided to suspend the very same circuit breakers, a sign that they had actually backfired and made the selloff worse.

China traditionally has regulated every aspect of the economy and markets. But in its move to introduce more of a free-market system, it's had a hard time figuring out how capitalism actually works. So every attempt to keep things under control seems to make the situation even worse.

China is also trying to shift its economy from an industrial powerhouse to one that's more consumer oriented. But that too has proved difficult. Part of Thursday's stock selloff was triggered by more signs of weakness in the manufacturing sector.

And since China is such a huge market, particularly for the U.S., any slowdown in its economic growth has a major impact on world markets. Commodities, especially oil prices, continued to plunge Thursday because of China.

Despite all these problems, China is likely to continue with its ad hoc approach to regulation, analysts say. That's because Beijing feels the case-by-case approach gives the government flexibility to attack root causes of each decline without the impression that it controls the markets.

That means more volatility in China's markets -- and the rest of the world.

"For the government it's about the overall economy rather than the stock market itself so more measures will be seen on a sectoral basis rather than just on the stock market," said Nitin Dialdas, chief investment officer with Hong Kong-based fund manager Mandarin Capital.


So China is saying that it will stick with whatever works and discard anything that doesn't. And that's not a good formula for investors.

"It is frankly too risky for foreigners to invest in China now," said Alicia Garcia Herrero, chief Asia-Pacific economist with French investment bank Natixis. 

Foreign investors normally access China's "A" shares through the funds of offshore institutions with special permits from Beijing. Those include the Invesco Greater China Fund (AACFX - Get Report) , the KraneShares Bosera MSCI China A ETF (KBA - Get Report) and the Deutsche X-Trackers Harvest CSI 300 China A-Shares ETF (ASHR - Get Report) .

Zooming in the routs this week, the first of an expected volatile year, Chinese regulators have treated them as a threat to the overall economy. GDP growth, also a barometer of the global economy, stalled to its slowest in a quarter-century in 2014 and it's expected to trend downward through 2020.

The selloffs Monday and Thursday followed data showing that China's crucial manufacturing sector declined for a 10th straight month in December. The yuan currency has also weakened 1% this month to date, a threat to any stock market profits leaving China.

But China says it's ready for a growth slowdown as it steers the $10-trillion-plus economy away from factory work. It has encouraged the yuan to weaken since August.

To shore up investor hopes this week, the central bank has simply pumped more than $30 billion into stocks. Fears of deeper share price losses after the expiration of a ban on mass selloffs also prompted authorities to push state enterprises and brokerages to buy shares, analysts believe.

China christened its new circuit breaker rule Monday and Thursday because that option took effect only this month. The circuit breaker stopped trading after each day's loss reached 7%.

When share prices lost about 40% June through August, authorities used a different set of counter-measures, as the underlying reasons were different.

They then put money into the state-owned China Securities Finance Corporation, which provides margin loan services to brokerages. Brokers were calling in margin loans then, adding heavily to the selloff. China allowed $327 billion in pension funds to invest in stocks as well. Later it started investigating asset managers over suspected investment crimes to inspire confidence in the market.

China may take measures someday to keep money onshore, some observers fear, a threat to foreign investors. Outflows from September to November reached $367 billion, according to Bloomberg data.

"The risk goes beyond losing money and more into not being able to take it out of China given what is happening," Garcia said.

But if share prices decline without a moral for the macro-economy, the government might do nothing. Sitting back would advance Beijing's stated goal of letting the free market do its own thing.

 

This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.