updated 2/28/2007 3:22:11 PM ET 2007-02-28T20:22:11

Chinese regulators shifted into damage control Wednesday, with a government-run newspaper denying rumors of plans for a 20 percent capital gains tax on stock investments — thought to be a key factor in the markets’ plunge the day before.

The government has no plans to levy a tax on capital gains from stocks, the Shanghai Securities News said in a front-page report, citing unnamed spokesmen for the Ministry of Finance and State Administration of Taxation.

The newspaper, run by the official Xinhua News Agency, is often used to convey official announcements.

The report came a day after Chinese shares took their biggest tumble in a decade, with benchmarks for both the Shanghai and Shenzhen exchanges falling by nearly 9 percent.

The Shanghai Composite Index dropped 8.8 percent to close at 2.771.79, its largest decline since it fell 8.9 percent on Feb. 18, 1997, at the time of the death of Communist Party elder Deng Xiaoping.

The plunge triggered losses worldwide, with Wall Street seeing its most dismal trading day since the Sept. 11, 2001, terrorist attacks. The Dow Jones industrial average lost 416.02, or 3.3 percent, to 12,216.24. Key European exchanges also fell about 3 percent.

The bloodletting continued into Wednesday. Australia’s benchmark S&P/ASX200 index slumped 3.45 percent in the first 30 minutes of trading.

The exact cause of Tuesday’s sell-off in China was unclear. Some analysts blamed profit taking following recent gains: the market had hit a fresh record high on Monday, with the Shanghai Composite Index closing above 3,000 for the first time.

Others pointed to comments by former Federal Reserve Chairman Alan Greenspan, who warned in comments to a conference in Hong Kong that a recession in the U.S. was “possible” later this year.

Coupled with those factors was a persisting expectation that China might impose further austerity measures, such as an interest rate hike, to cool torrid growth. China’s economy grew 10.7 percent last year — the fastest rise since 1995 — and a recent central bank report forecast it would expand 9.8 this year.

China has refrained from imposing a tax on capital gains from stock investments, largely because until last year the markets were languishing near five-year lows. The Shanghai Securities News report cited officials saying that the government had little need to impose such a measure now, given that tax revenues soared by 22 percent last year.

But a successful round of shareholding reforms helped alleviate worries over a possible flood of state-held shares into the market, and buying has taken off.

Share prices more than doubled last year, as millions of retail investors began shifting their bank savings into the markets in search of higher returns. Strong buying by state-controlled institutional investors and overseas funds also helped.

China still limits foreigners’ purchases of the yuan-denominated stocks that make up the biggest share of the markets, though that is gradually changing as regulators allow increasing participation by so-called qualified foreign institutional investors.

The recent bull market has renewed confidence in the viability of China’s markets to play a larger role in corporate financing. But regulators and analysts have questioned the sustainability of the gains.

Stocks have shown unusual volatility this year, with the Shanghai index notching one-day drops of 4.9 percent and 3.7 percent already this year — before recovering to hit new records.

But there are limits to how far shares are allowed to drop in a single trading day: total single-day gains and losses are capped at 10 percent.

Copyright 2007 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

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