The interrelationship of air quality, investor sentiment, and stock market liquidity: a review of China

This study analyzes air quality as a factor affecting Chinese stock market liquidity through the transmission mechanism of investor sentiment. Monthly time-series data from 2014 to 2018 are selected to analyze the air quality index, investor sentiment index, and turnover rate. The static and dynamic relationships among air quality, investor sentiment, and stock market liquidity are investigated using a multiple linear regression model. The inverse effect of stock market liquidity on air quality is analyzed based on the results of impulse response functions, variance decomposition, and the environmental Kuznets curve theory. We find that air pollution can negatively affect investors. Therefore, when facing negative emotion, investors choose to react passively, which reduces stock market liquidity. Furthermore, we find that stock market liquidity and air quality have an inverted U-shaped relationship. Pursuing higher liquidity comes at the expense of the environment, which exacerbates air pollution, thereby causing obviously abnormal behavior and threatening economic development. Based on these findings, this study proposes regulations and economic methods to improve air quality. Other policy recommendations include strengthened investor financial literacy and information disclosure to deter feelings of negativity about air pollution, which would ultimately promote stock market liquidity and economic development.