1 Xi moves to strengthen control over the PLA ahead of the Third Plenum
Xi holds CMC meeting
June 17 to June 19
The CCP Central Military Commission held a political work conference in Yan’an City. All members of the CMC, as well as the main person-in-charge of the various departments and commissions of the CMC, theater commands, and different military services, attended the meeting.
State mouthpiece Xinhua reported that Xi Jinping led a group comprising CMC members and the main persons-in-charge of the various military entities to visit Wangjiaping, Yan’an, where the CCP’s revolutionary military committee was based from August 1937 to March 1947, on June 17. At Wangjiaping, Xi said that the CMC holding its whole-military political work conference in Gutian a decade ago and now in Yan’an are efforts at retracing the CCP’s heritage (“seeking roots and tracing origins” [尋根溯源]).
Xi later delivered a speech at the political work conference. Notable points in his speech from state media reporting include:
- Xi said that Party Central made the “decisive decision” to convene the whole-military political work conference after the 18th Party Congress. He added that the comprehensive and strict governance of the Party and the military has achieved “historic accomplishments.”
- Xi said that a “new era strategy for political military-building” has been formed since the 18th Party Congress, including:
- Clearly establishing that political work will always be the lifeline of the People’s Liberation Army.
- Clearly establishing that mastering ideological leadership is the foundation for mastering all forms of leadership.
- Clearly establishing that the military must always be controlled by those who are loyal and reliable to the Party. Xi said that the CCP’s “gun barrel must always be grasped by people who are loyal and reliable to the Party.”
- Clearly establishing that there must be no place for corrupt elements within the military. Xi said that “there must be no place in the military for corrupt elements to hide.”
- Xi said that the international situation, the national situation, the Party’s situation, and the military’s situation are all undergoing “complex and profound changes,” which present intricate political tests for the PLA.
- Xi conducted an in-depth analysis of the “deep-seated contradictions and issues” that need to be addressed in political military-building on the “new journey.” Six key areas of work that must be focused on are:
- Enhance the self-awareness and thoroughness of ideological transformation.
- Improve the leadership, organizational, and execution capabilities of Party organizations.
- Strengthen the construction of the cadre team.
- Eradicate the “soil and conditions” where corruption breeds, and strengthen comprehensive supervision of senior cadres’ performance of their duties and use of power.
- Boost spirit and morale for undertaking and initiating projects.
- Restore and promote the fine traditions of political work.
- Xi stressed that advancing political military-building is a shared responsibility of the entire military. The CMC should strengthen its united leadership, while the CMC’s political work department, discipline inspection commission, and political and legal affairs commission should enhance coordination and cooperation. All units and departments must fulfill their duties and responsibilities.
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State broadcaster CCTV reported that the CMC political work conference held a concluding meeting on June 19. CMC vice chairs Zhang Youxia and He Weidong both attended and spoke at the meeting.
Zhang Youxia said that Xi Jinping’s political military-building decisions and deployments must be resolutely implemented, senior cadre education and management should be improved, and the Party’s firm control over the military with regard to ideology, politics, and organization must be ensured.
He Weidong emphasized the profound significance of CMC chairman Xi leading (key elements of) the military to revisit Yan’an, the decisive significance of the “two establishes,” and advancing comprehensive and strict governance of the Party and the military to ensure that the military always obeys the CCP’s command.
Background
1. The CCP held a whole-military political work conference in the town of Gutian in Fujian Province from Oct. 30 to Nov. 2, 2014.
During the meeting, Xi urged the military’s leading elements to treat the case of Xu Caihou with seriousness and gravity. Three days before the Gutian meeting, the CCP authorities announced that the anti-corruption investigations into Xu, a senior Jiang faction member and former CMC vice chairman, had concluded and his case had been handed over to the judiciary for prosecution.
2. Xi Jinping led the Standing Committee of the 20th Politburo on a trip to the CCP’s former revolutionary base at Yan’an in Shaanxi Province on Oct. 27, 2022, or shortly after Xi took a third term at the 20th Party Congress.
At the Yangjialing Revolutionary Site in Yan’an, Xi said that the CCP had achieved “unprecedented unity” under Mao through the Yan’an Rectification Movement; established “Mao Zedong Thought” and added it to the Party constitution”; and formed a group of “tried-and-tested” politicians who “held high the banner of Mao.”
Big picture
1. The CCP will hold the Third Plenum of the 20th Central Committee this July. External observers are paying significant attention to what political and economic plans, reforms, and measures will be introduced at this meeting amid a worsening real estate crisis in China and the Chinese economy’s rapid deterioration. Some observers are also anticipating what sort of personnel changes and other political moves that the Xi leadership could make at the Third Plenum.
2. The PRC faces an increasingly unfavorable and even hostile international environment. Thus far, the U.S. and its allies have strengthened alliances and rolled out various policies to counter the PRC; imposed tariffs on Chinese goods to Europe and the United States, restricted China’s ability to access advanced technologies; sanctioned Chinese entities that supported Russia’s war effort in Ukraine; increased arms sales to Taiwan; and is scrutinizing the corruption of CCP officials, including Xi and his family.
Western media outlets, think-tanks, and pundits have also been playing up the specter of a PLA invasion of Taiwan and spotlighted the escalation of confrontations between the PRC and other countries in the South China Sea.
Our take
Several political signals can be read from the recent CMC political work conference in Yan’an and its related activities.
1. Xi Jinping very likely brought the leadership elements in the PLA to visit the Wangjiaping revolutionary site to emphasize his “quan wei” (authority and prestige) by associating his actions with the Party’s revolutionary roots and secure their confidence ahead of possible major military personnel announcements.
In analyzing Xi’s visit to Yan’an after the 20th Party Congress, we noted that Xi was indicating that he was looking to bring “unprecedented unity” within the CCP like Mao Zedong while continuing to pursue a Yan’an Rectification Movement-style “self-revolution” campaign to eliminate corrupt and disloyal elements in the Party. Likewise, Xi is likely signaling the same message to the PLA in holding the CMC political work conference in Yan’an and visiting the Wangjiaping revolutionary site with the military’s top brass to “retrace” (尋根溯源) the CCP’s heritage.
Xi does not plan to “unite” the military under his leadership through a mere history lesson. At the political work conference, Xi noted that political work was the “lifeline” of the military, called for “mastering ideological leadership,” and enhancing “the self-awareness and thoroughness of ideological transformation.” Put another way, Xi intends to double down on using political indoctrination as a tool to keep the PLA “loyal and reliable” to him and the CCP.
Xi’s speech at the Yan’an meeting hints at serious political and discipline problems in the PLA. Notably, Xi called for a “new era strategy for political military-building,” observed that the PLA faces “intricate political tests,” and stressed that there are “deep-seated contradictions and issues” that need to be addressed in political military-building on the “new journey.” Xi’s remarks obliquely indicate that his leadership still has some ways to go to rectifying the PLA from the deep-rooted corruption and malpractices of the Jiang-Hu era despite him having consolidated his control over the military in 2016 and tackling corruption in the Party’s “gun” almost from the time he took office. If this is indeed the case, then external observers are at risk of over-estimating the PLA’s current warfighting and operational capabilities, especially when assessing Beijing’s present desire to invade Taiwan and conduct other acts of aggression.
Finally, Xi is planning to wield the anti-corruption campaign as a “stick” to cudgel the military into obeying his command without fail. This is evident from Xi’s call to ensure “no place for corrupt elements within the military,” eradicate the “soil and conditions” where corruption breeds, strengthen “comprehensive supervision” over senior military cadres, and have the “gun barrel” always “grasped by people who are loyal and reliable to the Party.”
Xi’s focus on anti-corruption matters could also foreshadow major military personnel purges or adjustments after the Yan’an CMC political work conference. Around the time of the Gutian whole-military political work conference in 2014, the Xi leadership had Xu Caihou under investigation, and also took down four deputy theater-level lieutenant generals, six major generals at the corps level, and nine major generals at the deputy corps level. Xi also stressed in Gutian that “safeguarding the Xi core is the most important political task.” We believe that the Xi leadership is preparing to announce the result of investigations into former defense minister Li Shangfu, former members of the PLA Rocket Force leadership team, and CMC Equipment Development Department senior personnel in the coming weeks or at the Third Plenum.
The moves above that we have identified Xi as making also indicate that he currently lacks confidence in the PLA, the loyalty and reliability of its commanders and troops, and on whose side the military will stand as he undertakes more intense “self-rectification” efforts while the CCP regime’s economic and other problems worsen considerably. Xi’s solution to the loyalty question is more political indoctrination and anti-corruption efforts targeting military personnel. Those measures could have some effect in enhancing Xi’s control over the military in the short term, but could increase Xi’s political risks over the long term as the PRC’s internal and external crises deepen.
2. Xi is likely looking to strengthen his control over the military and ensure that it follows his commands at this time in considering the current geopolitical climate and what he might introduce at the Third Plenum in July:
- Xi needs the PLA to be very disciplined and duly obey his orders as the latter undertakes the CCP’s “gray zone” maneuvers and military drills in the Taiwan Strait and the South China Sea. The CCP will not cease its military exercises and paramilitary/“civilian” tactics in the South China Sea and the Taiwan Strait just because it is under pressure from the U.S. and its allies for fear of ceding its authority in the region and ability to project power. However, Beijing likely does not want “small” scuffles and “accidents” to metastasize into a full-blown crisis or conflict for the PRC at a time when it is struggling to stabilize and rescue the Chinese economy. The Xi leadership is likely also wary of the dire political consequences of the PLA failing in a hypothetical conflict. Therefore, Xi needs to stifle dissent in the military and make sure that it toes the line to control the pace of his foreign policy and not have the Party’s “gun” disrupt his political agenda.
- The Xi leadership could be preparing to introduce some political and economic measures that could potentially harm the interest of some Party elites, and especially elites who retain a degree of power and influence.
- The political and economic measures released at the Third Plenum could hugely disappoint both domestic and foreign observers, leading to an accelerated deterioration of China’s economic and social conditions.
- Xi could be thinking about criticizing Jiang Zemin and purging the remaining Jiang clan as well as the remnant Jiang faction at the Third Plenum, and would naturally need the military to be completely behind him to minimize his personal political risks associated with making such a major move. However, Xi appears to be undecided on whether or not to denounce Jiang. For one, Xi will find it hard to justify to the public why he is going after the Jiang clan and faction for corruption given that he, his family, and other CCP elites have been exposed for corruption by the U.S. Congress, media outlets, and others.
2 China’s forex deficit, capital outflows, wealthy exodus bodes ill for the CCP regime
China’s forex deficit widens
June 18
The PRC State Administration of Foreign Exchange (SAFE) released China’s foreign exchange data for May and the first five months of the year (in U.S. dollars):
- In May 2024, Chinese banks settled $176 billion in foreign exchange and sold $191.9 billion, resulting in a deficit of $15.9 billion. In comparison, May 2023, May 2022, and May 2021 saw surpluses of $3.3 billion, $1.5 billion, and $22.8 billion respectively.
- From January to May 2024, Chinese banks cumulatively settled $891.9 billion in foreign exchange and sold $970.7 billion, leading to a deficit of $78.8 billion. In comparison, the January-May period in 2023 saw a deficit of $6.5 billion, and the same period in 2022 and 2021 recorded surpluses of $79.3 billion and $113.5 billion respectively.
China’s abnormal 2023 trade surplus
June 20
Bloomberg News reported that the U.S. Treasury noted in its semi-annual foreign exchange report that China’s trade surplus in 2023 was almost $230 billion bigger than the one claimed by SAFE. The Treasury report added that the average gap between the two datasets has been just $7 billion since 2000, and the difference between the two sets of numbers in 2023 was equivalent to more than 1 percent of China’s GDP.
The Treasury noted that SAFE attributed some of the differences in the datasets to increased use by multinational companies of a special type of free trade zone where manufacturing is outsourced to Chinese companies. However, the Treasury said that it is “not clear what trends would drive these differences to expand over the last three years” and asked China to provide further quantitative evidence for clarification.
Sonali Jain-Chandra, IMF mission chief for China, explained that the PRC’s numbers diverge because customs data is based on the physical movement of goods across borders while the SAFE numbers cover transactions between residents and non-residents when ownership changes hands. However, she did not explain why the gap in the PRC’s datasets suddenly began to widen after 2021.
The Treasury also noted that China reported a drop in investment income from overseas in both 2022 and 2023 even though there was a sharp rise in interest rates in most advanced economies during that period. Also, there was no apparent drop in the interest-bearing foreign assets held by Chinese residents. The Treasury said that had the effect of lowering China’s reported current account surplus.
Foreign investment in China continues to fall
June 21
The PRC commerce ministry released data showing that 21,764 new foreign-invested enterprises were established nationwide from January to May 2024, a year-on-year increase of 17.4 percent. Meanwhile, the actual use of foreign capital decreased by 28.2 percent from a year ago to 412.51 billion yuan.
The growth rate of foreign investment in China has continued to shrink since April 2023, with a year-on-year decrease of 8 percent for the entire year of 2023.
Capital continues to exit China
June 21
Reuters reported that a falling yuan and extensive outflows of cash from mainland China into Hong Kong show that China’s domestic investors are “shelving expectations for any immediate recovery in their home markets and fleeing to the closest better-yielding assets.”
Also, yuan deposits in Hong Kong are at record levels as mainland cash flows into the city, with the latest official data showing 1.09 trillion yuan in April, or close to a peak in January 2022.
Exodus of wealthy Chinese continues
June 18
Henley & Partners, a London-based investment migration consultancy noted in its private wealth migration report for 2024 that China is expected to see a record net outflow of 15,200 wealthy Chinese in 2024, compared to 13,800 in 2023. Popular destinations for wealthy Chinese emigrants include Singapore, the United States, and Canada, with Japan emerging as a new destination. Japan had approximately 822,000 Chinese residents at the end of 2023, an increase of 60,000 from the previous year and the largest increase in recent years.
The report also said that the main reasons why wealthy Chinese are choosing to leave the country include economic uncertainty in China, geopolitical tensions, and opportunities abroad.
Our take
1. Capital outflows and elite migration from China reflect pessimism among Chinese and international investors towards the PRC’s economic prospects and business environment.
Chinese and foreign investors and observers appear to be generally disillusioned with China’s post-COVID economic recovery, increased authoritarianism, and apparent aggressiveness displayed by the CCP under Xi Jinping, are wary about the impact of international sanctions should Beijing continue to support Moscow’s war effort in Ukraine, and are worried about China’s declining demographics over the long term (see point two). The concerns about the present state of the PRC have led both foreign investors and wealthy Chinese to exit the mainland, and have partly contributed to China’s foreign exchange deficit in May and the first five months of 2024, as well as 15 consecutive months of foreign investment contraction. Assuming current trends hold, China’s deficit in foreign exchange settlements and sales in 2024 could exceed $150 billion by conservative estimates.
Meanwhile, the U.S. Treasury’s observation of the discrepancy between the trade surplus figures reported by the PRC customs authorities and SAFE could, aside from the reasons stated in the Bloomberg report, reflect the reluctance of Chinese export and trade enterprises to convert the dollars they have earned into yuan or their tendency to keep foreign exchange overseas. It is also possible that some individuals could be transferring domestic capital outside China through false transactions.
2. We believe that the deterioration of Sino-U.S. relations and China’s demographic problems are impacting China’s economy with severe consequences, and are part of the reason why Chinese and foreign investors are losing confidence in China.
China’s declining and aging population has sapped the momentum from the country’s real estate market and large-scale government infrastructure investments. During periods of relatively higher population growth, local governments across China could easily attract investment and spur economic growth through extensive infrastructure projects such as the construction of highways and industrial parks. Yet population growth would prove to be unsustainable with successive CCP leaderships lacking the political will or strength to deviate from the “political correctness” of Deng Xiaoping’s “one-child policy.” Jiang Zemin was more focused on “making a fortune while keeping a low profile” (悶聲發大財) and expanding the persecution of Falun Gong during his tenure and well into the leadership of Hu Jintao. Hu was constrained by the Jiang-dominated “collective leadership” of the CCP and could barely advance his own agenda.
Xi Jinping addressed the “one-child policy” in 2016 after stamping his control over the military and taking on the mantle of Party “core” leader, and subsequently encouraged Chinese women to have more children after several rounds of power consolidation. But China’s demographic issues were already very severe, with net population growth having already fallen below 10 million in 2000. In 2023, China’s net population had shrunk by over 2 million, and United Nations experts believe that the country’s population could shrink by 109 million by 2050, or more than triple the estimate in 2019. The large amount of COVID or COVID-related deaths during the pandemic years means that China’s population woes could be worse than they seem. The Xi leadership has been adjusting to this new reality; the real estate model proposed by Beijing in late 2023 (“determine housing based on the people, determine land based on the housing, and determine investment based on the housing” [以人定房, 以房定地, 以房定錢]) accounts for the unsustainability of large-scale infrastructure investments without population growth.
Significant population decline in China has led to insufficient domestic demand and artificial “overcapacity.” China’s economic boom over the past two-plus decades was primarily driven by its entry into the World Trade Organization in 2001 and transformation into the world’s factory. China was heavily reliant on the U.S. market, with its market share rising from 8.2 percent in 2000 to 21.6 percent in 2017. In 2022, China’s manufacturing value added accounted for 31 percent of the global total, with manufacturing exports taking up 20 percent of the global share. However, China’s manufacturing “edge” of being generally exploitative of workers (so-called “low human rights advantage” [低人權優勢]) also suppressed domestic consumption even as Chinese enterprises became more competitive and attracted international capital with high returns. Insufficient demand in China created an artificial “excess capacity” issue, which Chinese companies sought to resolve through massive exports and dumping. China’s overcapacity problems have since dragged the PRC into unwanted trade disputes.
China’s economic growth and recovery are also being hampered by deteriorating Sino-U.S. relations. The relationship has largely soured over the PRC’s support of Russia’s war in Ukraine and growing recognition in the U.S. and internationally of the CCP’s ambition for global domination. Increasing American wariness towards China has seen the share of Chinese goods in U.S. imports fall from 21.6 percent in 2017 to 13.9 percent in 2023 and down to 12.9 percent in the first quarter of 2024. This decline is causing China to lose access to the U.S. market and erode previously substantial trade surpluses. For instance, Chinese goods accounted for 20 percent of U.S. imports between 2009 to 2018 and the surplus China gained from the U.S. made up 45 percent of the total U.S. trade deficit. In 2018, Chinese goods made up 19 percent of U.S. imports but accounted for 92 percent of China’s total surplus. With the worsening of Sino-U.S. relations, 41 percent of China’s surplus came from the U.S. in 2023, with China holding 26 percent of the total U.S. trade deficit. Should the trend persist and China’s share of the U.S. market drop below 8 percent, it would be catastrophic for China’s economy, manufacturing, employment, international relations, and the stability of the CCP regime.
3. We believe that the Xi leadership will find it exceedingly difficult to haul China out of its economic predicament regardless of the policies that are introduced at the Third Plenum of the 20th Central Committee in July given the systemic deficiencies of the CCP authoritarian dictatorship and Xi Jinping’s continuously power consolidation and strengthening of autocracy. China’s economic risks are increasingly likely to transform into political risks for Xi and the CCP.
