1 China’s January deflation data casts a pall on economic prospects
Deflation persists in China
Feb. 8
The PRC National Bureau of Statistics released data showing that the consumer price index (CPI) fell 0.8 percent in January from a year ago and increased 0.3 percent from the previous month. Meanwhile, the producer price index (PPI) fell 2.5 percent in January from the previous year and was down 0.2 percent from a month ago. The PPI was in its 16th consecutive month of negative growth and the CPI had seen negative growth for four straight months.
The CPI of fresh vegetables (down 12.7 percent), meat (down 11.6 percent), fresh fruits (down 9.1 percent), and eggs (down 6.4 percent) saw the largest year-on-year declines in January. Meanwhile, the CPI of vehicles fell by 5.6 percent while tourism was up 1.8 percent.
Also in January, ex-factory prices of major industries in the PPI fell by 16 percent from a year ago while the auto manufacturing industry experienced a decline of 1.5 percent.
The NBS explained that the fall in the CPI data in January 2024 was due to the high base effect of the Lunar New Year in 2023 being in January of that year.
Eswar Prasad, professor of trade policy and economics at Cornell University and a former head of the International Monetary Fund’s China division, told The Wall Street Journal that China’s latest CPI data and other weak economic signals “portend a treacherous period ahead for the Chinese economy.”
Prasad added, “China’s deflation could also impinge on the world economy if it means that China, rather than serving as an engine of global growth, counts on demand from the rest of the world to revive its economy.”
Global economic situation bodes ill for China
Feb. 7
Reuters reported that the United States could overtake China as Germany’s most important trade partner by 2025 if current trends continue.
Reuters calculated from preliminary data from Germany’s Federal Statistics Office that German exports and imports to China totaled around 253 billion euros in 2023. Meanwhile, U.S. trade with Germany came in at 252.3 billion euros.
Reuters noted that German deliveries to China declined by nearly 9 percent to roughly 97 billion euros, with cars and chemical products particularly down. German imports fell by almost a fifth to just under 156 billion euros.
Volker Treier, head of foreign trade at the German Chamber of Industry and Commerce, told Reuters, “At the moment there are no signs of a significant increase in demand for products made in Germany from China.”
Treier added, “The economy in the U.S. is currently doing significantly better than in many other important sales markets for the German economy, such as the countries in the EU. Ultimately, German exports also benefit from the strength and attractiveness of the U.S. economy.”
Feb. 12
Stock market index compiler MSCI would remove 66 companies in various sectors, including property, pharmaceuticals, and aviation, from its MSCI China Index after Feb. 29. This was the most number of companies it had removed from the index in two years.
MSCI also added five companies to the index, including biotech companies Giant Biogene and MGI Tech, electrical-appliance maker Midea Group, China Merchants Expressway Network & Technology, and Ningbo Sanxing Medical Electric.
Feb. 13
U.S. data for January showed that the CPI rose 3.1 percent year-on-year and 0.3 percent month-on-month or hotter than observers anticipated. Core CPI also rose 3.9 percent from a year ago and 0.4 percent from the previous month, the largest increase in eight months.
The “hot” inflation data led traders to push back bets on the first Federal Reserve interest rate cut from March to July 2024.
Feb. 14
Reuters reported that overall German foreign direct investment in China fell to 116 billion euros in 2023 from around 170 billion euros in 2022, citing a report from the German IW institute.
The report also noted that German direct investment in China grew by 4.3 percent last year to a record 11.9 billion euros. Investment in China as a share of Germany’s overall investments abroad was up in 2023 to 10.3 percent while German direct investments elsewhere in Asia were stagnant at around 8 percent.
The report further noted that German companies invested as much in China in the past three years as the previous six years. But German investments in China in the last four years were financed entirely by reinvested profit and companies have also withdrawn capital.
Feb. 15
1. The United Kingdom slipped into a technical recession at the end of 2023, with the GDP falling 0.3 percent in the final three months of 2023 after a 0.1 percent decline in the third quarter.
2. The European Commission noted in its winter 2024 economic forecast that growth is expected to reach 0.9 percent in the EU from 1.3 percent and 0.8 percent in the euro area from 1.2 percent.
3. Japan slipped into a recession at the end of 2023, with the GDP falling an annualized 0.4 percent in the October-December period following a 3.3 percent slump in the previous quarter.
Japan’s nominal GDP of $4.21 trillion in 2023 was also below Germany’s $4.46 trillion, which meant that Japan dropped from being the third largest economy to the fourth.
4. U.S. retail sales fell by 0.8 percent in January 2024 for the largest decline since March 2023. Import prices also jumped 0.8 percent for the largest increase since March 2022.
Our take
1. China’s latest data reveals a trend of continuous deflation and bodes ill for the PRC’s economic prospects this year. The consecutive months of CPI and PPI contraction points toward weak domestic and external demand, and an extended contraction of China’s manufacturing sector.
Deflationary pressures in China will worsen the “balance sheet recession” and keep up real interest rates, which in turn makes residents and businesses less willing to consume and invest. We previously analyzed residential and business time deposits between 2016 to 2023 and concluded both are “unwilling to spend and invest, and prefer instead to save their money or make low-risk investments.” This trend has persisted into 2024, with a recent People’s Bank of China report showing that the deposits of non-financial enterprises had increased by 1.14 trillion yuan in January, compared with a decrease of 715.5 billion yuan over the same period last year (at the time, businesses were optimistic that the Chinese economy would recover swiftly after “zero-COVID” was lifted).
Deflationary pressures in China could also worsen the PRC’s relations with other countries. Chinese companies could be pushed by deflation to drastically lower prices as they seek to export their way out of trouble. The dumping of Chinese goods abroad, however, could incur more probes and sanctions by other countries and raise trade tensions. In November 2023, The Wall Street Journal reported that Europe, the U.S., India, Vietnam, and others are investigating China’s dumping of goods.
We believe that the CCP authorities have no good options for rescuing the economy and will have reduced capacity to do so going forward as contracting economic activity cuts into government fiscal revenue and further constraints governing ability and resources. The CCP can technically “postpone” the explosion of the local government debt crisis and its fiscal problems by continuously issuing bonds and hoping that the massive debts will wither down over an extended period of time. But time is something that the CCP authorities may not have with a looming demographic crisis and as international pressure against the PRC strengthens over fears of regime aggression.
2. Countries falling into technical recession and reduced Chinese trade with countries like Germany portends a growing decline in international demand for Chinese products and the worsening of China’s economic situation.
Meanwhile, the inflation situation in the U.S. and the likelihood of the Fed delaying rate cuts means that the interest rate differential between China and the U.S. favors capital outflows from China, increases depreciationary pressures on the renminbi, and makes it difficult for Beijing to lower interest rates to stimulate the economy.
3. The CCP authorities are likely to intensify social controls and tighten financial restrictions to deal with China’s worsening economic crisis. Beijing’s iron fist, however, will do more to undermine investor confidence and lead to a further loss of economic vitality. For example, a Chinese fund manager noted in a viral post on Feb. 7 that the CCP’s abrupt restriction of Direct Market Access products after the stock market plunge in January led to declines in the value of various DMA products by as much as over 40 to 50 percent.
At the World Governments Summit in Dubai, Standard Chartered CEO Bill Winters said, “China’s biggest problem to me is a lack of confidence. External investors lack confidence in China and domestic savers lack confidence.” Winters added that China is undergoing a major economic transition and will “get through the back end just fine.” However, we are much less optimistic that the CCP authorities will be able to rescue China from its current economic malaise and manage any economic transition as long as the Xi leadership clings to Marxism-Leninism and insists on sticking to the Party’s brutal and inefficient methods of navigating crises.
2 Beijing’s geopolitical complications persist in the new year
Taiwan, PLA’s war readiness in focus
Jan. 22
A survey of 52 U.S. and 35 Taiwan experts by the Center for Strategic and International Studies and Taiwan’s Institute for National Defense and Security Research on China’s approach to Taiwan found that:
- 26 percent of U.S. experts and 17 percent of Taiwan experts believe that China has the military capability to effectively execute an amphibious invasion of Taiwan within the next five years.
- 90 percent of U.S. experts and 62 percent of Taiwan experts believe that China could carry out a quarantine, or a limited blockade of Taiwan targeting commercial activity carried out by coast guard and other law enforcement vessels.
- 80 percent of U.S. experts and 60 percent of Taiwan experts believe that China could implement a blockade involving both military and commercial activity conducted by the PLA.
Jan. 30
In an article for Foreign Affairs magazine, CIA director William Burns wrote that “China remains the only U.S. rival with both the intent to reshape the international order and the economic, diplomatic, military, and technological power to do so.”
Burns added that Xi Jinping is using his power to “rewrite” the international system. “In the intelligence profession, we study carefully what leaders say. But we pay even more attention to what they do. Xi’s growing repression at home and his aggressiveness abroad, from his ‘no limits’ partnership with Putin to his threats to peace and stability in the Taiwan Strait, are impossible to ignore,” Burns wrote.
Feb. 4
1. In an article for Foreign Policy magazine titled, “How Primed for War Is China,” Tufts University political science professor Michael Beckley and Johns Hopkins School of Advanced International Studies global affairs professor Hal Brands argue that four factors, namely, insecure borders, a competitive military balance, negative expectations, and dictatorship, “help explain China’s historical use of force, and they have ominous implications today.”
Beckley and Brands add, “China may ultimately attack Taiwan—or India, Japan, the Philippines, or another country—in 2025, 2027, 2029, or never. We can’t predict with any certainty when, or even whether, Beijing will use force because that decision will hinge on many contingent factors.” But “today, much of what historians and political scientists know about the causes of war suggests China is primed for violence.”
2. The New York Times ran an article about the PLA’s nuclear capabilities and how Xi Jinping thinks about using nuclear force.
Feb. 10
The Chinese edition of Voice of America ran an interview with Miles Yu, the director of the China Center at Hudson Institute and a former Trump administration official.
Yu said that the PRC will not find it easy to invade Taiwan because amphibious operations are involved and “the CCP needs significant advancements in both technological and military skills in this regard, which it currently lacks.”
Yu added, “The main reason Xi Jinping cannot take such actions (attack Taiwan), in my opinion, is that he lacks the opportunity. This opportunity is not something that he can create on his own, and opportunity can be denied by the international community and the free world led by the United States.”
Yu also noted that while Xi may have great ambitions for aggression, “he will not have the guts to take big risks” after considering the possibility of U.S. military intervention.
Feb. 13
1. The Wall Street Journal ran an article titled, “China’s Shipyards Are Ready for a Protracted War. America’s Aren’t.” The article argued that shipbuilding is a “pivotal strategic asset for Beijing as Chinese leader Xi Jinping tries to reshape the world order in peacetime and prepares to prevail over his nation’s rivals during war.”
2. Ely Ratner, the U.S. Assistant Secretary of Defense for Indo-Pacific Security Affairs, told “War on the Rocks” podcast host Ryan Evans that Beijing’s recent purge of the military “should give China’s leadership pause about how deep and how systemic that corruption runs, and to what degree this very advanced military is going to work when they need, and frankly are they ready?”
Ratner said that the appointments and responsibilities of the officials that were purged “focused not only on this traditional question of graft but also the material effect on their modernization program.” He added, “So the corruption is revealing itself not only because some general has a really fat bank account in Switzerland, but rather because a specific capability isn’t really working. And the money that has been siphoned off has resulted in detrimental effects to their capabilities.”
Ratner added, “So I think this question of corruption is significant not only because it shows some sort of systemic rot, but also because it does factor into PLA and PRC leadership calculations about the actual capabilities of the PLA.”
Feb. 16
In an article in Foreign Affairs, Naval War College professor Andrew S. Erickson, Rice University fellow Gabriel B. Collins, and former U.S. Deputy National Security Advisor Matt Pottinger laid out arguments for why the U.S. and the world need to defend Taiwan against PRC aggression.
Cross-strait and regional maneuvers
Feb. 10
Taiwan’s defense ministry said it detected eight PRC balloons crossing the Taiwan Strait in the previous 24 hours, of which two flew over Taiwan.
Feb. 11
Taiwan’s defense ministry said it detected another eight PRC balloons crossing the Taiwan Strait in the previous 24 hours, of which five flew across the island.
Feb. 14
1. Taiwan’s defense ministry said it detected 14 PLA aircraft carrying out “joint combat readiness patrols” with PLA warships around the island. Nine of those aircraft, which include J-16 fighters and drones, crossed the median line in the Taiwan Strait.
2. The South China Morning Post reported that the U.S. is likely to deploy about half of its aircraft carriers in the western Pacific in a sign of deterrence against the PRC and North Korea.
PRC won’t fall into Taiwan ‘trap’?
Jan. 25
Former PRC ambassador to the U.S. Cui Tiankai told a panel discussion as part of an Asia Society Policy Institute event in Washington that “someone may be preparing for us that they will supply military assistance, they will supply weapons for proxy war, and Chinese will be killing Chinese. We will not fall into that trap.”
Cui also noted that the recent Taiwan election was a “local election in China” and the PRC will “achieve reunification one way or another” but in a manner that “best serves the national interests of the entire Chinese nation.”
FBI warns of China threat to US infrastructure
Feb. 15
In a speech at the Munich Security Conference, Federal Bureau of Investigation director Christopher Wray said that the cyber threat posed by CCP authorities is “massive” and “the Chinese government … has continued to attack the economic security, national security, and sovereignty of rule-of-law nations worldwide.”
Wray also said cyberattacks by China-sponsored hackers have reached a “fever pitch.” He added, “What we’re seeing now, is China’s increasing buildout of offensive weapons within our critical infrastructure, poised to attack whenever Beijing decides the time is right.”
PRC and Russia maintain friendliness
Jan. 31
The PRC defense ministry said in a statement that new defense minister Dong Jun held a video conference with his Russian counterpart Sergei Shoigu where they “exchanged views on international and regional issues of common interest.”
Dong told Shoigu that the PRC and Russian militaries should increase mutual trust and expand cooperation to “elevate the relations between the two militaries to a higher level,” and the militaries should “play a greater role in deepening China-Russia comprehensive strategic cooperation and maintaining global security and stability.”
Feb. 8
Official PRC media reported that Xi Jinping and Vladimir Putin exchanged Lunar New Year greetings in a telephone call. Xi said that both sides should “strengthen strategic coordination, safeguard the national sovereignty, security and development interests of their respective countries, and resolutely oppose external interference in their internal affairs.”
Feb. 10
Zhang Hanhui, the PRC ambassador to Russia, told Sputnik News that Putin will visit China in 2024 and that the leaders of both countries are expected to hold several meetings during the year.
Trump’s tariff threat
Jan. 27
The Washington Post reported that former president Donald Trump has discussed with advisers the possibility of levying a flat 60 percent tariffs on all Chinese imports, citing three people familiar with the matter.
Feb. 3
When asked about The Washington Post report on Fox News, Trump said, “no, I would say maybe it’s going to be more than that” with regard to the 60 percent tariffs.
Our take
1. The lack of serious PLA provocations after the Taiwan elections in January and Cui Tiankai’s remarks at the Asia Society event on Jan. 25 suggest that Beijing is currently sticking to non-kinetic means over aggression to achieve the CCP’s long-stated goal of “reunification” with Taiwan. U.S. and Taiwan experts also do not think that there is a strong possibility of a PLA invasion in the next five years because the CCP is not ready for it.
The international community’s increasing attention on Taiwan matters is likely to bolster deterrence and give the CCP extra pause about conducting any acts of aggression toward Taiwan. For instance, constant and increased reporting of the CCP’s military and subversive activities with regard to Taiwan in Western media, as well as Western think-tank reports on the Taiwan issue, have undoubtedly raised global awareness about the dangers of the CCP threat and have forced PRC diplomats to deny that it wants a scenario where “Chinese will be killing Chinese.”
Increasing international scrutiny of the PRC’s military capabilities and the growing military presence of the U.S. and its allies in the Indo-Pacific will also force Beijing into reducing or at least quieting down its military and paramilitary activities (but not grayzone and non-military subversive activities) in the region.
Finally, the CCP regime will be disincentivized from aggression as long as it remains eager to court foreign investments to prop up the rapidly deteriorating Chinese economy and rescue the stock markets. As the markets and economy decline further with no signs of bottoming out, Beijing will be hesitant to invade Taiwan or carry out other serious acts of aggression in the region lest it compounds domestic crises and accelerates regime collapse.
2. The “new cold war” between the U.S. and the PRC is unlikely to improve despite the current lull in tensions after the Biden-Xi summit in November 2023.
For one, Beijing is still on friendly terms with Moscow, and Putin and Russia remain in pariah status after the invasion of Ukraine in 2022. As long as Beijing refuses to join the U.S. and its allies in supporting Ukraine while condemning Russia and Putin, the PRC and Xi Jinping will not be able to shake off their own quasi-pariah status. The international community will also be constantly concerned about the prospect of a PLA invasion of Taiwan regardless of Beijing’s assurances as long as there is no end to the PRC-Russia “no limits” friendship and the CCP does not renounce its goal of “reunifying” the mainland and Taiwan.
There is also a consensus on the PRC threat in the United States. CIA director William Burns’ article in Foreign Affairs, FBI director Christopher Wray’s warning about PRC cyberattacks, and former president Donald Trump’s plans to hike China tariffs indicate that bilateral tensions are more likely to worsen than improve regardless of the outcome of the 2024 U.S. presidential election.
The PRC’s geopolitical problems are bad news for its economic woes and will contribute to the Xi leadership’s inability to turn around the economy. Growing geopolitical pressures on the PRC and Xi could also transform into political problems for Xi as his lingering factional rivals search for opportunities to undermine him.
