Chinese Chip Gear Leader Achieves Key Breakthrough; China’s debt isn’t the problem

China Pulls Punches to Keep Pricey Electric Cars Flowing to EU; In Bitter Cold, Rescuers Struggle to Help Quake Survivors in China

Welcome to this issue of The China Brief. Today is December 20, 2023. Here at The China Brief, we bring you the latest news on China's politics, economy, and society from global media sources, along with exclusive expert analysis. If you find our content helpful, please subscribe to our newsletter.

Exclusive Insight: Reflections on the Causes and Strategies to Address the Current U.S. Inflation

Yang Tian

Historically, inflation in different countries has stemmed from disruptions in production systems leading to supply shortages or the reevaluation of commodity values due to excessive currency issuance. In the current U.S. inflation scenario, both factors seem to be at play, reminiscent of situations like post-World War I Germany and the later stages of the Chinese Civil War after the resistance against Japanese aggression. This dual occurrence can lead to a vicious acceleration of inflation, causing significant psychological shock and fear among the public.

In contrast to recent history where the U.S. was spared the ravages of wars on its soil, the most prominent historical shadow over America is the deflationary period of the 1920s rather than the inflationary episode of the 1970s. The Federal Reserve, the White House, Congress, and economists have consistently prioritized conservative monetary policies, emphasizing control over inflation.

Upon examining the 1970s inflation, various explanations surface, ranging from labor union-driven labor cost increases to conspiracy theories blaming the abandonment of the gold standard. The prevailing view, attributing the resolution of inflation primarily to the stern approach of Federal Reserve Chairman Volcker, is challenged by the author. Instead, they argue that a lack of fundamental understanding regarding the root causes of 1970s inflation exists, and crediting Volcker's policies oversimplifies the situation, constituting a fundamental flaw in the current U.S. approach to combating inflation.

The 1970s inflation was primarily fueled by bottlenecks in increasing productivity, coupled with an energy price surge from the Middle East oil crisis. Similarities between that era and the present include geopolitical conflicts (e.g., Afghanistan, Iraq, and Russia-Ukraine), rising raw material costs due to sanctions, and supply chain uncertainties stemming from the COVID-19 pandemic and trade wars. The author contends that the U.S. response to inflation mirrors the misguided policies of the past, particularly the reliance on interest rate hikes.

Combating inflation with high-interest rates is inappropriate, but the limited tools in the Federal Reserve and White House toolbox necessitate its use. The consequences of such a strategy, however, may lead to a recession, contradicting the original intent of economic regulation to promote development. The irony lies in Volcker's policies, intended to curb inflation, resulting in significant sacrifices, notably the presidency of Jimmy Carter.

The paradox lies in how Volcker's economic downturn laid the groundwork for subsequent economic upswings, contributing to the success of President Reagan. The current predicament, coupled with the unstoppable force of globalization despite trade wars, sets the stage for another economic transformation. Yet, the author questions whether Volcker's high-interest strategy was the sole architect of the subsequent years of U.S. economic success.

Predicting the future is inherently challenging, especially in economics. The current inflation, fueled by risk aversion leading to inefficient supply chain reactions, loose monetary policies during the pandemic, and rising commodity costs, is anticipated to subside. Considering the upcoming U.S. elections, a shift towards anti-inflation policies is expected, alleviating discontent with the government and economic conditions. However, structural issues persist, and without targeted adjustments, the U.S. may face a prolonged period of low growth and moderate inflation, presenting a formidable challenge for any incoming president and diminishing the nation's innovative potential.

Chinese Chip Gear Leader Achieves Key Breakthrough, Backer Says

Bloomberg

Shanghai Micro Electronics Equipment Group (SMEE), a Chinese chipmaking equipment manufacturer, has reportedly achieved a technological breakthrough in chipmaking gear. The company has developed a lithography machine that can be used to make 28-nanometer chips, according to its major state-backed shareholder, Zhangjiang Group. SMEE is seen as China's best hope to contend with ASML Holding, the Dutch company that has a monopoly on the cutting-edge extreme ultraviolet lithography systems required to make advanced semiconductors. The US Department of Commerce blacklisted SMEE last year as part of efforts to thwart China's attempt to build a world-class chip industry.

China’s debt isn’t the problem

Financial Times

China's debt problem is more than just a question of managing liabilities, writes Michael Pettis, a senior fellow at the Carnegie Endowment. The real issue is the asset side of the balance sheet, where investment has been misallocated into excess property, infrastructure and manufacturing, leading to accumulated, unrecognised losses. In an economy with hard-budget constraints, this problem would be self-correcting. However, in sectors such as state-owned enterprises, local governments and highly subsidised manufacturers, state-sponsored access to credit allows non-productive investment to be sustained. As a result, earnings and the recorded value of assets both substantially exceed their real values. Once these entities are no longer able or willing to roll over and expand their debt, the asset side of the balance sheet will be unable to generate enough value to service the liability side. Pettis argues that the real problem China faces is recognising that the real value of the assets on its balance sheets are less than their recorded value.

The End of the Debt Bubble Has Put the Chinese Dream On Hold

Bloomberg

China's property sector is facing a major crisis as the government cracks down on property speculation and aims to create a more resilient housing market. The debt squeeze has led to several dozen developers defaulting on their debt, leaving projects unfinished and triggering boycotts on mortgage payments. As a result, around 5 million workers could face unemployment or lower incomes by 2026 if the housing sector continues to shrink. The debt squeeze also marks the end of a boom for investors and bankers, who enjoyed juicy yields from the sector. However, Beijing wants to end speculation and create a more sustainable model focused on boosting domestic consumer demand and new technologies. The campaign to clean up real estate risk has shattered confidence, leaving people feeling poorer and undermining efforts to get consumers to spend and invest in new businesses. The crisis will also leave scars on the nation's housing stock, with unfinished buildings left empty and builders scrambling to finish projects with shoddy work before running out of money. Despite signs of a return to growth, the property market is only about halfway through the correction it needs.

Japan secretly asked China to drop Diaoyus claim before 1992 royal visit

South China Morning Post

Japanese diplomatic documents declassified on Wednesday reveal that Tokyo secretly asked Beijing not to make territorial claims to the Japan-controlled Diaoyu Islands in the East China Sea in 1992, to avoid friction ahead of the Japanese emperor’s visit to China. Then Japanese ambassador to China Hiroshi Hashimoto asked influential Chinese officials to refrain from publicly speaking about the issue of the uninhabited islets and historical disputes, in line with a secret order from then prime minister Kiichi Miyazawa.

Brazil Pulls Ahead of US as Biggest Supplier of Corn to China

Bloomberg

Brazil has become the leading shipper of corn to China, surpassing the US, just a year after China allowed imports from the South American country. In the 11 months through November, Brazil shipped 8.79 million tonnes of corn to China, accounting for 40% of the overall total. US shipments amounted to 6.50 million tonnes, down over 50% from the previous year. China has sought to diversify its suppliers as corn purchases have increased, coinciding with a record crop in Brazil. However, lower corn prices and logistical issues could push traders back to US supplies.

ByteDance’s Sales Break $110 Billion to Pass Tencent This Year

Bloomberg

ByteDance, the parent company of TikTok, is projected to have sales of over $110 billion in 2023, surpassing rival Tencent. Despite economic challenges in China and increased scrutiny in key markets, ByteDance's sales growth is expected to match the 30% pace it achieved in 2022. The company has leveraged the popularity of TikTok and Douyin to expand into e-commerce and other areas, and its growth is outpacing more established social media rivals. ByteDance's profitability for 2023 is unclear, but its scale suggests it has become one of China's largest corporations by revenue.

In Bitter Cold, Rescuers Struggle to Help Quake Survivors in China

NY Times

China is grappling with the aftermath of a 5.9 magnitude earthquake that struck near the city of Dingxi in Gansu province, killing at least 94 people and injuring over 1,000. The tremor struck at 7.45am local time on Monday at a depth of 20km. The quake toppled buildings, triggered mudslides and cut off phone lines.  The army has been mobilised to help with the relief effort and over 2,000 firefighters have been sent to the region.  The quake is reported to have caused widespread damage; Gansu province is one of China's poorest areas and is prone to earthquakes.

Taiwan to 'handle' Chinese balloons based on threat level

Japan Times

Taiwan's defense ministry has said that it will "handle" Chinese balloons flying nearby based on threat assessments, although officials believe the current wave is for weather purposes. Taiwan is on high alert for Chinese activities, both military and political, ahead of presidential and parliamentary elections in January. Taipei has warned that Beijing may try to interfere to get voters to pick candidates China may prefer. The potential for China to use balloons for spying became a global issue in February when the US shot down what it said was a Chinese surveillance balloon.

Alibaba makes leadership changes after bruising by rival’s success

CNN

Alibaba CEO Eddie Wu will now also head the firm's e-commerce business, replacing Trudy Dai, according to an internal letter from Joe Tsai, chairman of Alibaba Group. Dai will be setting up an asset management company for the group. The reshuffle comes after rival Pinduoduo's stock skyrocketed 77% so far this year, allowing it to surpass Alibaba's market capitalisation last month. Shares in Alibaba were up over 3% in Hong Kong on Wednesday.

Xi Lauds Trade Boom With Russia, Vows to ‘Amplify’ Cooperation

Bloomberg

Chinese President Xi Jinping and Russian Prime Minister Mikhail Mishustin have pledged to strengthen ties between their countries. Xi highlighted the "robust resilience" of their cooperation, with bilateral trade reaching its annual goal of $200 billion last month. China's continued support of Russia despite Western pressure has been a point of contention. However, trade between the two nations has surged since Western sanctions were imposed on Russia. The two countries are also increasingly using their own currencies for trade transactions, with more than 90% of trade happening in yuan or ruble. Both nations agreed to expand agricultural cooperation and safeguard energy security.

Chinese activist tried for 'inciting subversion'

BBC

Chinese activist Li Qiaochu has been tried for "inciting subversion of state power" in a case seen as part of China's crackdown on dissent. The 32-year-old faces a possible jail term of five years or more. She has been in custody since March 2021, after tweeting about the harsh detention conditions of her partner and fellow activist Xu Zhiyong. Her trial concluded without a verdict. Li's lawyer said she last met her at a pre-trial conference on 19 June, where she maintained a "firm" stance on not pleading guilty.

Chinese Insurers Said to Give Vanke Room on Private Debt Payment

Bloomberg

Two state-backed Chinese insurers have agreed to give China Vanke some breathing room on its private debt, following talks with the National Administration of Financial Regulation earlier this month. The move demonstrates the intensifying support from policymakers for the developer, which is considered one of the best managed in China. The insurers have given up their right for early repayment on non-standard debt, although it is unclear how much Vanke owes them. As of June 2023, the company had CNY321bn ($45bn) in interest-bearing debt.

Luxury Hong Kong flat seized from Macau ‘junket king’s’ ex-lover goes on sale

South China Morning Post

A luxury flat in Mid-Levels, Hong Kong, that was seized from the former lover of Macau's "junket king" Alvin Chau Cheok-wa has been put up for sale at a significant discount. The asking price of HK$90m ($11.5m) for the 2,123 sq ft flat is a third lower than its peak price, as creditors seek to recover their dues. Casino operator Melco Resorts had previously sued Mandy Lieu for possession of the flat, which she had mortgaged to the company to bail Chau out of his financial problems. Property agents are now seeking to attract buyers for the unit.

China's surging steel exports risk new round of trade frictions

Nikkei Asia

China's steel exports are rising to disruptive levels, causing trade frictions in international markets. China is set to export around 90 million tonnes of steel in 2023, nearing the record 110 million tonnes exported in 2015, a year that saw an increase in anti-dumping measures. Southeast Asia is a major market for Chinese steel, with exports to Thailand, Malaysia, Indonesia, and Vietnam all rising significantly. This has led to these countries considering measures to protect their domestic steel industries. Chinese steel output is slowing due to decreased internal demand, particularly from the cooling real estate market. As a result, China's surplus steel is being diverted to the international market, aided by the weak yuan. The flood of Chinese steel exports has led to sharp price falls in Asia and is putting pressure on steelmakers in advanced countries such as Japan. China is also increasing exports of high-value-added steel products, further impacting steelmakers in other countries. The rise in Chinese steel exports is reigniting concerns about China's overcapacity, cross-border investments in Southeast Asia, and global decarbonization efforts.

China leaves lending benchmark rates unchanged, as expected

Nikkei Asia

China has kept its benchmark lending rates unchanged at its monthly fixing, in line with market expectations. The one-year loan prime rate (LPR) was kept at 3.45% and the five-year LPR was kept at 4.20%. Most new and outstanding loans in China are based on the one-year LPR. However, market watchers still expect further monetary easing from Beijing in the new year to support the country's economic recovery.

The Li clan will deal their way out of value trap

Reuters BreakingViews

CK Hutchison, the Hong Kong-based conglomerate founded by Li Ka-shing, could explore a sale or breakup as it trades at a significant discount to its net assets. Despite efforts by Li's son Victor to boost value, the company's market capitalisation of $20bn is now a 70% discount to its book value, according to LSEG estimates. With 80% of revenue outside Greater China, it may make sense for CK Hutchison to shift its primary listing to another exchange or for the Li family to take the company private with the help of a private equity group.

Taiwan’s ability to defend against Chinese invasion questioned

Japan Times

Former U.S. National Security Advisor Robert O'Brien's suggestion that Taiwanese citizens should be armed with AK47s to deter a Chinese invasion has received criticism in Taiwan. An op-ed in the Taipei Times argued that arming citizens is not the answer, especially in a territory with low crime rates. Former President Ma Ying-jeou condemned the proposal, calling it a "weaponization" of Taiwan and a tendency to turn Taiwan into a second Ukraine.

Alibaba names new Taobao and Tmall CEO in major move to fend off rivals

South China Morning Post

Alibaba's restructuring has led to a number of high-level changes at the company. Eddie Wu Yongming, chairman of Alibaba’s Taobao and Tmall Group (TTG), will become the chief executive of the combined e-commerce group from Wednesday. Trudy Dai Shan, who was appointed CEO of Taobao and Tmall in March, will step aside to assist in setting up an asset management company for Alibaba. This reshuffle marks the start of a revamp of Taobao and Tmall that aims to direct the two e-commerce platforms to focus more on consumer services and experiences.

Developer China South City Awaits Creditor Vote on Bond Relief

Bloomberg

China South City Holdings is awaiting the result of a creditor vote that will determine whether it can extend bond interest payment deadlines or become the latest defaulter in China's troubled property industry. The developer has said it does not have enough resources to pay the interest on its 9% notes due in July 2024, and needs at least 75% of votes to extend the maturity and lower the interest rates. The outcome will test investors' faith in state-backed developers, and comes after Chinese authorities vowed to support distressed developers and curb defaults.

Ten­ta­tive truce shows ex­tent and lim­it of Chi­na’s in­flu­ence in Myan­mar

Al Jazeera

China has emerged as the leading foreign power shaping outcomes in Myanmar's political crisis, as Beijing seeks to exert its influence over the armed groups challenging the military junta. The Chinese government last week pushed three ethnic armies to agree to a truce after they pushed the military out of the north in Operation 1027. Myanmar's coup leaders, known as the State Administration Council (SAC), have moved closer to Beijing since the coup in February, while the generals have deepened ties with Russia. The ceasefire came after Beijing issued arrest warrants for 10 partners and cronies of Myanmar's military, including a key ally of coup leader Min Aung Hlaing. The generals have moved closer to Beijing as Myanmar becomes increasingly isolated by international sanctions and exclusion from its traditional partners in Southeast Asia. The coup also coincided with a surge in drug and human trafficking in lawless border areas. The truce came after the ethnic armies worked with resistance forces across Myanmar to achieve the greatest challenge to military rule since the coup.

Forsaken China Stocks Get a New Look by Top Emerging Market Fund

Bloomberg

The Pzena Emerging Markets Value Fund has increased its holdings in Chinese stocks, despite the ongoing sell-off in the market. The fund boosted its weighting of China and Hong Kong stocks to around 33% of its portfolio in the third quarter, up from 29% in MSCI Inc.’s gauge of emerging markets. The fund managers believe that the indiscriminate selling of Chinese stocks has created a value opportunity, and they have been buying companies that they believe are cheap relative to their earnings power. The MSCI China Index is down more than 14% this year, and is trading at 10.2 times its 12-month forward earnings. Pzena added China Merchants Bank and WH Group to its portfolio in the third quarter. The fund has outperformed 97% of its peers over the last three years.

China Pulls Punches to Keep Pricey Electric Cars Flowing to EU

Bloomberg

Chinese carmakers, including BYD and SAIC Motor, are shipping an increasing number of electric vehicles (EVs) to Europe as they face an oversupply in their domestic market. Chinese EVs sold in Europe, such as BYD's Dolphin compact crossover and SAIC-owned MG Motor's MG 4, are priced roughly double compared to those sold in China. This discrepancy is due to factors such as low labour costs and generous subsidies in China, as well as additional costs incurred when exporting vehicles, such as tariffs and shipping expenses. The move to export EVs to Europe is an attempt to offset the slowing demand and rising competition in the Chinese market. However, the threat of tariffs being imposed on Chinese EV imports by the European Union (EU) remains a worry for Chinese carmakers. The EU launched an investigation into Chinese support for EVs in October, and any tariffs would impact both Chinese and Western carmakers. The EU's investigation is part of a broader effort by Western nations, including the US, to protect their EV industries from Chinese competition.

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