China's Property Woes Worsen While Trump Tightens Trade Screws

The headwinds from Trump's trade war are making things even tougher for China, amplifying the effects of its pre-existing conditions. These include the property crisis, high youth unemployment, local governments struggling under the weight of crushing debt burdens and demographic decline.

In China, the real estate sector plays a pivotal role in shaping domestic sentiment due to significant household exposure to this asset class, notes Carlos Casanova, an economist at Union Bancaire Privée.

The sharp decline in real estate activity from May to July, he notes, may have dampened consumer confidence, potentially weighing on retail sales and other sectors.

In July, China's official gauge for manufacturing activity saw a worse-than-expected contraction amid slower domestic growth and increased uncertainty over US trade tensions. The Manufacturing Purchasing Managers' Index came in at 49.3 in July, below the 50 mark signaling expansion.

Poor weather may have been a partial factor, some economists argue. But there's little doubt Beijing's“anti-involution” efforts to battle cut-throat price competition and address overcapacity are hurting the economy.

“The manufacturing PMI featured lower output, lower inventory but higher price sub-indices, whereas the construction PMI fell notably on high temperatures and heavy rainfalls,” Goldman Sachs analysts write in a note.

Chi Lo, senior market strategist at BNP Paribas Asset Management, notes that supply-side reforms alongside demand-side stimulus can pull the economy out of deflation.

“Creative destruction,” he says,“is inherently contractionary because the old sectors decline more quickly than new ones are created and develop.”

Lo argues that the“anti-involution campaign focuses on measures and regulations to cut production capacity and curb disorderly pricing schemes. These policies could be self-defeating, hurting employment and the economy in general, and overwhelming any positive impact on pricing power and profitability.”

And with China's“economy stuck in a liquidity trap, fiscal policy must do the heavy lifting and revive public confidence and demand,” Lo says.“Monetary easing is a facilitating tool. The recent recovery of the credit impulse marks a start on the road to recovery.”

But a shift toward a more vibrant domestic demand-led economic model continues to be slow-going.

The need for a recalibration from over-investment to consumption was well known even before Xi rose to power in 2012 and 2013. So is the need to create broader safety nets across sectors. A robust network of safety nets is becoming more important as the property crisis drags on.

Why would the average mainland household have the confidence to consume or invest after losing their shirts in the property market, and with no recovery in sight?

Building a bigger network of stable and trusted safety nets would pay the biggest dividends . As Boston University economist Laurence Kotlikoff argues, the key is crafting a“modern version of Social Security” that's“fully-funded, transparent, efficient, fair, and progressive” and“features personal accounts that are collectively invested by the government at zero cost to workers.”

The goal, Kotlikoff says, is to devise a social safety net that's not“incomprehensible, inefficient, inequitable, and, most important, insolvent.”

Economists at the International Monetary Fund argue that the“prioritization of the spending of households over investment would also deliver larger stabilization benefits . For example, means-tested transfers to households would boost aggregate demand 50% more than an equivalent amount of public investment. To ensure consistency across policies, fiscal policy should be undertaken within a medium-term fiscal framework.”

Failure could mean that China won't escape the dreaded middle-income trap after all. In China's case, it could be more of an upper-middle-income funk, but still a painful one.

Yet as New York University economist Nouriel Roubini points out, if a shock like Trump ratcheting up tariffs against China happened,“China will indeed find itself in the middle-income trap.”

China's problems, Roubini argues,“are structural, rather than cyclical. Among other factors, its slowdown is due to rapid aging, a busted real-estate bubble, a massive overhang of private and public debt (now close to 300% of GDP ), and a shift from market-oriented reforms back toward state capitalism.”

In general, Roubini says, credit-fueled investment has grown excessive as state-owned banks lend to state-owned enterprises and local governments.

At the same time, Xi's government has spent too much time over the last five years“bashing the tech sector and other private enterprises, eroding business confidence and private investment. In this new period of deglobalization and protectionism, China appears to have hit the limits to export-led growth.”

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That's particularly so as Trump's tariffs continue to do economic damage everywhere and sow distrust in Beijing and beyond. Take the White House's latest chips gambit , which puts Nvidia, the globe's most valuable company, in the role of pawn as Trump and Xi jockey for advantage.

Both Nvidia and AMD have agreed to give Trump's government a 15% share of revenues from semiconductor sales to China. The tax is the price for US licenses to export their technology to the second-biggest economy.

Nivida seems to be taking an ends-justify-the-means approach to the tax. As analysts at Melius Research note:“Now Nvidia can better compete with Huawei - not only in the China market, but globally, making sure more Chinese artificial intelligence developers can create applications on a US-friendly Nvidia AI stack.”

Yet as Ian Bremmer, CEO of Eurasia Group, notes, Xi's government is already demanding Chinese tech firms, including Tencent, Alibaba and ByteDance, justify purchases of Nvidia's H20 AI chips. China would prefer that the firms buy domestically.

Now, Bremmer adds, the Chinese scrutiny is prompting some companies to scale back orders, potentially cutting Nvidia's China market share to 55% this year from 66% in 2024, amid ongoing US-China tech tensions.

China, of course, is in no hurry to agree to a trade pact with Trump, particularly given the haggling going on about earlier ones. The ways in which Washington and Tokyo and Washington and Brussels are at odds about what exactly they agreed to might have Xi looking to extend talks well into 2026 – or beyond.

In the meantime, though, the cracks in China's underlying economy are festering at best and deepening at worst. As these pre-existing conditions collide with more Trumpian volatility to come, Team Xi will have to act more boldly and nimbly than ever before to keep incomes from stagnating and the property market from collapsing.

Follow William Pesek on X at @WilliamPesek

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