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Because China has to. The moment I saw Trump having his little quarrel with Powell about not lowering the Fed key rate last week, I knew that China would bring itself to the negotiation table despite all the “no surrender to imperialists” rhetoric.

How come? Because the local governments are too heavily indebted, having borrowed massively since the past 15 years (2009 GFC) to build new cities, housing and infrastructure like high speed rails to circumvent the dwindling export revenues, betting that the land value would rise so much that they could easily pay off the debt and even with dividends to spare.

This was due to the highly decentralized nature of China’s economy, with the local governments contributing 50% of national tax revenues and 85% of the budget spending. Instead of the central government/state bank directly creating the money to finance all these developments, the neoliberal brained policymakers let the local governments borrow from the financial institutions.

Then, Covid happened in 2020. Three years of Zero Covid saved plenty of lives (it was a good decision), but it also decimated the local governments revenues and placed them under severe financial strains.

Evergrande’s implosion from 2021-2023 further exposed the deep corruption scandals between the local governments, financial institutions and property developers, ending with 2.4 trillion yuan evaporated from the people’s savings. And this is certainly only the tip on the iceberg given how many property developers have similarly engaged in such shady activities but have not been interrogated in the court yet (the government is actually afraid of a market panic it would set off if the rest of the property developers are charged, because too many people and corporations have invested in the property market since the past decade).

Then came the Ukraine war in 2022, when the US raised its interest rate to 5% in just a year, which further imposed financial stress to the local governments. Ironically, Russia tried to show China the way by forgiving $23 billion debt among African countries, which, if China had followed suit, would have paved the way towards dedollarization and ending the US monetary hegemony. Instead, China doubled down on protecting the dollar hegemony (can’t give up that $4.5T USD reserve that easily huh) and effectively putting an end to the whole BRICS dedollarization push.

So, here we are with Trump launching a global trade war, which is actually a financial war in disguise, and China really only have 3 options here:

1. Let the tariffs and counter-tariffs continue, the US goes into recession, which will kill off the rest of the world’s export economies, and equally bad to China’s export-led growth model. IMF then comes in and scoop up all the world’s failing assets and the US finance capital wins anyway. No go.
2. Unilaterally lower the interest rates before the Fed does, which would open up the RMB for a harvest by international currency speculators. Risky to bad outcome. In fact, the PBoC already did a small 10 bps drop the day before the negotiation with the US, and this really shows you how stressed the local government debts are.
3. Negotiate with the US - Trump gets Powell to lower its interest rates and reduces tariffs, and in turn, China lets foreign investment enters to save the local government’s debt problem. This is the most realistic and pragmatic option left.

There will be a lot of back and forth along the process, but it will ultimately lead to a renewed status quo between the US and China. Trump gets to boast about getting Powell to drop the key rate and reduced trade deficits. China/Xi gets to boast that the US has panicked and begged China into negotiations, lowered the tariffs and saved China’s deflationary economy.

But the key outcome is as follows:

1. The US hides behind tariffs (Trump has said the tariffs against China won’t go down below 80%) and by weaponizing China’s industrial capacity and threatens to unleash cheap Chinese goods into Europe, the US has effectively subjugated the European economies.
2. If Europe doesn’t put up tariffs against China, its domestic industries are effectively gone, for they simply cannot compete with China’s superior EVs and green tech. Pure mercantilist destruction unleashed by the US under the guise of a “trade war with China”. If Europe puts up tariffs, the loss of Nord Stream already drove up their energy input prices making their high end products highly uncompetitive. It’s lose-lose for Europe.
3. With Europe being coerced into buying American products and effectively deindustrializing themselves along the way, the US gets to reduce its trade deficits. A propaganda win for Trump.
4. At the same time, Wall Street finance capital enters China, which will be key in preserving the dollar hegemony.
5. The strain on China’s economy is alleviated by the lower Fed rate, influx of foreign investments and somewhat loosed tariffs.
6. A Damocles Sword hangs over the rest of the Global South. The US gets to set the tariff rate against China, which will in turn determine how much China can dump its surplus goods into the rest of the Global South, many of which its export competitors, including the Belt and Road countries themselves.
7. If the Global South countries could not stop cheap Chinese goods from entering their market, then the failing businesses will render the country vulnerable to financial stress, making IMF bailout (and mass privatization of public utilities) a high probability if not an inevitability.
8. Since China has refused to use its dollar reserve to pay off the Global South debt, and does not want to internationalize the RMB to challenge the dollar, these countries will remain susceptible to US monetary hegemony.

In short, we are entering a new phase of American fascist imperialism - it wants to have its cake (lower trade deficits which have caused tension from the working class and petty bourgeoisie due to ongoing deindustrialization) and eat it too (preserving the dollar hegemony through finance capital entering China and IMF bailout of the Global South), and China needs to step up to take on this challenge, for which it has refused to do so.

So, how did we get here in the first place?

Now, let’s have a brief overview of China’s current economy. I have warned for more than 1.5 year (actually, since the end of Zero Covid in 2023) that China’s deflationary spiral is not something that you can stimulus/subsidy out of. That’s because nobody wants to address the elephant in the room that is the root cause of low consumption among Chinese citizens today - a massive wealth inequality. Lifting millions of people out of poverty sounds great (and so did many industrial capitalist countries like Japan and South Korea) but at the same time a growing inequality combined with geopolitical uncertainty have driven people to save (25% savings rate among average Chinese households, which is 6 times higher than an average American family) instead of spending.

Growth in recent years has mostly come from investments rather than increase in disposable income of the working people, and while you can paper over all these inequality problems while exports were running high (selling goods to foreign countries), investments were still generating its returns (rising property market value), we have finally come to the point where the net deficit spending country aka the US empire has decided it’s time for a recession to kill off the export economies, while the property market bubble bursting signals the coming end of the massive infrastructure building era.

Consumption becomes the only way out, except that building a huge consumer base (with such an advantage of a 1.4 trillion people to begin with!) should have started 15 years ago (in the wake of the 2009 GFC), not today. China has recently unveiled its plan to boost consumption, which can quite literally be summarized as “look, our household debt level isn’t quite as high as those in the Western countries and Japan yet, why not loosen the credit requirement so our citizens can borrow more to spend their way out?” Completely neoliberal brained, and ironically following the footsteps of Japan which served as a precautionary tale to what China should NOT be doing.