Amid the ongoing trade war between China and the United States, the Chinese Communist Party has been making efforts to offset the impact of hindered exports by promoting a shift from exports to domestic sales. However, economists believe that this move has further exacerbated China’s economic crisis of deflation, a problem the Chinese government has long been trying to address. Investment bank Goldman Sachs predicted in its latest report that China’s Consumer Price Index (CPI) will drop to 0% this year, with the Producer Price Index (PPI) expected to decline by 1.6%. The report also mentioned that the short-term resolution of the US-China trade war remains challenging, leading to multiple challenges for the Chinese economy.
Currently, the US imposes tariffs of 145% on Chinese goods, while China’s tariffs on US goods stand at 125%, creating a situation where trade between the two countries is virtually halted. Additionally, starting on May 2nd, the US revoked its policy of exempting small Chinese parcels from tariffs and began levying a 120% tariff or $100 per parcel.
To counter the impact of blocked exports, the Chinese Communist Party has been vigorously promoting the shift from exports to domestic sales, hoping to stimulate the economy through increased domestic consumer spending. E-commerce giants like JD.com, Tencent, and Douyin (the Chinese sister app of TikTok) are actively promoting these goods to Chinese consumers. JD.com has set up a special section on its platform to sell goods originally intended for US buyers, offering discounts of up to 55%. Large chain supermarkets like Yonghui Superstores have also introduced special sections for foreign trade goods. Shanghai recently held a 5-day international trade carnival event.
However, many analysts believe that this policy will further worsen China’s deflation crisis.
An article titled “China’s Economy is on the Brink of a Deflationary Spiral” in the Asia Times on Wednesday, May 5th mentioned that transferring export products to domestic platforms at steep discounts may seem wise in the short term. Still, in the long run, it could weaken pricing power across industries, reduce profitability, and set the stage for cost-cutting measures within companies, exacerbating the issue the policy aimed to solve.
China’s economy has been stuck in a vicious cycle of deflation in recent years. According to data from the Chinese National Bureau of Statistics, in 2024, the Consumer Price Index (CPI) rose by only 0.2% year-on-year, while the Producer Price Index (PPI) fell by 2.2%.
The article mentions that China has long viewed the domestic market as a “pressure relief valve” for the manufacturing industry. The influx of export-grade inventory into the domestic market has further exacerbated domestic overcapacity, triggering deeper deflationary pressures that have affected the entire economy.
Although rumors suggest that the Chinese authorities may provide support, actual measures have been scarce. Against this backdrop, cautious stimulus measures from the Chinese side are bound to have consequences. Continued price declines will not self-correct and could reshape behaviors. Companies will cut expenses, households will delay spending, investment decisions will deviate, and growth momentum will gradually weaken.
Goldman Sachs’ Chief Economist for China, Shanhui, expects that China’s CPI will drop to 0% for the year, lower than the 0.2% year-on-year growth in 2024, while PPI is forecasted to decrease by 1.6%, compared to the 2.2% decline in the previous year.
Shanhui pointed out: “Prices must drop for both domestic and other overseas buyers to absorb the excess supply left by American importers.” She also noted that manufacturing capacity may struggle to adjust rapidly to the sudden tariff hikes, potentially exacerbating overcapacity issues in certain industries.
Economists at Morgan Stanley believe that as the trade war impacts export orders, PPI may have dropped to 2.8% in April, further widening the decline from 2.5% in March.
In 2023 and 2024, China’s CPI hovered around zero, but in February and March of this year, it turned negative for two consecutive months. In March, PPI fell by 2.5% year-on-year, marking the 29th consecutive month of decline and the largest drop in nearly four months.
Yingke Zhou, a senior economist at Barclays Bank, said, “The side effect is that it has sparked a fierce price war among Chinese companies.”
He explained that a large number of discounted goods originally targeted for the US market flooding the domestic market will erode corporate profitability, affecting employment, with concerns about job prospects and income stability weakening consumer demand.
According to a Reuters report, Julian Evans-Pritchard, China Economy Director at Capital Economics, stated: “Deflationary pressures persist from last month and are almost certain to intensify in the coming quarters as it becomes more challenging for Chinese companies to export excess capacity.”
The “Mainland Aokai Sports Goods Company” in Yiwu, Zhejiang, is a sports factory with a history of over 20 years. Founder Wu Xiaoming recently told a TVBS correspondent that due to the impact of the US-China tariff war, the company has faced significant challenges, with export orders declining by 60% compared to the same period last year.
He mentioned that in 2022, the lowest-end ball (volleyball) could be sold for 7 to 8 Chinese Yuan (about 32 New Taiwan Dollars). However, by the first half of last year (2024), the same ball could only be sold for 5.8 to 6 Chinese Yuan (about 25 New Taiwan Dollars), representing a 20% drop in price due to overcapacity.
Shen Meng, Director of Hongsong Capital, a Beijing-based local investment bank, said that the measures to help exporters re-sell affected goods domestically may only be a stopgap measure.
He stated, “For exporters who could previously charge high prices from American consumers, selling domestically is primarily a way to clear stagnant inventory and alleviate short-term cash flow pressure, with little profit margin. Profit squeeze may force some export enterprises to close while others may choose to operate at a loss just to avoid factory shutdown.”
According to Shanhui from Goldman Sachs, an estimated 16 million jobs in China (accounting for over 2% of the workforce) are involved in producing goods for export to the US.
Wang Dan, Director of China Affairs at the Eurasia Group, said, “The revocation of the lowest tax policy and the decline in cash flow are pushing many small and medium-sized enterprises towards bankruptcy.” She warned that unemployment in export-dependent areas is increasing, with the average urban unemployment rate expected to reach 5.7% this year, surpassing the official target of 5.5%.
Goldman Sachs recently released a report titled “China Matters Patience and Resilience,” stating that against the backdrop of escalating US-China trade tensions, China’s macroeconomic faces multiple challenges. The report predicts that China’s actual GDP growth for this year will only reach 4.0%, while the Chinese government has set a growth target of “around 5%” for 2025.
Deep-seated differences and high levels of uncertainty exist between China and the US in tariff negotiations. Despite signals from the US Treasury Secretary and President to adjust tariffs, the official Chinese stance demands the complete withdrawal of all unilateral tariffs by the US before restarting trade negotiations.
The report analyzes that substantial differences in negotiation styles, mutual trust levels, core demands, and a wide range of issues (including fentanyl control, TikTok’s sale, industrial policies, currency management, trade imbalances, and geopolitical matters) make reaching a trade agreement in the short term significantly challenging.
While China still has room to expand fiscal spending to stimulate the economy, policy stimulus is more conservative and selective due to considerations of long-term fiscal sustainability.
The article notes that in the past, China’s economic rebalancing process has been relatively slow and often reliant on infrastructure construction and production subsidies during economic downturns. Now, considering that US tariffs may remain high in the long term and excess supply may not be fully absorbed by other countries, China is believed to need to accelerate deep-seated reforms.
Potential reform directions might include empowering local governments to levy consumption taxes to more directly stimulate consumer spending, enhancing the building of social security systems to boost consumer confidence, and investing in consumer-related infrastructure.