How the Election Will Affect US-China Relations

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Welcome to Marin Talk's Money, the podcast in which people who know the markets explain the markets. I'm mere in Sumset Web. This week we focus on China and how the West relationship is changing with the world's second largest economy. My guest is Diana Choilever. Diana is a leading expert on China's economy and politics. She's a chief economist at a Nodoeconomics, at independent macroeconomic, political, and geopolitical forecasting company. She set up herself in twenty sixteen to look at

I started off by asking.

How to look at the most important relationship in the world, that between China and the US.

Diana, Hi, thank you so much for joining us today.

Him Merrin, it's my pleasure.

How does it look at the moment the most important relationship in the world, You could probably say the one between the US and China and the trade relationship between them.

Well, look, I mean these are the existing hegemon and the expiring hegemon locked in a relentless and I would say escalating context for global supremacy. And of course, the most important event on the horizon that will shape certainly the next few years, if not longer, is the US presidential election. From the perspective of the Chinese side, She Jimpin is in control and has doubled down on his vision.

Okay, well, let's talk first about about she doubling down on his vision. Let's what is that vision and what do you mean by doubling down on it?

Well, look, coming he's been in power for two terms and now he is coming into you know, is into his unprecedented third term. And our analysis and other economics suggests that there is no feasible.

Sort of grouping that can.

Challenge him, so he's likely to be there for another five years. And finally, he's sort of taken him ten years to have his people in charge after a relentless anti corruption campaign that went on.

And is still going on.

So he now is his opportunity to really put in practice what has been talking about from the very start of becoming the Communist Parties General secret and she is really taking this second part now and putting the reforms in action to achieve a more equitable society. Because of course, China grew very fast as a result of them reforms. It industrialized at the breakneck speed and now oh is the global manufacturing club of the world.

Certain mean low value act.

And meanwhile, the inequality between both income and wealth between Reich and poor and China has exploded as well.

So he's come up.

With the idea of really common prosperity, which essentially is redistributing income. And it's a big question mark whether that will succeed as an economic policy because it changes fundamentally the incentive driving in China. Another very key feature of what he did is to basically put national security as the overriding objective, and that is really a priority. Economic growth and economic development is subjugated to this all encompassing idea of security, and he.

Has focused on a supply side.

Transformation of the economy, which is probably the most successful I would argue part of his vision and certainly the one where I see him likely to kind of get

I mean, this is the thing that and assume we've been waiting for forever, is the sort of rise and domestic consumption, but it never quite seems to happen. We continually see China get getting rich or not quite rich enough by being a mass exporter, but we don't see it coming from internal demand and internal consumption.

And that's the big challenge, isn't it.

Oh No, absolutely, and the Chinese have talked about rebalancing the economy to more more consumption for a long time, and to be fair, there was some rebalancing between about twenty twelve and twenty eighty, largely because of demographics. You know, China used to have this endless cheap labor, which it stopped heavy by about then. First the migrant labor force

But now if you look at wages as a share of GDP.

In China, they're the same as in the US, so they've kind of caught up on that front. And meanwhile, if you look at overall houseboat.

Income as a share of GDP in China, you.

Will see that it's the income from assets that is missing. You know, the US overall household income is much higher share of GDP because of income from assets.

And they are the so called.

Financial repression of the Chinese households. The fact that the authorities controlled at the end of the day, the interest rates, the capital account and have not developed capital markets sufficiently, and they are constantly channeling these domestic savings into their preferred industries at low cost, so that development has actually went in overdrive in the last few years.

Yeah, okay, so just because let's step back a little bit, so that Chinese consumer can't really expect to see wages rising, particularly in less GDP were to expand, right, because there are wages are already a perfectly reasonable percent of GDP relative of the West. The problem is that, well Chinese households have a reasonable amount of savings, they can't get the kind of return on those savings that makes them

Well, I like to distinguish between savings and wealth, because one is a flow, the other one's a stock. I'm talking about you know here wealth. They just can't get enough of a return on their wealth, and perversely, as a result, they save excessively out of their income, and that is by far a huge determinant of this excessive desire to save in China. The other reasons like the la of social security, safety net, proper unemployment provisions, et cetera, et cetera, play a part, but they are not.

The overriding calls of these saving.

And this has quite an interesting side effect, which is that if interest rates fall in China, people tend to feel they need to save more rather than rather than less.

Absolutely, you know it's when you think about interest rates arising them cutting them. What this does is actually effectively redistribute income in a society. And then it depends as to what the outcome will be whether the heat to the income and spending of those that you know of the basically savors outweighs or doesn't outweigh the boosts of

They should be.

Raising interest rates now, and I can tell you that that idea is way too unconventional and unlikely to be adopted.

It's interesting, isn't it.

I mean, when you look at that dynamic in China and then you look over to the West, one begins to wonder if maybe that's a dynamic we might start to see here as well as state provision for various things for and people become increasingly concerned about their retirement that perhaps you know, the less you get on your savings, the more you want to save, rather than the other way around. I mean, it's perfectly intuitive that that could happen here too.

Yes, it is.

It depends on the structure of what people's wealth is invested in. I would argue there was this development in the US and the UK peculiarly that happened post the COVID pandemic because housecoats were given all this handouts to smooth the transition, and then interest rates were jacked up simultaneously and all of a sudden that was quite stimulative. But of course, in the context of an equity market

I mean, it's unlikely that China's behavior will change as a result of the US election, but depending on who wins. There's so many things going on in the US politically in terms of how the US views China, and we're already in a bit of a cold war.

We've got a trade wark going on, but with digital war, etc.

So there's a lot of conflict here, a lot of difficulty, a lot of geopolitical change. How do you see that going forward?

Well, one thing is clear, and that is that there is bipartisan consensus in the US on the need to be tough on China. So whoever comes to power politically will not have much leeway to be soft.

On China if you'd like.

And also all the surveys seem to suggest that kind of there is also popular support for the US government to be tough on Chi. Now, if Kamala Harris were to win, the assumption is that it will be just the innuation of.

The Biden playbook.

And I would argue that maybe that's a little bit too simplistic at this point.

Of course, the problem is that we don't know as much about anything, and and.

You know, trying to assess her is tricky. But what does come through is that when you look at sort of her career, the issue of human rights and more of a I would argue conviction would certainly great on China. I think if she sort of keeps that part of what she values and it's someone who puts it forward in it in her communication and dealings with.

China, that would be quite problematic for.

China because this is, at the end of the day, a battle of ideology, and the Chinese hate losing faith, and so anything that kind of doesn't take the sensibility into account tends to be quite confrontational.

I think what is also.

Very clear, and that is irrespective of who Kamala Harris is, is the fact that the Europeans and probably other allies of the US will feel calmer about it because and more wheeling to basically engage with the US in a more longer term constructive fashion, because during the Biden years, everyone was petrified by the likelihood of a second Trump residency and that really held back kind of a furthering ahead, the relationship building, the lion strengthening. That was the most

About word's name for an act from the US.

All of that has fed into both and you know, not really progressing in Asia with any kind of economic offer that betters the Chinese one. All of that, you know there is is likely put it that might change under Kamala Harris uh And so that would that would just be a much more efficient alliance network fighting with the kind of authoritarian led grouping sort of spearheaded by China.

Now Trump will be a totally different story.

You think, yees a better story, a better story or a worse story.

It's undoubtedly a worse story, just because.

America cannot do it by itself.

And I but what I mean to do it is stand up to the authoritarian regimes around the world. And Trump is all about America first, and he is not going to be to be building effective alliances quite the contrary.

Okay, but either way, can we expect this ongoing rise and protectionism on going reduction in the progress of the trading relationship?

And one thing that we talked about I think all that time ago, and we've been talking about ever since, this is reassuring the idea that big companies are either moving their manufacturing out of China into other countries or they're moving their manufacturing back in to the US. Some people say that's happening, and show us large amounts of data showing it is happening. Some people say it was not happening, shows large amuns of data saying that it isn't happening.

How do you see that?

I mean, first of all, the last couple of years, I've argued that I see it as an iceberg because whoever is the couple in moving away from China has plans to do so is keeping it quiet. So I always argue that we'll see it in the data when already it's hit right because they know that if they are now, if they'll offend at least one side, if not both. They also fear repraisal from the Chinese authorities. You know, wasn't these companies have to be a major

Not will be worse off, but most secure.

Well, we are not.

More secure because we're in that middle space where the existing hegemon sort of can't really fulfill all their security obligations.

Around the world.

We saw you know, America moving out of Afghanistan, watching the retreat as well, we saw essentially, you know, our hegemon that's struggling to provide the global security puts as it used to, and we see a China that is not yet ready and doesn't yet want to step in. So what this leads is a vacuum for middle powers

Not about where it's lower cost.

And so that whole dynamics is really now playing out, and I would.

Argue it will end up, you know, ideally.

Into a peaceful biplocation into two trading blocks that are big enough within themselves to to kind of counteract each other, and they find a way to interact within with each other.

Okay, But of course we have the.

Issue of Taiwan, and that's a really torny one to sort of wish, you know, that that's.

In the way of this being a peaceful.

By for Okay, I want to I want to come to come back to US manufacturing, but let's do Taiwan first. How high do you think the risk is there and what happens in Taiwan and the relationship between Taiwan and China.

So we've been looking at that issue. I mean a while back when we started.

Arguing that you know, we're into the era of the Great decoupling.

We split it in trade war Techboard Taiwan War.

And I remember, you know, three four years ago, when I went around clients and was saying, look, you know, you should start considering this risk. I had blank either stairs or looks of disbelief.

Now, probably the French point was when.

The Economnes published an article with sort of the front page of the magazine saying, Taiwan the most intelous place on Earth that I think is on the radar. But I would say still this risk, and actually not so much even of the final flash point or event, but just what's happening in the build up to it is

Activity and strangulation.

Of Taiwan and the US on the other side, it's final sort of third major player into this. They have also engaged actively now in preparing to withstand China's efforts to potentially take over Taiwan.

So this relationship has turned into.

A dynamic, and that's the danger because China now knows that the timing, which before used to be in its own hands. Whenever we are ready, we kind of, you know, we'll get there. The US or the rest of the world wasn't really paying attention in the first part of the Nazis. They now don't have that luxury, so they

So as such, it is a very dangerous place.

All the activity that goes on does raise the risk of an accident, but it's also really from the perspective of both investors and business executives. It's how this gray zone activity and the escalation the response, how will that play out? And what are the implications of those dynamics. I think it's rather underappreciated.

Okay, And these are all questions which we cannot possibly know the answers. So for a lot of investors, the easiest thing to do is simply pretend it's not happening.

Yes, I mean I you know, in telling two investors, I do really see how they struggle to internalize geo political thinking in their process. And you know, we've done a lot of work to try and help them because it's not something that you can quantify easily, but it does involve judgment, and it involves then getting the confidence in their providers because you know, generally sort of they think that these are things that cannot be forecast, but it's not the case.

These are things that can be forecast. You know.

This is the reason why years ago we set up a separate service that was sort of has now measured the probability or the risk of conflict over time.

So if you had to put a number on it, what is the risk of conflict over the next say, five years around Taiwan.

At the moment, we put it at seventy percent, so that in our brackets, this is a likely event.

Yeah, that is a very high probability.

Yes, and it started at being ten percent in twenty nineteen, at the start of twenty nineteen when we started doing the safe percise. But you know, if we can sort of assuage the fear of everyone from a short term perspective, our three to six month outlook is currently fifty percent probability of an accident happening, but only fifteen percent of an outright action that would be constituted an act of war or a military confrontation.

So massively reassuring dian I.

To be honest, we still have time.

That's how it's reassuring. We still have time for things to potentially change.

And do you genuinely think or do you think that the rest of the world has any appetite get involved in that or is it one of those things where there'd be a big build up and then America and the rest of the world would basically go, Actually, we haven't got the appetite for this.

This is too much for us. We're standing back.

It's certainly one of these scenarios, and again it will be determined by who's going to be in charge at the White House.

Yeah yeah, Okay, let's go back from this frightening bit, back to the earlier discussion we just started having about about all these various conflicts trade, ward, tech war, etc. Leading to something of a manufacturing renaissance in the US because with an attempt to shift chip production, renewable energy production, et cetera over to the US, and that in for American workers, that's a good thing, right.

Yes, it is, absolutely and I think it you know, it does make for a more if you'd like, resilient globals because even without the issue of national security, we had stretched globalization in terms of the integrated supply chains to an extent that even an ecological disaster could have been quite disruptive. And that I think became clear with the COVID pandemic, where in which accelerated this development from the nationalists.

But it also made it clear, didn't it.

When everyone was trying to access various things to do with COVID, with the lockdowns with pandemic, it became obvious how amazingly extraordinarily dependent the US and much of the West had become on Chinese manufacturing, which I think people knew in theory pre COVID, but it only became very obvious to everybody during that period. Now, let's look, let's

Right, what's your feeling here?

Cheap for a reason, I've been analyzing China for now nearly a quarter of a century, and throughout that whole time, the equity market performance from a long term perspective has been just you know, not reflective of the economic performance.

Really bad. And then it was always a liquidity play. I mean I remember that.

I kind of, you know, in the first part of my career, I was giving advice to people who couldn't then didn't invest in China directly, and sort of it was all how Chining to impact the rest of the world, And it was all you know that the Chinese, so the Chinese outsourced their IPOs abroad, and it was kind

It was a totally different ballgame, you know.

Literally, the longer term horizon was one or two weeks, maybe three weeks at most, and it was a whole kind of liquidity play that.

Continues to this day. But then, of course we had.

Finally the opening up of the financial markets in China, and that would have been a good thing if we weren't in the grade decoupling. And also what we have is Beijing trying now to professionalize them, which again would have been a good thing if it wasn't for the

Okay, that's interesting. Now you've partly done what I was about to ask you to do. But I was going to say, you say to you, could we end with you telling me something positive, something you feel deeply optimistic about.

Well, I don't.

Know if it's deeply optimistic, but it is positive from the perspective of China's adjustment, and that is that our view is that the one is going to go up against the dollar.

Uh.

And that will be, if you'd like, beneficial for China, because it's another way of rebalancing that sort of anulates higher real interest rates, and the reasoning there is it's more China specific rather than US specific. So yes, of course, if the interest rate differential is shrinking as the US starts cutting, and China is really kind of bumping at the constraint of what it can do with its interest

The story, but it is much more a liquidity.

Story in China, and maybe a fact that finally the POPOC sort of acknowledged in one of Pangushan's speeches a few months ago. But it has been the case all these years is that the broad money growth, the M one actually not broad M one growth in China only shows for bread deposits. It doesn't have household deposits, so

And it's contrarian, yeah, but it is contraying and that was fascinating. I love that, like a nice contrarian call at the end. But it's still not giving me an overwhelming sense of optimism.

You know, I must tell you, I'm a glass house full person, and so for me, it's, you know, well, even more depressing to not find much to be optimistic about. I would just say that basically, I really have faith in the underlying kind of strength of human nature. So I think, you know, we'll overcome this difficult period. I have that faith one reason why you know, why I'm having kids.

Why bring up any kids into this?

So I do have any sense that we'll find a way through. But it's at the moment it's difficult to see how it won't get worse before.

It gets better. I'm sorry about that.

That's all right, I'll take it. I'll take it.

Optimistic about human nature is a good point. Is there anything that you would advise retail investors to do now? I think no one's rushing out by Chinese exuitis as a result of this conversation, is there anything that you think the retail investors should be doing now, not just in China anywhere else that has caught your eye that we can do to be just by gold and forget everything else.

I would argue that the American equity market has the long term potential if the US gets you know, it's apt in order, and I don't subscribe as much into the kind of doomsday view of the US and it's debt levels and.

Get money and all of that.

So if we have a correction in US equities, which I think we are likely to at some point over the next twelve to eighteen months, and I would argue, irrespective it's US president, then it probably would be a.

Good time to pile in.

I think it's also another advice is to really understand and begin to understand how interconnected the investments are, so you can't shield yourself from investing in the Chinese equity market, let's.

Say, by not.

Investing, but by investing elsewhere without realizing how much of that index is made up of companies whose revenue is so dependent on China or whose costas on China. And also don't discount for now China and those dividend airs just because everything else looks speak in a deflationary story.

Even in the case of Japan, there.

Were twenty companies that did remarkably well despite the Japan stage of deflation.

Excellent. That is very good advice.

Diana, Thank you so much for being with us today.

Absolutely fascinating as usual.

And my pleasure as you so Marrin, thanks for listening to this week's Marin Talks Money.

We will be back next week.

In the meantime, if you like us show rate, review and subscribe wherever you listen to your podcast, and make those reviews positive. Please and be sure to follow me and John on x or Twitter at marins w for me and John, Underscore stepic for John and I Guess Diana, Choeleva at Choi Lever, and keep sending your questions or

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