SUMMARY:
- China’s measured retaliation to U.S. tariffs shows that Beijing is eager to keep the door open for negotiations; talks between the two sides will pick up in coming weeks but we remain skeptical about a major deal
- We expect only modest stimulus to come from the National People’s Congress (NPC) this week, especially relative to the drag from Trump’s tariff hikes; only when it becomes more urgent will Beijing make a decisive shift towards boosting domestic demand
- 22V’s China Economic Sentiment Series (CHESS) tool shows that domestic analysts in China also have subdued expectations for stimulus heading into the NPC meeting
BEIJING’S MODEST RETALIATION LEAVES ROOM FOR TALKS
China’s government announced its retaliation to Trump’s latest 10% tariff hike overnight, as the new tariffs took effect. Beijing’s response consists of:
- A tariff hike of 15% on imports of U.S. chicken, wheat, corn and cotton
- A tariff hike of 10% on a range of other U.S. agricultural imports, including soybeans and dairy
- China placed 15 U.S. companies on its export control list, putting them off limits to purchase of dual-use goods from China. In addition to biotech firm Illumina (already a target of Beijing), most of the firms included are in defense/aerospace.
- China placed 10 U.S. companies involved with arms sales to Taiwan on its “unreliable entities list,” restricting their business opportunities in China.
This is a measured response, consistent with our view that Beijing wants to preserve space for negotiations with the Trump administration and avoid further escalation if possible. China’s tariff increases are much lower in scope than what the U.S. has imposed, while the actions against U.S. companies avoid taking aim at major firms.
It is notable that Beijing has thus far strongly resisted CNY depreciation, which is also consistent with our expectations. The commitment to a stable CNY limits PBOC’s ability to ease monetary conditions as discussed in our 2025 outlook report (link HERE). It also means a greater likelihood that Trump’s tariff increases impact U.S. inflation relative to a scenario of the CNY depreciating to offset some of the impact of tariffs.
Where do the two sides go from here?
- The Trump administration will continue a parallel approach: exploring a potential trade deal with China, while preparing additional tariff measures on Chinese imports. April should bring more clarity on Trump’s broader tariff plans.
- For Beijing, the key problem remains the uncertainty over what Trump wants and is prepared to offer. China’s leadership is reluctant to make concessions on specific issues (such as fentanyl) until it has a better understanding of what is on the table.
- We expect negotiations exploring a deal to pick up this spring, but remain skeptical of a major US-China deal. Trump may remove these initial tariff hikes related to fentanyl-enforcement, but we expect tariffs focused on trade to take their place and probably raise the U.S. tariff rate on direct imports from China further. Trump’s full slate of trade measures, including his tariffs on imports from Mexico and Canada, will also hit at China’s exports to the U.S. through third countries (see further below).
WHAT IS THE ROOM FOR UPSIDE SURPRISE AT THE NPC?
On Thursday, we issued our preview report for the National People’s Congress (link HERE). The most important event at the NPC is the opening session at 9am Wednesday Beijing time (8pm ET tonight), when Premier Li Qiang delivers the government work report.
Our preview report explained why we think the stimulus targets in the work report will underwhelm:
- We believe Beijing will stay conservative with stimulus until it perceives increased urgency to boost growth.
- From a growth standpoint, the urgency is not yet here. Recent data show signs of a tentative stabilization in activity in China, even if transitory factors (such as exporters accelerating shipments to avoid impending tariffs) explain much of this improvement. We expect the turning point to come around mid-year, when a front-loaded fiscal stimulus now underway runs its course and tariffs start to weigh on China’s economy.
- The narrative shift in China’s tech sector spurred by DeepSeek will likely add to the risk of near-term complacency on the part of China’s leadership by fostering a sense that China’s overall economic and geopolitical strategy is on track and requires only modest adjustments.
What are the chances we are wrong? We are fairly confident that the NPC’s stimulus announcements will be modest. If we are wrong, it is likely because Beijing is nimbler than we expect and will adjust the fiscal deficit target and other policies in response to Trump’s surprise tariff hike.
But we are very confident that the NPC’s stimulus announcements will not be enough to fully offset the impact of Trump’s latest tariffs. If Beijing does adjust stimulus, it will be a response to increased tariff risks but not yet a decisive turn towards a pro-growth bias. The chance of a decisive shift increases in H2.
Indeed, Beijing may be underestimating the total hit to its economy from US actions, if policymakers are using the 2018-2019 experience as their baseline. In that previous round, exporting through third countries and through low-value shipments under the de minimis threshold cushioned the impact of Trump’s tariff hikes. Both channels are under threat this time around. Trump’s team is pressuring Canada and Mexico to raise their own tariffs on Chinese goods. He will likely remove the de minimis exemption on shipments from China once the capacity to collect tariffs on these goods is in place.
What is the bottom line? If Beijing aims to boost confidence at the NPC, it will probably do so through rhetoric – a pledge to do more as necessary in coming months – rather than concrete announcements. Investors will need to wait for H2 for more stimulus and the possibility of a more decisive policy shift. In the meantime, we expect Beijing’s policy response to be behind the curve.
SENTIMENT OF DOMESTIC ANALYSTS REMAINS SUBDUED
If the NPC meeting does produce a shift to a pro-growth bias, it will surprise not only us but also domestic analysts.
Our proprietary CHESS (China Economic Sentiment Series) tool shows that domestic analysts’ hopes for stimulus (blue line in the chart below) have continued to decline in recent weeks, along with sentiment towards the broader macro outlook (orange line).
We noted in our last full CHESS update in mid-February (link HERE) that while DeepSeek and AI buzz had provided a lift to analyst sentiment towards the equity market, views towards the macroeconomic outlook were more muted. That trend has continued through the eve of the NPC.
