After government’s resolve to boost domestic consumption, curb over-production and a stock market bull, it’s safe to say the “whether” part of that question is already resolved. The question now mainly surrounds “when”.

of , an investment memo-style publication that I avidly read, recent made some observation about her recent trip to China (her own emphasis):

Confidence is a big part of the game, and it feels like the average person has made peace with the new normal. Coffee shops are packed. Consumer energy feels back, and people seem confident again… Consumer confidence seems meaningfully improved. Shanghai IFC Mall traffic is strong; regular cafes are packed with middle-class families and afterschool kids….A key driver is the stock market wealth effect: the Shanghai index being up sharply since the Oct-2024 lows has made “hope” feel investable again for a lot of people…The right frame is K-shaped - but the average mood feels less defensive than the last few years.

My own anecdotal observation, as someone who is based in Shanghai and travels regularly inside the country, is also the same as Freda. It’s clear the sentiment in the air feels very different from the vibe 2 years ago.

But subjective experience can be misleading too, bound by the information bubble created by my small social networks and life experience. To have a complete picture, we also need to check what data has to say.

In the following sections, I will use several KPIs review this question.

The Kentucky Fried Chicken index

One of my favorite proxies to understand deflationary pressure in China is to read YUM China’s quarterly results and find the average selling price of Kentucky Fried Chicken.

KFC is a popular fast food dining brand and the largest restaurant chain in China. It’s also one of the cheaper dining options out there. In other words, KFC is easily the least-cost producer in China’s dining sector. The simple rule of thumb is that if deflation stops in China, it will inflect first at KFC. Conversely, if deflation at KFC doesn’t stop, we definitely are not out of the woods.

In the last many quarters, same-store transaction volume has kept growing, but same-store sales grew much more slowly than volume, which means ASP has been declining, and that people are consuming more chicken wings but paying less for each.

The just-announced 25Q4 results, however, marked the first quarter in a long while that the ASP actually stabilized at KFC.

To be more precise, this comes after 7 quarters of ASP decline. The trend seems undeniable.

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The China Resident Risk Appetite Index (CRRAI)

To find data series more representative than chicken wings, I look to the CRRAI which is designed to quantify the financial behavior and confidence of Chinese households. It has been created by , a friend of the channel who has contributed several pieces here before.

Bob constructed CRRAI upon 4 thematic pillars, each capturing a distinct layer of the household financial decision-making process:

• Macro Liquidity & Business Confidence: This dimension serves as the systemic backdrop, gauging the availability of broad market liquidity and the overall health of the business environment through indicators such as the M1-M2 spread, government bond yields, and manufacturing and service PMIs.

• Household Leverage & Credit Dynamics: This reflects the willingness of households to take on debt. It tracks variables such as long-term and short-term loan growth, deposit term-lengthening, and non-bank financial deposits growth, usually a forerunner of household capital rotation into financial markets.

• Fundamental Bedrock: Risk appetite is constrained by asset values and income security. This dimension monitors the “wealth effect” and the stability of the household balance sheet using metrics such as secondary housing prices, property sales volumes, and employment data.

• Capital Market Sentiment: This most reactive component captures “animal spirits” and speculative momentum within secondary markets. It synthesizes signals such as margin trading ratios, valuation levels (P/E ratios), trading intensity, and new brokerage account openings.

This is what CRRAI looks like right now:

It’s clear that from this perspective, the lowest level of household confidence in the past decade was seen during 2022. Since then, we have seen a year-by-year, staircase-like recovery.

A defining feature of the late-2025 landscape is the persistent lead of Capital Market Sentiment. For 2025, this dimension turned positive as early as August and peaked in September. Although it moderated slightly toward the end of the year, it remains the only pillar comfortably above the historical mean. This sentiment front-running was driven by the recovery of the Chinese stock market, a surge in retail participation, and a sharp increase in non-bank financial deposits, which acted as a forerunner for capital rotation into financial assets.

On the other hand, the most encouraging signal in December was the rapid recovery of the Fundamental Bedrock pillar, which rose from -0.47 to -0.21. This improvement reflects a stabilizing job market and a marginal recovery in secondary housing transactions. Historically, a sustainable “risk-on” environment requires the composite index to be supported by these “real economy” pillars.

Despite these recoveries, Macroeconomic Liquidity and Household Credit Dynamics continue to weigh on the overall index. The “water level” in the system remains low, with the M1-M2 spread still indicating sluggish capital activation. Furthermore, while the pace of deleveraging has slowed, the willingness of households to expand their long-term balance sheets (mortgages) has not yet returned to growth.

But if they can continue their upward trajectory into Q1 2026, the index is well-positioned to break above the neutral threshold, marking a definitive end to the multi-year “risk-off” cycle.

Ratingdog China PMI

Ratingdog China PMI, formerly known as Caixin PMI, is the unofficial macro-economic indicator that the market is watching closely. The one sub-index that I pay the most attention to is the service PMI because the service sector is more directly related to domestic consumption rather than the manufacturing sector.

This data series suggests that China’s services sector has entered 2026 on a firmer footing, with this reading rising to 52.3, the strongest reading in three months.

Yao Yu, founder of Ratingdog commented:

Service sector business activity accelerated in January, primarily driven by faster growth in total new business.

Employment returned to expansion, with a slight increase in backlogs. Supported by sustained inflows of new business, service sector firms saw improved demand for labor, with the employment index rising into expansionary territory for the first time in six months.

On the price front, cost pressures eased somewhat. Input costs rose for the eleventh consecutive month, driven mainly by higher fuel and purchased item prices, but the reading fell to a five-month low. The decline in selling prices eased, with the reading essentially returning to the breakeven level, indicating some relief in terminal pricing pressure.

Overall, the service sector started the year on a stable footing. Looking ahead to February, consumption-oriented services such as culture and tourism, catering, and instant retail may see growth driven by the extended nine-day.

The Services PMI is expected to remain in expansionary territory. From a medium- to longterm perspective, the slight dip in business confidence suggests that external uncertainties remain a constraining factor. The sustainability of the service sector’s recovery will still depend on the strength of domestic demand improvement.”

(Ratingdog is the creator of YY Rating, which is perhaps the most objective credit rating system in the PRC at the moment. If you are interested in getting in contact with them, please shoot us a message at baiguan@bigonelab.com)

Official CPI…

So far, we haven’t even looked at official statistics yet. But we should.

Many observers have this unconscious bias that the numbers made by Beijing are not trustworthy. We may write a separate post about this topic in the future. But in a nutshell, we believe that most of the official data is quite dependable. Its credibility gap compared with other major economies has also visibly shrunk.

So what do official statistics tell? Let’s look at the consumer price index (CPI).

Clearly, CPI has hit some kind of inflection point in 2025Q4, with YoY change decidedly entering positive territory.

Core CPI, which excludes food and energy components that are susceptible to seasonal and non-economic factors, did even better. Throughout 2025, the core CPI steadily recovered, gradually rising from 0.5% yoy in March to above 1% yoy in the fourth quarter.

Researchers at CF40, our partner think-tank, did some further digging by segmenting core CPI into several main factors.

CF40 showed that there are three components that made significant contributions to core CPI growth in 2025: gold jewelry, trade-in goods, and medical services. Although these three components account for approximately 22% of core CPI, their average contribution to core CPI throughout 2025 was around 40%. The increases in these components were all driven by exogenous (international gold price hike) or policy-related factors (trade-in subsidies and continuous advancement of healthcare payment reforms).

To better look at the “core” core CPI without the influence of these exogenous factors, CF40 made an adjusted core CPI by excluding these three components. The final, adjusted core CPI yoy growth remained essentially flat at around 0.6% across all months in 2025. However, this flat trend, which came after significant growth moderation in the previous years, suggested that China’s core CPI has indeed bottomed out and stabilized.

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Looking back today, four of those tailwinds are clearly intact.

Geopolitically, the external pressure has continued to ease materially. Every day, Trump’s antics and the new Monroe Doctrine have even made China a more viable trading partner, and China’s bargaining position has strengthened as its industrial base continues to move up the value chain.

On policy and expectation management, the learning curve is real. Regulators are no longer operating with the blunt, surprise-driven approach that characterized the 2021–2022 period. Policy signals are now layered, iterative, and increasingly conscious of second-order market effects.

On the economic engine, the transition away from real estate is still painful, but it is no longer directionless. High value-added manufacturing, export-oriented Chinese brands, and frontier technologies are now doing the incremental work that property once did.

And most importantly, China’s pivot toward a capital-market-centric development model is no longer theoretical.

In just the past few months, a growing list of strategically important AI-related companies — from chips to large models to hard tech — have either entered the capital market or are lining up to do so. Equity financing is becoming the default channel for frontier industries. Compared with the old land-based and banking-based financing system, the capital market’s role is not only larger — it is structurally indispensable.

The remaining piece, of whether Chinese residents’ excess savings will move into the equities market, however, is far more complex.

Juggling of Objectives

Today, Chinese policymakers are juggling three objectives that are sometimes in tension:

First, they want the stock market to rise. That requires all investors to believe equities are a legitimate long-term asset class.

Second, they are counting on the market to fund strategically critical industries — AI, semiconductors, commercial space — where balance-sheet lending simply does not work.

Third, they do not want a speculative frenzy that ends badly. The explicit preference is a slow bull, not a crazy bull.

But if you want to achieve Objective 2 too dearly, you risk hurting investors’ interests, making you unable to achieve Objective 1. On the other hand, if you want Objective 1 too much, you risk attracting retail money too quickly, thus making Objective 3 of a slow bull elusive.

The difficulty of balancing these three goals became unusually clear over the past two weeks, as we are only fresh into 2026.

How the Frenzy Took Shape

From mid-2025 onward, a sector bull quietly formed in A-share technology stocks, centered on AI infrastructure.

For instance, optical module leaders such as Innolight (300308.SH) and Eoptolink (300502) rose close to tenfold in roughly half a year, reflecting their bottleneck position in AI data centers. Cambricon (688256.SH), one of China’s main challengers to Nvidia, also saw its market capitalization balloon as restrictions on advanced Nvidia chips pushed capital toward domestic alternatives.

Then came commercial space.

A string of supportive policies — most notably the easing of STAR Market IPO rules for space companies (as Amber just documented in our last piece) — coincided with renewed global attention on SpaceX and its potential IPO. Capital rapidly flooded into what began to be labeled the “commercial space sector.”

But in reality, it was barely a sector at all, as most true leaders were still private. And none of the Chinese contenders have achieved the same kind of success that SpaceX has achieved.

Yet, that didn’t stop speculation. Listed companies with only tangential exposure to satellites, launch systems, or aerospace materials were aggressively re-rated. Prices doubled, tripled, and quadrupled within weeks. As investors returned from the New Year holiday, early 2026 saw the frenzy intensify further.

Soon after, the successful listings of LLM companies such as MiniMax and Zhipu AI ignited yet another narrative: “AI applications.”

In a country that has not yet fully cracked advanced GPUs or state-of-the-art foundation models, speculative capital had already leapt ahead to applications. Once again, stocks with only remote relevance were swept up.

This could be the long-awaited moment many had hoped for: retail deposits finally beginning to migrate into the capital market — Except the migration was at the risk of happening too fast.

Last Monday, on Jan 12, total A-share turnover hit 3.6 trillion yuan, an all-time high. I also started hearing tales of massageurs chatting about the opportunity to buy commercial space stocks. An unlicensed influencer reportedly attracted tens of billions of RMB from retail investors into a newly formed fund focused on “AI applications and commercial space” in one live-streaming session.

It was also obvious how this would end if left unchecked. If anything, it would not become a “slow bull”, but would very likely end up in tears again.

The Intervention, Managed Upside, Managed Downside

And soon enough, regulators stepped in.

Several of the most speculative stocks — particularly those with the most extreme short-term gains and thin fundamentals — were ordered to suspend trading pending disclosures. Margin financing rules were tightened. That unlicensed KOL was also reportedly under investigation.

Yet, it was also clear that this is not an all-out campaign against the market. There was no sweeping crackdown, no moralized rhetoric, no attempt to crush sentiment across the board. The actions were selective, technical, and deliberately contained. They were designed to slow momentum, not reverse direction.

Beijing is attempting to short-circuit a feedback loop of leverage, narrative, and retail FOMO that can lead to collapse, while it’s still in its early stages.

This episode also needs to be seen in symmetry.

In mid-December, the market was threatening to break down. At that point, the “national team” (a catch-all phrase for market stabilization mechanism) stepped in with visible buying support, initiating a rare 13-day winning streak — one of the longest in A-share history.

Now, with sentiment tipping toward euphoria, the same apparatus appears to be operating in reverse. Market chatters also suggest that the stabilization fund” may be selling into strength this time around — a rumor that would not be surprising if true.

That is, after all, what a stabilization fund is meant to do: buy when fear dominates, sell when euphoria takes over.

If this interpretation is correct, it suggests that Chinese regulators have become far more sophisticated at managing the market — 操盘 in the literal sense.

And the market is taking cues. Many of the most red-hot speculative stocks in commercial space and so-called “AI applications” have started to tumble, and so far, there is no end in sight for where that slide will land.

For now, this crackdown on over-speculation seems to be working, without hurting the broader sentiment.

The Real Risk

And yet, one concern remains unresolved.

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For context, Elon Musk’s Starlink—the undisputed leader in low-Earth orbit (LEO) today—has a long-term target of around 42,000 satellites [*].

The scale alone signals that something fundamental has changed.

Historically, China’s space industry was a closed system dominated by state-owned “national champions,” primarily China Aerospace Science and Technology Corporation (CASC) and China Aerospace Science and Industry Corporation (CASIC). This model delivered strategic reliability, but it struggled to compete with SpaceX’s Starlink in the areas that now matter most: cost efficiency, iteration speed, and control over low-Earth orbit (LEO) resources, including military-grade communications.

Faced with Starlink’s overwhelming first-mover advantage, Chinese policymakers concluded that a purely state-led model was no longer sufficient. As a result, China’s policy direction has undergone a fundamental shift—from merely allowing private companies to participate, to actively supporting private firms as the main drivers of the commercial space sector.

In late 2025, the China Securities Regulatory Commission (CSRC), together with the Shanghai Stock Exchange (SSE), revised the STAR Market (科创板, or China’s Nasdaq) listing rules. A dedicated IPO “green channel” was introduced for high-barrier, long-cycle hard-tech companies, particularly those focused on reusable rockets and space infrastructure [*].

The most important change: loss-making companies are now allowed to go public. As long as a firm demonstrates breakthroughs in core technologies—such as liquid rocket engine recovery—and aligns with national strategic priorities like China’s state-backed satellite constellations, traditional profitability requirements can be waived.

The impact was immediate.

On December 31, 2025—just days after the new rules took effect—LandSpace, one of China’s leading private rocket companies, had its STAR Market IPO application formally accepted [*]. The company is seeking to raise RMB 7.5 billion, at a reported valuation of RMB 75 billion. 2026 is shaping up to be a peak year for Pre-IPO monetization across China’s commercial space industry.

Secondary markets have already started to price this in. Beginning in December 2025, speculative enthusiasm surged, pushing several satellite and space-themed ETFs to nearly double from end-2025 levels (perhaps too much speculative betting at this point). Investor attention has shifted decisively from policy vision to execution—and to who will become China’s answer to SpaceX.

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Why the Rush? The Race Against the ITU and the “Iron Curtain”

The sense of urgency within China’s orbital strategy is driven by a “red zone” countdown imposed by the International Telecommunication Union (ITU). Under the ITU’s “Use it or Lose it” rules, satellite constellations must hit strict deployment milestones to retain their claimed frequencies. Once a frequency is filed, the operator has exactly seven years to launch its first satellite and begin operations (Bringing Into Use, or BIU). But the clock doesn’t stop there: by year nine, 10% of the total constellation must be in orbit; by year twelve, 50%; and the entire fleet must be operational by year fourteen [*].

For China’s largest constellation, “GW” (Guowang), which filed for approximately 13,000 satellites in September 2020, the BIU deadline is September 2027. To avoid losing these precious spectrum rights, China must transition from ambition on paper to mass industrial delivery by 2026.

The Battle for Orbital Real Estate: Why 550km is the “Park Avenue” of Space

This regulatory pressure is compounded by Starlink’s hegemony. As of early 2026, Starlink has already launched over 9,422 satellites, and an additional 7,500 satellites were approved a few days ago, with 50% to be launched by 2028. Starlink has effectively occupied the prime orbital shells at 530 km and 550 km, and is now moving to compress its orbits down to 480 km.

Low Earth Orbit (LEO) is generally categorized into three distinct layers: Ultra-Low Orbit (VLEO) below 400km, Core LEO between 400km and 600km, and High LEO above 1,000km.

The narrow bands at 530km and 550km are considered the “prime real estate” of the sky. At these specific altitudes, the physics of communication and safety reach a perfect equilibrium. These orbits are high enough to minimize atmospheric drag, allowing satellites to stay aloft for years without excessive fuel consumption, yet low enough to keep signal latency at a crisp 20–40 milliseconds—ideal for high-speed trading and gaming. Critically, these layers also benefit from “passive safety”: if a satellite fails here, the thin atmosphere will naturally pull it down to incinerate within a few years, preventing a permanent buildup of space junk[*].

Starlink has effectively “colonized” these core shells, forcing competitors to either climb higher (thus more latency) or dive deeper into the more challenging VLEO zones (difficult because intense atmospheric drag requires constant orbital maneuvers and specialized aerodynamic designs to prevent satellites from prematurely re-entering the atmosphere).

But if China does not scale up mass production and launch by 2026, it will be orbitally blocked by Starlink’s sheer physical presence.

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Is This Space Race 2.0?

At first glance, the echoes of the 1960s are unmistakable. Once again, two superpowers are vying for the “ultimate high ground” to secure not just national pride, but undisputed strategic dominance. In the past, whoever reached space first demonstrated the superiority of their system and their intercontinental missile capabilities. Today, whoever controls low-Earth orbit satellite networks controls a “god’s-eye view” of global communications and modern military command.

But this time, there are three key differences.

First: orbit and spectrum as non-substitutable strategic resources. Orbital slots and frequencies are physically scarce. If China does not file and launch now, once Musk’s 42,000 satellites are fully deployed, there may simply be no room left for latecomers.

Second: the primary driver is also commercial, not just political. The Apollo program was never profitable, but satellite connectivity today is a trillion-dollar market—powering 6G, autonomous driving, and global broadband. For example, China Mobile (0941.HK) has also applied for 2,520 satellite launches, not because a telecom operator suddenly developed ambitions for Mars, but because it wants to place its base stations in orbit—selling 24/7 connectivity and controlling the pricing and data flows of direct-to-device communications.

Third: the players have fundamentally changed. Space Race 1.0 was a pure state-to-state competition—NASA versus the Soviet space program. This time, it is a hybrid model: SpaceX as a private-sector champion versus China’s state-backed giants operating alongside a growing ecosystem of private companies.

How China Advances Its Orbital Strategy

To compete with Starlink’s established dominance, China has moved away from a pure “National Team” model. Instead, it has adopted a more distributed approach, spreading the burden of deployment across central authorities, regional governments, and private companies.

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Baiguan is a data-driven newsletter dedicated to scouting and synthesizing diverse data sources to provide deep market insights—this commitment to alternative data is the foundation of our collaboration with Skysight Technology, a leading provider of satellite remote sensing and alternative data services.

Established in 2017, Skysight brings together an elite background in aerospace research, macroeconomics, and financial analysis, providing institutional-grade solutions including standardized financial indices, supply chain insights, sector monitoring, and tailored analytical models across macro trends, commodities, and ESG.

On November 12th, 2025, the U.S. government concluded a record-breaking 43-day shutdown. While the machinery of the state was paralyzed, the global market was obsessing over a singular data vacuum: Was the American soybean harvest a bust, and had Beijing finally blinked?

The 2025 Timeline of the “Soybean Gambit”

• Feb - March: A 10% U.S. tariff on China takes effect; China retaliates by weaponizing soybeans.

• April - August: A brutal “tug-of-war.” China effectively halts procurement; U.S. exports to China drop to near zero.

• August - October: Harvest season. China maintains its “zero-buying” strategy, delivering a massive blow to U.S. farmer confidence.

• October 30: The Busan Summit offers a “de-escalation” signal, with soybean purchase commitments as a centerpiece.

• December: U.S. officials report that China is actively fulfilling a 12-million-ton commitment, with over 7 million tons already ordered.

With the USDA officially blind due to the shutdown, satellite remote sensing by Skysight Technology revealed a startling divergence -- while total U.S. soybean plant area is contracting, productivity is surging. Yields in primary producing states hit a projected 3.72 tons per hectare.

In an era where AI, semiconductors, and humanoid robotics dominate the headlines, it seems counterintuitive that a “low-tech” primary agricultural product could remain the most volatile chip on the US-China geopolitical chessboard. The question then is, how much weight does a single grain of soy actually carry?

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1. China as a Customer

Importing Soybeans = Importing Virtual Lands

The logic of the U.S.-China soybean trade is often reduced to a simple supply-and-demand curve, but viewed through the lens of macro-strategy, it is a resource arbitrage.

The U.S. possesses the world’s most efficient farmland, and China commands the world’s most massive demand for protein. For Beijing, importing soybeans is not a failure of domestic farming, by importing “land and water-intensive” crops, China effectively outsources the environmental and resource costs to foreign soil. This allows it to hold the “18亿亩耕地红线”(120 mn hectare Farmland Redline Policy) and prioritize the absolute self-sufficiency of primary staples like rice and wheat.

Food or Feed Divide

Despite record-breaking domestic harvests in 2024, China’s import dependency remains locked above 80%. This reveals a structural “hard floor” in the market:

• Domestic Soybeans: Primarily reserved for human consumption—the edible market for tofu and soy milk.

• Imported Soybeans: The industrial backbone used for large-scale crushing and livestock feed that’s largely driven by the rise of the middle class as the Chinese diet shifts toward meat

Unless there is a massive regression in Chinese dietary habits, this “80/20” dependency is a permanent fixture of the geopolitical landscape.

De-risking the “Soybean Circle”

Before 2018, the U.S. was one of the primary providers, commanding 40% of the market. Today, American beans have been relegated to a marginal buffer role. This is a proactive de-risking designed to move the U.S. from a core supplier to a secondary swing producer.

State-owned buyers now prioritize South American crops by default, turning to the U.S. only during the South American off-season or as a diplomatic currency to satisfy specific “de-escalation” agreements.

This transition has paved the way for a new Brazilian hegemon. By 2024, Brazil dominated nearly 70% of the Chinese market, exporting 3.5 times more than the U.S. This dominance was not an accident of nature but the result of a decade-long, aggressive “picks and shovels” strategy orchestrated by China’s state-owned giant, COFCO International.

Through the strategic acquisitions of Nidera and Noble Agri, COFCO secured the critical logistics nodes that bridge the gap between Brazilian farms and Chinese ports. The expansion of the STS11 terminal at the Port of Santos has effectively created a logistical moat. By slashing transport costs and streamlining the supply chain, China has ensured that Brazilian beans remain price-competitive even during the traditional U.S. export window from October to January.

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2. U.S. as a Supplier

Why the U.S. Midwest is Nature’s Factory

Viewed through the lens of natural endowment, the American “Corn-Soybean Belt” is an unrivaled agricultural fortress. Sitting on the world’s most fertile soft black soil, U.S. farmers enjoy deep organic layers and high water retention that their counterparts—who must battle acidic soils with massive infusions of lime and fertilizer—simply cannot replicate. This is a “natural cost advantage” that begins beneath the topsoil.

The true industrial cheat code isn’t just the soil; it’s the hydrological geography. The Mississippi River system and its tributaries (the Illinois, Ohio, and Missouri) act as high-velocity arteries pumping commodities from the heartland to the global market.

• The Efficiency Gap: A single 15-barge tow moves the equivalent of 1,000 large trucks, with many farms located within a stone’s throw of a river terminal.

• The Price Wall: In 2016, this geographic advantage translated to a staggering cost differential: shipping a ton of soybeans from Illinois to Shanghai cost $75, compared to $120 from Brazil’s Mato Grosso. This logistics premium is the primary reason the U.S. remains the world’s “preferred” high-efficiency supplier.

The Heartland’s Fragile Crown

Agriculture is the rare bright spot in the U.S. trade balance—a sector that consistently generates a surplus. At the center of this success are soybeans, the “crown jewel” of American exports.

In 2024, the soybean complex (including meal and oil) accounted for nearly 18% of all U.S. agricultural export revenue.

While this sounds like a triumph, it reveals a dangerous single-crop risk. By specializing so heavily in a crop grown for export, the U.S. agricultural sector has developed a structural fragility. Striking at soybeans is a direct hit on one-fifth of America’s total agricultural export engine. This concentration makes the Heartland uniquely vulnerable to targeted geopolitical tariffs.

A Dependency That Won’t Quit

If 2018 was a “black swan” event for trade, it also exposed a painful reality: the U.S. soybean industry is suffering from a “China addiction” it cannot kick.

Before the trade war, the dependency was stable, with over 60% of all exported U.S. soybeans destined for China.

In 2018, that figure cratered to 17.3%, leading to a domestic glut and a total price collapse.

Despite a partial recovery fueled by “de-escalation” agreements, exports have never returned to the 2016 peak of 36 million tons. By 2024, export dependency hovered around 44%, a sign that the industry is still breathing through an oxygen mask.

So, why can’t the U.S. find a new “China”? Washington has attempted to diversify its “protein basket,” but the results have been underwhelming:

• The Scale Problem: Combined, the growth in exports to Mexico, the EU, Japan, and Egypt has only recovered 6 to 8 million tons—failing to fill the 11-million-ton crater left by the shrinking Chinese market.

• The Crisis Dividend: The 2018 spike in EU imports was a mirage. Europe didn’t suddenly develop a taste for more soy; they simply bought U.S. beans because they were piled high and sold cheap after being blocked from China. This is bargain hunting, not structural demand.

The macro-reality is stark: China still consumes over half of all U.S. soybean exports. If Beijing were to fully sever this artery, the U.S. would face an immediate export loss of over $12 billion.

No other market on Earth—not the EU, not India, not Mexico—possesses the crushing capacity or the livestock scale to absorb what China takes. This is the asymmetric leverage Beijing holds. While the U.S. has the best soil and the best rivers, it is trapped in a buyer’s market where its biggest customer is also its biggest rival.

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3. The Great Insulation: Hedging Against Strategic Insecurity

The American Pivot: From “Land Grab” to “Fortress Efficiency”

The U.S. soybean landscape is undergoing a fundamental mutation. This year, the total hectares dropped by 7% —not a coincidence, but a long-term trend accelerated by the 2018 trade war.

On the ground, regional performance is diverging. The ‘powerhouse’ states, Illinois and Iowa, remain anchored at 17.44% and 16.56% of national output, respectively. Minnesota is seeing robust momentum as yields continue to climb. Kansas, however, has hit a turbulent patch; a yield slump in November dragged total production down by over 8% year-over-year.

Even during the USDA shutdown, eyes above the sky remained sharp. Through continuous tracking, the satellite captured an interesting shift: yield potential is climbing steadily.

U.S. farmers are no longer chasing expansion; they are chasing margins.

The American Heartland is moving toward an intensive production model:

• The Yield Explosion: Despite less land, total output remains resilient. Satellite data confirmed that improved climate conditions and high-tech management have pushed yields to a projected 3.72 tons per hectare—a massive jump from last year’s 3.41 tons per hectare.

• The Domestic Floor: The U.S. is aggressively building an industrial safety net via the Biodiesel Boom. Domestic crushing is projected to hit a record 68 million tons for the 2025–2026 cycle.

• Strategic Infrastructure: A wave of new processing facilities is hitting the soil in North Dakota, Nebraska, and Iowa. By processing beans at home into fuel, the U.S. is reducing its exposure to Chinese “buy-or-die” cycles.

China’s “Strategic Grain Fortress”: The Weapon of Patience

In August 2025, China imported a record 12 million tons of soybeans in a single month without purchasing a single American bean.

If the U.S. is hedging via energy, China is hedging via absolute volume and diversification. This was made possible by a two-pronged strategy of Extreme Tariffs and Aggressive Diversification:

• The Tarriff Wall: Under tarriff, American soybeans have effectively been priced out of the Chinese commercial market, allowing Brazil to capture nearly 90% of imports between May and August.

• The Argentina Hedge: In 2025, the Argentine government’s removal of grain export taxes significantly boosted its competitiveness. While Argentina’s current exports are a fraction of Brazil’s, its growth trajectory is a key part of China’s dispersed supply roadmap.

• The Strategic Stockpile: By the end of 2025, China’s soybean reserves are expected to reach 43.86 million tons—accounting for 36% of total global stocks. This volume has quadrupled since 2015.

By buying heavily when U.S. prices hit a five-year low in late 2024 (anticipating political shifts), Beijing converted high-quality, low-moisture U.S. crops into a strategic reserve. And because China now sits on enough grain to ignore the U.S. market for months at a time, it no longer has to buy out of panic. The U.S. may have the efficiency engine, but China has built a “Grain Fortress” that allows it to dictate the timing of trade de-escalation.

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4. Geopolitical Decoding: Why Soybean?

Economic data shows the intensity of a trade war, but only political geography explains why China chose to “strike here.” In 2018, when the U.S. launched its Section 301 investigation, Beijing needed a target that would cause maximum pain in the White House.

The soybean was selected because it possesses the perfect “weapon attributes”:

• Massive Volume: It is the single most valuable agricultural product the U.S. sells to China.

• Substitutability: Unlike semiconductors, soybeans can be sourced from Brazil or Argentina, providing China with a strategic off-ramp.

• Political Sensitivity: The “Soybean Belt” is the heart of Trump’s electoral base.

This asymmetry turned soybeans into the ultimate bargaining chip. By hitting the income of U.S. farmers, China aimed to force agricultural interest groups to pressure the White House into concessions.

The Electoral Heartlands: A “Red” Infrastructure

Of the top ten soybean-producing states, eight are steadfastly Republican. While states like Illinois and Minnesota often lean Democratic, this is largely driven by urban centers like Chicago and the Twin Cities. Peel back the city layers, and the rural “Soybean Belt” remains a fortress of GOP support.

For the Trump administration, China’s “zero-purchase” strategy was a brutal political stress test. By weaponizing the economic anxiety of the American heartland, China is attempting to force a retreat at the negotiating table by holding the 2026 Midterm elections hostage.

If the GOP loses control of the House or Senate in 2026, Trump’s second-term legislative agenda faces total paralysis. And if China can manufacture enough panic in the “Soybean Belt,” the resulting electoral hemorrhage will force the White House to trade away its “America First” tariffs for farm-belt security.

But, is China’s soybean tactic working?

The soybean weapon may be causing pain, but it isn’t flipping votes.

• The Iowa Expansion: In Plymouth County, a titan of soybean production, Trump’s margin of victory actually widened from 9.4% in 2016 to 13.2% in 2024, despite years of bearing the brunt of Chinese retaliation.

• The Wisconsin Wall: In Rock and Grant counties—critical bellwethers in the swing state of Wisconsin—GOP support did not collapse under the weight of the trade war.

On the surface, the conclusion seems obvious: now that Trump has successfully secured a second term and the farming states remain “deep red,” then China’s “soybean revenge” has fundamentally failed.

But is that the whole story?

Did the soybean strategy fail?

“Failure” is the wrong framing.

This is not a win-loss binary; it is a high-stakes endurance test where both superpowers are locked in a short-term game of brinkmanship and a long-term state of Strategic Stalemate.

First, the hard fundamentals of global supply dictate that a total severance is mathematically impossible.

On the U.S. side, the stability was not a result of market resilience, but of a massive Fiscal Shield.

• The Subsidy Injection: The White House successfully blunted the trade war’s trauma by injecting tens of billions of dollars into the rural economy via “Market Facilitation Programs”. These were effectively “fiscal painkillers” that masked the true wound caused by the loss of the Chinese market.

• The Sustainability Trap: This is a hollow victory. The U.S. cannot indefinitely sustain a multi-billion-dollar “governance tax” to keep its farming base afloat. With a ballooning deficit and inflationary pressures, this fiscal safety net is fundamentally unsustainable.

• No Alternative to Scale: Even with the “Biodiesel Boom” absorbing more domestic supply, the U.S. has no external market capable of digesting its massive surplus. Abandoning China would mean a painful structural contraction of the entire U.S. agricultural engine.

On the Chinese Side, the structural pivot has introduced its own set of geopolitical and environmental vulnerabilities.

• The Two-Stroke Engine: Brazil harvests from February to May, and the U.S. harvests from September to November. This seasonal alternation is the world’s only true guarantee of year-round protein security.

• The Brazilian Exposure: By tethering itself almost exclusively to Brazil, Beijing has traded “U.S. Political Risk” for “South American Climate Risk”. Any major drought or political upheaval in Brazil now poses an existential threat to China’s livestock industry, as there are no other suppliers with the requisite scale to fill a Brazilian-sized gap.

Second, and perhaps most crucially, the essence of deterrence here is the systematic escalation of the “governance tax.”

Beijing’s soybean strategy was never a simplistic attempt to flip the ideological switch of the American farmer. In the rural heartland, cultural identity and patriotic narratives frequently override pure economic rationality; a trade war rarely turns a “Red” county “Blue” simply through market pain.

If the soybean weapon didn’t change the ideology of the American farmer, what did it achieve?

To raise the “Cost of Governance” for the opponent.

China’s strategy was never about winning hearts and minds. Instead, the strategy is designed to force the opponent into a state of fiscal and political exhaustion. By making the trade war as expensive as possible for the White House to manage, Beijing turned a “low-tech” commodity into a permanent drag on the U.S. Treasury.

Entering the Era of High-Friction Coexistence

For all the ideological noise suggesting a total decoupling, the recurring tariff salvos and purchase freezes of the 2018–2025 cycle were never truly intended to kill trade. Instead, they represent a paradigm of leveraged interdependence.

Both superpowers are now weaponizing election cycles and short-term policy tools—tariffs, subsidies, and tactical pauses—to extract maximum gain while hedging against the risks of mutual uncertainty.

The soybean has ultimately become the defining microcosm of this High-Friction Coexistence. We must accept that while trade volumes may never return to their 2017 peak, the “Free Trade” honeymoon of decades ago has officially ended.

Yet, the two economies remain more deeply fused than the decoupling narrative suggests. While both nations are aggressively building domestic “fortresses”, they remain tethered by the objective gravity of supply and demand. Beijing cannot forever sever its ties to American protein, and Washington cannot survive the loss of its most significant agricultural customer.

Both sides are desperately seeking “security” through localization, yet they are forced to maintain a minimum viable connection to keep their respective economies functioning.

This state of constant collision and collision-management is not a temporary crisis but the new structural reality. In the coming years, the relationship will be defined by this permanent tension—an era where friction is the constant, but the inescapable pull of mutual dependence continues to foster new, albeit difficult, opportunities.

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Hainan is China’s southernmost province, an island roughly the size of Taiwan. For decades, it has been best known domestically as a tropical vacation destination — a place of beaches, resorts, and winter getaways for Chinese families escaping the cold north.

To the casual observer, Hainan is often described as “China’s Hawaii.”

But for global investors and policymakers, December 18 marked something far more consequential. It was the moment Hainan formally transitioned from a leisure-oriented island economy into what Chinese policymakers call a “within the border but outside the customs” special economic zone — the operational launch of the Hainan Free Trade Port (FTP).

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How Does “Customs Closure” Work?

The term “customs closure” — or 封关运作 in Chinese — is easy to misunderstand.

“Closure” sounds restrictive, even isolationist. In reality, it represents the opposite. It is a deliberate step in China’s opening-up strategy, designed to expand zero-tariff access and ease cross-border trade — but within a carefully controlled geographic boundary.

Under the new system:

• Hainan and overseas markets effectively operate under zero-tariff treatment for eligible products

• Hainan and the Chinese mainland are separated by customs controls

This framework is often summarized by a phrase Chinese policymakers use repeatedly:
“First line open, second line controlled.”

In other words, Hainan becomes more open to the world, while its economic interface with the mainland remains regulated.

A Long-Anticipated Move

This shift did not happen overnight.

As early as 1988, Hainan was established simultaneously as a province and a special economic zone — the fifth in China, following Shenzhen, Zhuhai, Shantou, and Xiamen. Yet unlike Shenzhen, Hainan never became an economic legend. For most of the past three decades, its economic scale remained modest.

In 2010, Beijing elevated Hainan’s development to a national strategy, branding it an International Tourism Island and launching pilot programs such as offshore duty-free shopping. These policies helped tourism and consumption, but they stopped short of transforming Hainan’s economic structure. In 2024, Hainan’s GDP only ranked 28th out of 31 provincial-level regions in China.

And this time, the scope of opening is far broader: Duty-free product categories expanded from roughly 1,900 to over 6,600; cross-border foreign exchange controls were further relaxed to facilitate trade, reducing approval requirements and administrative friction; corporate and personal income taxes were also lowered to attract businesses and high-end talent.

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So Is China Building a New Hong Kong?

For foreign observers, this raises a natural question:

Is China trying to build a new Hong Kong — this time in Hainan?

After all, the similarities are hard to ignore.

Both are islands that sit at critical maritime crossroads. Both are designed as international trade hubs. And now, Hainan is introducing policies that sound very familiar: zero tariffs, simplified customs, looser capital controls, and preferential tax treatment for companies and talent.

So what’s really going on?

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That essay did not age particularly well.

By the end of 2025, few people would seriously argue that domestic consumption had become China’s top priority. Yes, consumption mattered. Yes, there were incremental pro-demand policies that would have been unthinkable a few years earlier—childbirth subsidy program, being the most visible example.

But taken together, these measures felt too small and too cautious. Even the birth subsidy program felt too modest. The familiar hesitation was still there. Consumption was encouraged, but never fully embraced.

And yet, over the past weeks, something genuinely different has begun to emerge.

First came Qiushi, the theoretical journal of the CPC Central Committee, publishing a curated series of Xi Jinping’s speeches from the past decade on domestic consumption. This was not a casual archival exercise. Several things stood out immediately. Consumption—more precisely, domestic demand—was explicitly framed as a strategic issue, not merely a desirable outcome. More importantly, a 2023 passage was highlighted in which Xi stated plainly that the key to boosting consumption is boosting income.

This matters because it eliminates any ambiguity about diagnosis. The leadership understands the problem. It understands the causal chain, so there is no intellectual confusion here. If execution fails, it is not because Beijing does not know what needs to be done.

Soon after, a senior official from the Central Office for Economic and Financial Affairs went further, stating outright that:

扩大内需是明年排在首位的重点任务。

“Expanding domestic demand will rank as the foremost priority next year.”

At the same time, People’s Daily, CPC’s main mouthpiece, just issued an explainer on why domestic demand ranks at the No.1 spot of all eight main priorities of next year:

Looking ahead, it is essential to genuinely enhance households’ consumption capacity and improve the social security system.

The investment structure should be optimized, with greater emphasis on consumption-related sectors, to promote a virtuous cycle between investment and consumption.

The official signaling can’t be clearer. So why is the market still not paying enough attention?

Because for years, the story of “boosting China’s domestic demand” has been a textbook case of that boy who cried wolf. More than a decade of speeches and urgings about consumption, demand, and rebalancing (including the Xi articles from Qiushi) can just as easily be read as proof that recognition has never been the constraint. It’s all about execution. If the problem has been so well understood for so long, why hasn’t it been decisively solved?

From this perspective, skepticism is entirely understandable.

Still, I think this time may be different—and that this possibility is being under-discussed. Let me explain.

First, I need to introduce a mental framework I use when thinking about China’s policymaking system. I sometimes call it the “Zhongnanhai Priority Framework.”

China is an all-encompassing state. Party documents touch everything: the economy, national security, education, technology, healthcare, the environment, ethnic policy, ideology. On paper, everything is always important.

In reality, nothing ever works that way.

A system this large cannot pursue a hundred objectives simultaneously. What matters is not what appears in documents, but what sits at the very top of the priority list on the leadership’s work desk—and that list is reordered constantly. When an issue genuinely rises to the top, the system can be astonishingly effective. Environmental enforcement in 2015–2016 is one example. Poverty alleviation was another. Anti-corruption at its peak was a third.

China does priorities extremely well. But the flip side of that is that it does non-priorities poorly.

For something as fundamental and sticky as shifting the fundamental growth engine from investment to consumption, partial prioritization is not enough. This is not a small technocratic tweak. It requires consumption to sit at the absolute top of that priority list, because there is immense institutional inertia against it.

Put yourself in the shoes of a mayor or county chief. You have a roughly three-year term. You want GDP growth, fiscal revenue, and employment stability. Do you focus on attracting a factory line that shows up cleanly in investment and output statistics? Or do you distribute cash or income support to households, hoping it turns into consumption rather than the more likely destination of even more savings?

The rational choice is obvious. Investment is fast, measurable, and politically safe. Consumption is uncertain, indirect, and often fiscally unrewarding for local governments. Even when households spend more, China’s tax structure means local governments capture little of the upside. Not to mention, China’s local governments have been severely underfunded for the past few years due to the real estate slump, making fiscal resources even more precious.

The local pushback is thus structural, and it is why exhortations alone do nothing. Overcoming it requires overwhelming top-down force, coordination across ministries, and meaningful changes to fiscal and tax incentives. Anything less simply dissipates.

Seen through this lens, it becomes obvious why 2025 did not see real action on demand. The core priority of 2025 was unmistakable. Everyone knows: it’s none other than the second Trump administration and the renewed trade war. The entire government sector braced itself for the impact of this event. Everything else, including consumption, was secondary. That was not a close call.

Here is where the setup for 2026 begins to look different.

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At the Wuwei Thorium-based Molten Salt Reactor (TMSR-LF1), a 2MWt (megawatt-thermal) experimental reactor, Chinese scientists successfully completed the facility’s first cycle of converting Thorium-232 into fissile Uranium-233 within a liquid fuel environment [*].

This breakthrough, achieved by the Shanghai Institute of Applied Physics (SINAP), marks the world’s first successful use of thorium in a molten salt reactor, which could be pivotal in the development of advanced nuclear energy systems using thorium as a sustainable fuel source.

This is a technical milestone—the first time in over 50 years that any nation has successfully operated a molten salt reactor of this type. But viewed through the lens of macro-strategy, this is not just a science experiment. It is the unveiling of a massive “strategic hedge” against China’s most glaring resource vulnerabilities.

For a nation that imports over 70% of its oil and over 80% of its uranium, energy security is a constant anxiety. The breakthrough in Wuwei offers a potential exit ramp from this dependency. (I wrote about this in the previous newsletter: “China is short on crude oil!”, where I explained how China’s vast land can be misleading, leading many to believe that the country is rich in strategic resources. In fact, many crucial resources are actually scarce. This supports the key motivations behind China’s national strategy to pivot toward EVs, sustainable energy, and generational projects such as building the world’s largest hydropower station in Tibet.)

By mastering the Thorium cycle, China is effectively unlocking a domestic energy reserve that has been sitting in its soil for eons, untouched—burning rocks that were once considered waste to power the country for thousands of years.

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From “Waste” to “Fuel”

In nature, Thorium and Rare Earth Elements are “twins”—they almost always coexist in minerals like Monazite.

For the rest of the world, this relationship is a curse. When Western companies mine for Rare Earths, they are forced to extract Thorium as a by-product. Because they lack a use for it, it is classified as hazardous radioactive waste, requiring expensive disposal and strict environmental permitting.

For China, however, this relationship is an industrial “cheat code.” Because China has monopolized global Rare Earth refining for decades, it has been passively accumulating massive stockpiles of Thorium. For instance, in the tailing dams of the Bayan Obo mine in Inner Mongolia, thousands of tonnes of Thorium sit waiting. (The Bayan Obo mine is the world’s largest deposit and producer of rare earth elements.)

While the US or Europe would need to permit and dig new mines to access this fuel, China simply needs to open the warehouse door. It is a pre-mined, pre-refined energy inventory that turns a decades-old environmental liability into a tier-one strategic asset.

The History of the Thorium Research and How China Did It

The concept of a molten salt reactor is not new; the technology behind the Wuwei reactor was actually pioneered in the United States. The US Oak Ridge National Laboratory (ORNL) proved the physics worked in the 1960s. In the 1960s, Alvin Weinberg, the legendary director of the ORNL in Tennessee, built and ran the Molten Salt Reactor Experiment (MSRE). It ran successfully for four years. Weinberg argued passionately that thorium was the safer, cleaner future of civil nuclear power [*].

So, why did the US kill the program in 1973?

The answer is a mix of Cold War pragmatism and technical hurdles.

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China must undertake significant structural adjustments. Consumption—not investment—must become the new engine of economic growth. And within consumption, the next major wave of expansion will come from services.

To understand the issue better, we turned to CF40’s recent research.

Why CF40’s new work matters

Some of you already know this, we are collaborating with CF40, China’s pre-eminent economic thinktank, to help run their English Substack, CF40 Research:

CF40 Research

Insights on China’s policies and markets from the leading think tank and top economists in China

Four recent pieces from CF40, taken together, offer one of the clearest pictures yet of China’s service-economy challenge.

The first essay, based on A-share consumer companies, shows that China’s consumption mix remains heavily goods-driven, that essential spending has risen since 2020, and that services remain underrepresented and undercapitalized.

The second essay revalues China’s actual consumption basket using foreign price systems and finds that China’s goods consumption volumes are already close to developed-country levels. The real gaps lie in services.

The third essay looks across 60 years of global data and shows that only two types of services consistently expand as countries become wealthy: producer services and high-end social services. These are precisely the areas where China lags behind.

The fourth essay examines how advanced economies avoid stagnation. It finds that welfare systems and knowledge-intensive services are essential for balancing high savings with adequate investment and consumption. These service-heavy systems are the institutional foundation China has not yet fully built.

Below is a detailed digest of these four essays, in sequence.

What A-share companies tell us about consumption

CF40’s “Understanding China’s Household Consumption through A-Share Consumer-Sector Listed Companies” begins with a simple but revealing fact: the listed consumer universe is overwhelmingly goods-oriented. As the authors write, “A total of 581 A-share consumer companies are selected as the analytical sample, of which 521 are classified as goods companies and 60 as services companies”. This imbalance mirrors the real economy.

From the A-share perspective, goods dominate both in scale and in structural trends. The authors note that “goods consumption showed an upward trend while service consumption exhibited a downward trend from 2014 to 2022”. Services only began to recover in 2023, and even then from a small base.

One of the clearest findings is the post-2020 pivot toward essentials. The paper highlights that “the share of essential consumption has increased, while the share of discretionary consumption has declined”. Grain and food products surged and have stayed elevated, reflecting both uncertainty and the defensive nature of household spending.

A-share data also became more tightly aligned with macro indicators after 2020. The authors report that “the linear correlation between the two growth series strengthens considerably after 2020… 0.7 for 2015–2019 and 0.97 for 2020–2024”.

In the conclusion, the authors underscore the central structural issue: “China’s share of service consumption still needs to increase, and the representation of service-sector firms among listed companies remains noticeably low”.

What China really consumes

In “The Value of China’s Consumer Basket in the U.S., Japan, France, Germany, and Mexico,” CF40 researchers ask what Chinese households actually consume, not what they spend. They reprice China’s consumption basket using foreign price systems.

The results challenge the prevailing narrative of “low consumption.” As the authors show, “China’s consumption basket is valued at $24,748 in the United States, approximately 80% of the U.S. level; $6,006 in Mexico… 1.17 times that of Mexico’s level; $9,253 in Japan, 93% of Japan’s level; and $9,235 and $10,805 in France and Germany respectively, approximately 75% of the levels in France and Germany”.

Even under the conservative scenario, which assumes unmeasured categories are as low as nominal data suggests, “China’s entire consumption basket is valued at $26,857 in the United States, representing 50% of U.S. per capita consumption”.

Where does China differ? In the parts of consumption that the basket does not capture. The authors explain: “The portions not included in the consumption basket are tobacco, alcohol and beverages, daily household goods, as well as service consumption in transportation, postal services, culture and entertainment, and restaurants and hotels services”.

In the summary, the authors remind readers that these measurement adjustments do not resolve structural issues. “Re-examining China’s consumption level does not resolve the existing structural challenges in the economy”. The challenge lies not in goods consumption, which is relatively high, but in the deep underdevelopment of many service categories.

Where service growth really comes from

“The Rise of the Service Sector in the Post-Industrial Era” looks across 23 economies over six decades. Its main finding is that the global rise of services is highly concentrated. As the authors write, “a very high proportion of the increase in the service sector’s share since 1965 comes from just a few subsectors”.

These subsectors fall into two groups.

First, producer services. The paper notes that these “account for about 60 percent of the rise in the service sector’s share”. These are the R&D, legal, accounting, engineering, and digital services that support a modern industrial economy.

Second, high-end social services. These include healthcare, social work, education, and other human-capital-related services. Depending on the sample, they contribute between 17 and 28 percent of service-sector expansion.

By contrast, the consumer-facing services people often associate with “service consumption” — restaurants, hotels, entertainment — remain small everywhere. They do not structurally drive service-sector growth.

The international comparison section quantifies China’s gaps. The authors write that China lags the global median in “renting and business services; health and social work; and real estate activities”. These are the very categories that expand most predictably as countries become wealthier.

The implication is direct: if China wants its service sector to rise to international norms, it must expand producer services and high-end social services, not rely on tourism or leisure alone.

How services prevent high-savings economies from stagnating

The final CF40 essay, “Rebalancing Savings and Investment in Industrialized Economies,” examines how advanced economies avoid the long-term stagnation that can arise when savings chronically exceed investment. The paper argues that much depends on households' ability to consume and firms' ability to invest in new forms of capital.

One mechanism the authors highlight is the development of new, service-heavy growth fronts. They write that advanced economies depend on “new investment opportunities in knowledge-intensive sectors” once traditional industrial returns decline. These sectors are overwhelmingly producer services: software, scientific R&D, intellectual property, and business services.

At the same time, social services and welfare systems reduce precautionary savings by lowering the household burden of healthcare, education, and old-age support. The combination of robust producer services and strong social services helps prevent persistent gaps between desired savings and actual investment.

This leads to the paper’s clearest message for China: countries at this stage “must build new institutional foundations for consumption and new frontiers for investment”. In China’s case, these frontiers align closely with the producer services and social services identified in the previous essays.

Bringing it together

Viewed together, these four CF40 essays point to a coherent conclusion.

China’s consumption challenge is not simply about confidence or stimulus. Goods consumption volumes are already high. What is small is the country’s service ecosystem: producer services that support innovation and industrial upgrading, and social services that reduce precautionary savings and support household wellbeing. The service economy is not just a symptom of development; it is the mechanism through which modern economies balance savings, investment, and household welfare.

For China to move into its next stage of growth, it must build the service infrastructure that its development level now requires.

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But there is a deeper layer to this story. China’s tech innovation doesn’t come out of nowhere; it flows from a massive, rigorously selected STEM talent pool. (For instance, DeepSeek’s founder and core team are local talents from Zhejiang University in Hangzhou, one of China’s most prestigious research universities.)

To truly understand the future of Chinese tech, you have to look at how that talent is made.

In this newsletter, I want to take you inside Westlake University — China’s first privately funded research university, also based in Hangzhou. During Baiguan’s very first China tour in late October, we visited Westlake University in Hangzhou, which offers a rare peek into how the country is innovating its higher education system to select and train the next generation of scientists, researchers, and world-class STEM talents.

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The context: How China’s broader education system works

When we talk about China’s higher education, we are usually describing a contradiction.

On the one hand, you have students studying insane hours, weekends included, with their fates sealed by a single score on the Gaokao (the national college entrance exam). There is a popular saying in China: “A single point on the Gaokao can crush thousands of competitors.“ It is brutal, stressful, and for many, results in a degree that doesn’t guarantee a job as the youth unemployment rate keeps climbing in recent years.

On the other hand, this same system produces students who dominate international math and science competitions, found groundbreaking companies, and drive technological breakthroughs globally.

How can a system be so stressful yet so effective?

All coins have two sides — the system isn’t designed to fit everyone, but it’s exceptionally good at selecting STEM talent. For quantifiable subjects, exams are simply the fairest way to give everyone — rich or poor — a shot at changing their fate. The Gaokao system is, in my opinion, less of an “education” system and more of a meritocratic selection mechanism.

However, in recent years, the system has faced a growing crisis of quantity over quality. Since 1999, China has massively expanded college enrollment. From 1998 to 2001, total higher-education enrollment nearly doubled. It relieved unemployment pressure at the time and raised overall education levels — but also created issues: too many poorly designed majors, student-to-faculty ratios ballooning, and degree inflation that left many graduates misaligned with the job market.

This backdrop—the need to build a parallel track to nurture top-tier talent—is why a case study of Westlake University matters.

Westlake University: a case study in educational innovation

It is easy to imagine that the entire Chinese higher education system works like the aforementioned exam-based, rote memory syllabus, and cutthroat machine. Westlake University is the opposite. It is small, flexible, research-driven, and deeply selective. And because it is private, it moves fast and has the freedom to choose exactly how it runs itself.

In China, where higher education is traditionally dominated by the public system, the concept of a private research university was almost unthinkable just a decade ago. Yet Westlake, founded only in 2018, is already attracting top talent globally. The proposal was made in 2015 by seven prominent scholars and entrepreneurs; it was quickly approved by Hangzhou and Zhejiang Province, and the government helped build a massive, brand-new campus with world-class labs in just a few years.

Westlake University is now home to a faculty of internationally recognized scholars, including Shi Yigong, a leading biophysicist and the university’s founder and current president.

Here is how they are doing it differently:

1. True “Liberal Education”—or rather, “teach students in accordance with their aptitude” (因材施教)

Westlake provides what the West might call a “liberal arts” education, but I prefer the Confucian concept of “因材施教 Yincai Shijiao”—teaching in accordance with the student’s aptitude.

This has long been the ideal of education in Chinese history, but due to massive college expansions, few universities today have the capacity to actually implement it. Westlake does, largely because it limits its scale to focus on quality. The university hosts only about 200 undergraduates compared to 2,700 PhD students and 300 professors, concentrating intensely on STEM and medicine rather than trying to be a comprehensive giant.

Because of this small ratio, the curriculum is highly personalized and interdisciplinary. For the first two years, undergraduates don’t even choose a major; instead, they choose a mentor. Based on mutual research interests, professors and students select each other, allowing students to explore research fields before committing. The atmosphere mirrors top US research universities, with students living in one of four residential colleges where they socialize and participate in extracurriculars with dorm-mates across different disciplines. Remarkably, for this level of education, the tuition for local students is just 6,000 RMB (approx. $845 USD) per year.

From Day 1, Westlake has been committed to a global standard of research. All classes are taught in English, and it is mandatory for undergraduates to study abroad for a semester or a year, supported by need-based scholarships.

The most fascinating part of Westlake is how they pick these students. The process is designed to find “prodigies,” with prospective students taking Westlake’s own exam before the national Gaokao. Remarkably, 60% of their admitted students have skipped a grade. Even though they are younger than the average high school senior, their Gaokao scores are typically only about 20 points shy of the ultra-elite Tsinghua or Peking University standards.

But high scores are just the prerequisite. Finalists must attend a 3-day assessment at the university where professors might deliver a lecture on a topic the students have never heard of, then test them on the spot to gauge their learning agility rather than rote memory. Students must also deliver a full English presentation. In Westlake’s values, they want talented minds who know, from very early on, that they want to become scientists and researchers.

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2. Embracing curiosity and the unknown

As a research university, curiosity and a willingness to embrace the unknown are deeply rooted in Westlake’s values. You can see this in their hiring strategy: they prioritize young professors—the average age is just 42, and 85% have overseas experience. Notably, 66% were recruited through state-sponsored talent acquisition programs designed to repatriate top scholars globally, ensuring that the faculty consists of world-class researchers returning to China with fresh perspectives.

During our lab tour, the team shared a story that perfectly captures this culture. Led by Dr. Sun Licheng, the group was researching bio-membranes designed to convert greenhouse gases like carbon dioxide into useful resources. They were specifically hunting for a cost-effective alternative to electrolyte membranes, which traditionally rely on expensive noble metals.

The breakthrough arrived by accident. The team discovered a watermelon that had been left in a forgotten lab refrigerator. When they found it, the skin had already naturally detached from the fruit due to the cold.

The team got curious: could the skin be useful? They decided to experiment. They took the skin, froze it, restored it to room temperature, and tested it. It worked—the material offered efficiency and dynamic response times that rivaled expensive noble metals. The professor told us this reflects their core philosophy: “start from nature and make some artificial things from it.”

In fact, this watermelon skin research won the Pineapple Science Award—a prize established in Zhejiang in 2012 (similar to the Ig Nobel Prize) to celebrate curiosity-driven, imaginative, and humorous research. It is a telling detail: when a university is rooted in a province that actively celebrates this kind of curiosity, it is likely no coincidence that tech talents and unicorns like DeepSeek are emerging from this city.

3. The governance model

As the first private research university in China, Westlake operates with a level of freedom that public universities simply don’t have. While public universities are led by a Party Committee, Westlake operates under a Board of Trustees leadership system where the Principal takes responsibility. The board includes heavyweights like Nobel laureate Yang Chen-ning, scholars, as well as entrepreneurs.

The funding model is a unique hybrid. The state provides the “hard assets” like land and lab equipment, but the private foundation covers the day-to-day costs such as salaries and operations. This allows them to pay market rates to attract top global talent. For instance, the university would tailor one lab for the newly hired professor to make sure he or she gets all that’s needed for the research.

This governance structure also leads to highly pragmatic and comprehensive decision-making. The Board of Trustees includes renowned scholars—such as former Vice Presidents of Tsinghua and Peking University—sitting alongside major entrepreneurs, including a co-founder of Alibaba Cloud. With one-third of the trustees being entrepreneurs (who have donated over 200 million RMB), the university bridges the gap between academia and industry. This means graduates are trained not just for foundational research, but also for down-to-earth, practical entrepreneurial work. In fact, Westlake has already incubated 52 high-tech enterprises, most of which are based right here in Hangzhou.

Since it relies on a foundation rather than the state for operations, Westlake is currently receiving donations but has reimagined fundraising in a way I’ve rarely seen elsewhere in China. We heard a fascinating anecdote about their donation flexibility: naming rights can extend down to specific seats in the auditorium. Someone, for instance, sponsored Row 5, Seat 3 simply because it matched their birthday. They even accept small donations via Alipay. By lowering the barrier to entry, the university found a fun way to maintain the deep connection supporters—both in China and abroad—have with the school, regardless of the amount they could afford to give.

This kind of flexibility is unheard of in traditional Chinese universities, but it makes perfect sense in Hangzhou—a city where the entrepreneurial private economy contributes over 60% of GDP and accounts for over 90% of all business entities.

Some say Hangzhou is becoming China’s Silicon Valley, and it’s an accurate analogy. Its population is digitally savvy and entrepreneurial, while prestigious institutions like Zhejiang University and Westlake University provide talent and fuel technological development. This ecosystem has birthed Alibaba, as well as the “Six Little Dragons”—influential startups including DeepSeek, Unitree, Deep Robotics, and Game Science (creators of Black Myth: Wukong).

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The broader innovation in China’s talent selection

Westlake isn’t alone. China has started building new pathways to cultivate foundational research talent.

Since 2020, China’s Ministry of Education has rolled out the “Pilot Reform Program of Enrollment for Fundamental Disciplines” (强基计划). This program targets students who are exceptional in foundational fields—math, physics, chemistry, biology, history, philosophy, and ancient linguistics.

The pilot program only involves a selected group of elite universities in China, and Admission is based on a composite score: at least 85% from the Gaokao (college entrance exam) plus about 15% from a school-administered test. Once admitted, students get specialized training: smaller classes, a mentor system, and are designed to support “undergraduate → master → PhD” pathways.

By 2023, the program had evolved: some schools added more interdisciplinary and strategy-relevant majors (e.g., AI, new materials), and tightened selection thresholds.

On this front, I have never doubted China’s ability to ensure its top STEM talent is selected and trained. This is not to ignore the obvious issues: the stressful exam-based system, massive class sizes, and degree inflation remain alarming problems for the average student. But for the true high-performers, it is fair to say that China’s higher education remains an effective meritocracy.

To be fair, even the average baseline is high. The average high school student here possesses math skills that often outstrip their counterparts in other countries—a disparity that becomes evident if you compare the difficulty of China’s standardized exams against Western equivalents like the SAT subject tests or AP tests. These innovations in education act as finer filters on an already massive, capable pool.

Such a system may not be optimal for liberal arts talent, but if you are good at math and science, you will have a fair opportunity. That reality lies the foundation for the sheer volume of brilliant scientists, researchers, and engineers coming out of China.

*Westlake University now operates primarily through its endowment and still relies on donor support. If you’re interested in learning more about its funding model or making a contribution, feel free to reach out to us.

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The most immediate impression came when I took a taxi. The driver’s attitude was remarkably pleasant. In a 2023 article, I wrote about the struggles of ride-hailing drivers—oversupply, the overwhelming power of platforms, and rental companies squeezing their earnings. In Shanghai, taxi drivers often seem irritable and quick to complain. At Hongqiao Airport, if your trip is a short one, drivers can get visibly upset after waiting in line for hours for a passenger. But the drivers in Yulin appeared far more relaxed, unhurried, and content, even with fares as low as ¥5–10. The contrast with Shanghai was striking.

I’ve heard that many locals received substantial cash compensation from the government for land acquisition. They don’t necessarily need the money, but they drive to maintain a daily routine—to have somewhere to be, something to do.

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Yulin’s economic profile: An energy hub with pioneering social policies

Yulin’s GDP has consistently ranked second in Shaanxi Province, second only to the provincial capital Xi’an. Its economic output even surpasses that of some provincial capitals in western China, making it a crucial economic driver for Shaanxi. With its high-value energy industry and relatively small population (around 3.6 million), Yulin’s GDP per capita is among the highest in Shaanxi and nationwide, even exceeding that of some eastern coastal cities.

Boasting world-class energy and mineral resources, Yulin is often called the “Kuwait of China.” Coal is the absolute backbone of its economy—the Yulin Coalfield is one of the world’s seven largest, with massive reserves of high-quality coal (low ash, low sulfur, low phosphorus, high calorific value). The city is a core base for China’s “West-to-East Coal Transmission” strategy. It also forms a key part of the Shaanxi-Gansu-Ningxia oil and gas field, with abundant reserves of petroleum and natural gas.

Supported by its resource-driven fiscal capacity, Yulin and its affluent counties—such as Shenmu and Fugu—have rolled out social policies that exceed national standards and gained nationwide recognition:

• “Shenmu Healthcare Reform” (*): As early as 2009, Shenmu pioneered a “universal free medical care” system. Funded by local fiscal revenue, the policy covers the majority of hospitalization expenses for urban and rural residents at designated hospitals within the city. Although implemented at the municipal level, it demonstrates how resource wealth can support high-level welfare programs.

• 15 Years of Tuition-Free Education: Yulin has implemented 15 years of free education from kindergarten through high school across the entire city—6 years longer than the national 9-year compulsory education requirement—significantly reducing the financial burden on families.

*National Basic Insurance: Across China, the basic medical insurance system consists primarily of two schemes: one for urban employees and another for urban and rural residents. These schemes provide a fundamental level of coverage, but patients still bear a significant portion of costs through deductibles, co-payments, and expenses for drugs or services outside the reimbursement list. The out-of-pocket burden can be substantial, especially for major illnesses.

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Urban infrastructure: A train station with crystal-clear screens and only public service ads

The quality of Yulin’s urban infrastructure is immediately apparent in public facilities like its train station. Unlike the often crowded and commercially saturated stations in major hubs, Yulin Station feels spacious, well-maintained, and thoughtfully designed.

A striking detail captures this perfectly: the digital display screens within the station are exceptionally high-definition, arguably sharper than many home televisions. More notably, these screens are dedicated solely to broadcasting public service announcements (PSAs), with no commercial advertisements in sight.

Well-preserved folk culture in Yulin: prosperity makes courtesy/”仓廪实而知礼节”

If you have visited various “ancient towns” and “old streets” across China, you may have noticed that most of them feel strikingly similar. The reason lies in the fact that many of these historic streets and towns have been restored or reconstructed essentially as commercial real estate projects. To recoup investments quickly, minimize risks, and ensure profitability, developers tend to adopt the most proven and low-risk development templates—standardized architectural designs that can be rapidly replicated nationwide.

Furthermore, shops in these ancient towns are mostly operated by individual tenants whose product selection follows a simple logic: whatever sells well gets stocked. Sourcing from national wholesale markets like Yiwu offers low costs and variety, but inevitably leads to the same products being sold everywhere. Embroidered bags, wooden combs, ethnic-style scarves, and low-quality crafts become the standard fare. Similarly, snacks like stinky tofu, grilled sausages, bubble tea, and skewers—easy to make, widely popular, and highly profitable—naturally become merchants’ first choice, crowding out traditional local snacks that require complex techniques, carry unique regional characteristics, and may appeal to a smaller audience.

However, Yulin Old Street is distinctly different.

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Firstly, alongside tourists, the street is also frequented by locals who visit its grocery stores, dairy shops, and food suppliers. Secondly, folk culture is visibly alive and present everywhere. For instance, there is a shadow puppet (”皮影戏”) museum housing the private collection of a German enthusiast. After the puppets were damaged in the floods in Germany a few years ago and the collector unfortunately passed away, the museum has been meticulously restoring them.

To escape the rain, we stepped into a Northern Shaanxi storytelling hall (”陕北说书馆”), where entry was free. We watched a documentary about the art of storytelling and a live performance.

*The game Black Myth: Wukong masterfully incorporates the gritty, narrative strains of Northern Shaanxi Storytelling as a diegetic narrator (Let me show you a glimpse of it with this video clip)

Another example is Colored Cotton Collage Art. As the name suggests, it is a form of relief art created using colored cotton as the raw material, through techniques such as layering, attaching, and sculpting. It is not a centuries-old craft, but rather a unique folk art invented by Mr. Zhang Shiyu, a folk artist from Yulin, in the 1990s. It has been included in the Shaanxi Provincial Intangible Cultural Heritage protection list.

When we went into a small shop displaying colorful cotton collage art, an elderly gentleman welcomed us and explained that the craft wasn’t centuries old—it was actually invented by his father, and now he and his son are carrying it forward. Here, cultural heritage is not a static relic; it is vividly alive and actively present.

As I write this, my initial point was to illustrate the vastness of China and the tremendous disparities that exist between different regions—economically, fiscally, socially, culturally, and in the daily lives of their residents. While young people struggle to find jobs in first-tier cities and the middle class grapples with falling property prices and mortgage stress, there are places where people lead prosperous and tranquil lives.

However, upon closer examination of Yulin’s economic situation, I’ve come to recognize underlying risks. The main concerns are: 1) its heavy dependence on resource prices, and 2) the significant disparities within Yulin itself, between its different areas.

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Underlying risks: Over-reliance on the energy sector and uneven development

Yulin’s economic vitality is measured by the rhythm of a single heartbeat: the price of coal. This energy-rich region lives and breathes by the fluctuations of its primary resource—where fiscal health and personal prosperity rise and fall with the market’s every tremor.

Yulin’s economic trajectory has been closely tied to fluctuations in coal prices. In 2021, as prices surged to historic highs, the city’s GDP and local fiscal revenue grew markedly—with fiscal revenue jumping 44.6% year-on-year—while household incomes also rose rapidly. In 2022, although coal prices retreated from their peak, they remained elevated, allowing fiscal and income growth to continue, albeit at a more moderate pace. By 2023, as coal prices settled into a more rational range, growth in GDP and fiscal revenue slowed further.

Yulin also faces pronounced internal imbalances. At the regional level, resource-rich northern counties such as Shenmu and Fugu—which contribute the bulk of municipal fiscal revenue—enjoy significantly higher per capita incomes than agricultural southern counties. At the sectoral level, industries like energy extraction and chemicals generate far higher incomes than agriculture or traditional services, creating a stark “energy-rich, rest-poor” divide. This dual disparity, both geographic and industrial, highlights the typical “internal inequality” of a resource-dependent economy.

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China has also made functional advances in technologies such as drones, extra-large unmanned underwater vehicles, and other unmanned aerial systems. Unlike a decade ago, the parade demonstrated China’s growing ability to organize coordinated military operations, integrating multiple units to act coherently.

Because China has enjoyed decades of peace since WWII, most of its weaponry has not been battle-tested, making it difficult to fully assess their performance for potential global buyers. That said, Chinese military technology is gaining increasing attention internationally. For example, Pakistan’s use of Chinese-supplied Chengdu J-10C fighter jets, reportedly shooting down multiple french-made aircraft in a conflict with India in May this year, marked one of the first significant combat tests for Chinese-made equipment against Western systems.

While rising geopolitical tensions cannot be ignored and conflict is not desirable, it is now worthwhile to set aside political debates and “China threat” narratives to objectively examine the current state of China’s defense capabilities and its position in the global arms trade.

In today’s newsletter, we translate a highly informative overview addressing exactly this question: where does China rank in global arms exports? The original content comes from a YouTube video essay by 巫师财经, whose career began as a banking analyst at China International Capital Corporation (CICC) before co-founding his own fund, and who now produces finance and business content. (For fluent Chinese speakers, the original video essay can be viewed on YouTube here.)

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Below is our translation of the video transcript. Some narration scripts and charts have been abbreviated or reformatted for clarity.

Military trade behind the parade: where does China rank in global arms exports?

How competitive are Chinese weapons?

How well do Chinese weapons sell globally? How much revenue do they generate? And who are the buyers?

Over the past decade, China accounted for about 6% of global arms exports, ranking fourth. The United States, with roughly 40%, remains the undisputed global powerhouse of weapons exports. Russia ranks second at 15%, though that largely reflects legacy sales.

Viewed in isolation, the trends are striking. Russia’s share, once 21% in 2015, has collapsed in recent years, leaving it on par with China. The U.S., by contrast, has seen a steady climb, reaching 47% of the global market in 2024—nearly half of the world’s arms trade. China, meanwhile, quietly gained ground: between 2021 and 2023 its exports exceeded Russia’s, peaking at 10% in 2023.

In absolute terms, China’s 10% that year placed it second globally.

The turning point came around 2012–2014, when China shifted from being a major importer to a net exporter.

Imports, in fact, have collapsed. China’s share of global imports fell from 7.4% to just 0.2% last year, dropping its ranking from the global top 10 to around 50th.

What lies behind the business numbers? It’s strength.

China’s place in global military power rankings

GlobalFirepower’s 2024 index, covering 145 countries, places the U.S. first, Russia second, and China third. India, South Korea, the U.K., France, and Japan occupy the next five slots.

The ranking, known as “PwrIndx,” aggregates more than 60 factors—from manpower and equipment to resources, fiscal capacity, and geography. A lower score signals greater strength. By this measure, China and Russia are tied at 0.0788. But as with all indices, methodology is political. Western institutions carry their own biases. If the U.S. Navy were publishing the report, China might be portrayed as poised to strike America’s shores—an argument designed to justify bigger budgets. GlobalFirepower, if anything, tilts the other way.

Even so, the pattern aligns with export data: the U.S. dominates in a league of its own; China and Russia make up the second tier; the rest trail far behind. India, though ranked fourth, lags significantly behind the top three.

If you look into China’s specific score composition, the ones holding things back are mostly related to energy consumption, debt issues, and long borders with other countries. When it comes to actual equipment numbers and quality, the scores are very high. Essentially, it all comes down to how the weights are assigned.

But maybe it’s just that after years of doing the dirty work in investment banking, I tend to assume others are always thinking a bit schemingly. At CICC, we used “Dealogic” to cut the data until we ranked first. If total IPOs didn’t put us on top, we narrowed it to state-owned IPOs, or to overseas SOE deals. If that still didn’t work, we built a weighted scoring system that gave larger transactions higher multipliers. In the end, the numbers delivered the headline we wanted: CICC was No. 1. Clients never cared about the methodology—only the headline result. By the same token, military indices should be treated as indicators of trends, not absolute truths. As Nietzsche put it, “There are no facts, only interpretations.”

Does this mean China’s ranking is artificially deflated? In practice, its defense industry has already advanced considerably. Arms import data tell the story: between 2020 and 2024, the world’s top arms importers were Ukraine (8.8%, it’s at war, after all), followed by India (8.3%), Qatar (6.8%), and Saudi Arabia (6.8%). Their primary suppliers were the U.S., Germany, and Poland.

Among the top 20 arms importers, almost all sourced from the U.S. and Europe, with only occasional purchases from Russia. Pakistan was the lone exception: 81% of its weapons came from China. This shows that Chinese equipment has yet to gain broad global recognition, or that the current global landscape limits the reach of China’s defense exports. After all, arms trade carries strong political significance, and the diplomatic environment remains relatively challenging.

For now, China cannot break into Western markets. Beyond Pakistan, the question remains: where else can Chinese arms find buyers?

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Who is buying China’s weapons?

Looking at China’s top ten buyers over the past ten years, these are the countries that have genuinely put down their money. Some might say, ‘Except for Saudi Arabia, aren’t these all relatively poor countries?’ Even so, this is already a solid achievement, achieved through China leveraging two major factors: ‘defense balancing’ and ‘opportunistic openings.’ And that’s on top of the fact that our equipment offers higher cost-performance, comes without political strings attached, and often includes favorable financing—later you’ll see why this matters.

Over a ten-year period—not just five-year—Pakistan accounts for half, ranking first. Bangladesh is second at 11%, Thailand fifth at 4%, and Serbia sixth at 3%, all showing signs of seeking defense balance. Beyond surface-level friendship, this is a key factor allowing us to expand into these markets. The other factor, of course, is taking advantage of ‘opportunistic openings’ (Baiguan: Beijing’s readiness to fill supply gaps when traditional suppliers falter.)

Thailand is a case in point. Beyond its traditionally friendly ties with China, it had already purchased a range of Chinese equipment. But Thailand also sourced heavily from Ukraine, especially tanks and armored vehicles. When the Russia-Ukraine war broke out, China stepped in to fill the gap, and exports to Thailand increased further. According to The Diplomat, between 2016 and 2022 Thailand imported $394 million worth of Chinese arms—well above the $207 million it purchased from the U.S. during the same period.

Myanmar, which accounted for around 5% of China’s exports over the past decade, has become the fourth-largest customer. Once subject to a Western arms embargo, Myanmar began expanding foreign procurement after sanctions eased in 2010. China seized the opening, offering comprehensive arms sales to meet its growing defense needs.

Further up the list, Algeria stands out as China’s third-largest customer—and a reminder that Africa has become a critical battleground in the global arms trade. Between 2020 and 2024, Russia supplied about 21% of Africa’s weapons imports, China 18%, and the U.S. 16%. Algeria is the continent’s heavyweight buyer, at one point accounting for more than one-third of Africa’s total arms imports. Historically, over 60% of Algeria’s purchases came from Russia. But as the war in Ukraine consumed Russia’s defense industry, supply gaps opened. China quickly moved to fill them, and today it has become Algeria’s second-largest supplier, with a 14% market share.

Nigeria, ranked eighth, highlights China’s growing footprint in Africa. Between 2020 and 2024, China was the largest arms supplier in West Africa, with a 26% share, followed by France (14%), Russia and Turkey (11% each), and the U.S. (4.6%). But China’s role in Africa goes beyond sales figures.

Africa’s political landscape is defined by instability and recurring civil wars, where holding power often requires genuine military strength. Against this backdrop, military education has long been a pillar of China’s influence. The Nanjing Army Command College trained numerous African leaders, including Namibia’s former president Sam Nujoma, Tanzania’s former president Jakaya Kikwete, the Democratic Republic of Congo’s former president Laurent Kabila, Eritrea’s president Isaias Afwerki, and Guinea-Bissau’s former president João Vieira.

Many senior and mid-level officers from countries like Uganda and South Sudan have also studied at China’s Shijiazhuang Army Command College—now the Joint Operations College of the National Defense University—including both current and retired officers. Don’t underestimate these African officers trained in Chinese military academies; they could very well be the children of their country’s ruling elite, a general, or even a future president

In sum, China’s arms exports to Africa benefit from competitive pricing and flexible financing, reinforced by its deep economic and infrastructure ties across the continent. Just as important, Chinese weapons come with no political strings attached and a policy of non-interference—an approach that resonates strongly in politically sensitive West African states. By contrast, U.S. and Western suppliers often impose conditions linked to political reform and human rights, while charging higher premiums. Russia, meanwhile, is consumed by the war in Ukraine. Against this backdrop, China’s long-term positioning in Africa is beginning to translate into a clear competitive advantage.

In fact, as a ‘latecomer’ in the arms market, China has been finding opportunities to expand amid territories long dominated by the U.S. and Russia. International observers often mock that we only export to small countries—but isn’t that obvious? The two major powers have already divided up the big markets, and which weapons a country buys is primarily a political signal of alignment. The markets we can penetrate now are basically what we can extract from the pockets of these two big players—a gift of timing, geography, and strategy.

A broader point is that the focus isn’t just on who we sell to, but on actually getting our weapons into the field so they can be demonstrated in action. While we don’t fight proxy wars, seeing our equipment used in real operations is crucial. Publicly reported examples—like Egypt’s counterterrorism operations in Sinai (March 2017), the Iraqi government’s strikes against ISIS (2014), the Yemen Civil War (2016–2021), and the Libya Civil War (2019–2021)—all show Chinese drones in action. These smaller conflicts, which didn’t make headlines, verified the practical utility of our drones, gradually earning international acceptance and purchases. After all, people were initially skeptical of Chinese equipment, and this year Pakistan helped trigger a new surge of interest in our products.

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China’s “Deepseek Moment” in the global arms trade

This moment can be called a ‘Deepseek’ moment for China’s arms trade—In the early hours of May 7, India and Pakistan fought an aerial battle lasting more than an hour. It was India’s deepest strike into Pakistani territory since the 1971 war. Despite India’s superior overall strength and its French-built 4.5-generation fighters, Pakistan’s air force—equipped with China’s J-10CE, the export version of the J-10C—emerged with a decisive advantage. Within minutes, the J-10CE shot down incoming Indian jets “like a phantom,” sparking a flood of commentary praising the aircraft’s prowess.

“Afterward, many people started saying how impressive our J-10 is, claiming: ‘Even though it’s older equipment, it’s so powerful, effortlessly taking down India’s French fighters and showcasing China’s might.’ But that’s not quite right. Let’s skip the hype and look at the facts.

The full picture is this: the J-10CE, together with PL-15 beyond-visual-range missiles and supported by the ZDK-03 early warning aircraft, forms a three-dimensional combat system covering early warning, targeting, and strike. It establishes an integrated land-and-air defense zone with roughly a 200-kilometer radius. You can think of the J-10CE as a semi-stealth missile launcher with its radar turned off—the missiles themselves are guided by the early warning aircraft, striking targets beyond visual range unexpectedly and significantly reducing the risk of enemy detection. That’s why I describe it as acting like a phantom.

Reports on the number of downed aircraft vary. Pakistan claimed it had shot down five: three French Rafales, one Russian-built Su-30MKI, and one MiG-29UPG. The tally may not seem high, but in a contest of systems against systems, the result was decisive. From the Indian perspective, their fighters were struck “before they even realized it,” leaving them in a state of confusion. Some accounts suggest India’s Rafales were primarily configured for ground-attack missions and not fully prepared for air combat. More critically, India’s air force operates a patchwork of Russian, French, and U.S. equipment, leading to poor data-link integration and a systemic disadvantage. Had Pakistan pressed further, it might have inflicted greater losses.

But warfare isn’t just about fighting; there are also political and social considerations. I’m not a current affairs commentator and won’t discuss India-Pakistan or China-U.S.-Russia relations. I just want to highlight that this demonstrates the practical combat capability of China’s ‘detect-and-strike’ system. During those days of sustained operations, the successful interceptions by our HQ-9 air defense system further showcased breakthroughs in China’s system-level warfare capabilities.

For years, China’s defense exports were dismissed by many major importers—partly for political reasons, and partly because of an enduring perception that Chinese systems were cheap and low quality. The recent event, however, was a turning point—a Deepseek moment—demonstrating that China can deliver not only advanced hardware but also a full-spectrum military solution. Purchasing the system effectively creates a 200-kilometer defensive bubble: within that radius, anything that enters risks being destroyed.

Unsurprisingly, the event drew global attention. Within a month of the clash, Indonesia’s deputy defense minister publicly confirmed the country was evaluating procurement of the J-10. The irony is striking: Indonesia had already signed a deal for 42 French Rafales and was in talks for U.S. fighters. Yet after watching Rafales shot down, it was natural for Jakarta to consider China’s system—more capable and more cost-effective—as an alternative.

According to Spain’s Defensa News, Colombia is also evaluating a potential switch to China’s J-10, with reports citing a base unit price of around $40 million and concessional financing on offer. China has already tabled a formal proposal for the sale of at least 24 J-10CE fighters. In the same month, Bangladesh was also reported to be advancing plans to procure 16 J-10CEs.

At roughly $40 million apiece, a 24-aircraft package approaches $1 billion in value—and that figure covers only the jets themselves, excluding associated systems and support. The case highlights how fighter aircraft, sold together with their integrated operational packages, have become China’s most commercially viable and premium-priced defense platform.

What does China sell the most?

So which category of Chinese equipment sells the most? Many might guess missiles—thanks to jokes about “missiles sprouting in the desert”—or perhaps drones, often portrayed as China’s high-volume, cost-effective exports. In reality, the answer is engines. Over the past decade, engines accounted for 51% of China’s arms export value, followed by aircraft platforms at 29%. Missiles and air-defense systems each made up just 6%, with all other categories barely registering.

For missiles, the leader is not China but the United States. In fact, aircraft are also the top source of U.S. export revenue, representing 58% of its sales, with missiles in second place at 19%.

Who buys America’s weapons?

Since we’ve mentioned the U.S., it’s worth pulling their numbers too. After all, critics often point out that China’s defense industry relies too heavily on Pakistan—a situation that in investment banking terms would be called “overexposure to a single client.” The concern is valid, but the U.S. faces a similar pattern.

America’s largest customer is Saudi Arabia, which accounted for 17% of its arms exports over the past decade. Other buyers—such as Australia, Japan, Qatar, and South Korea—pale in comparison, each representing only a fraction of Saudi Arabia’s purchases. The difference is that Washington’s top client share is not as disproportionately high as Beijing’s.

Between 2015 and 2024, the largest recipient of U.S. arms exports was Saudi Arabia (17.0%), followed by Australia (7.7%), Japan (7.3%), Qatar (6.0%), South Korea (5.4%), and Ukraine (5.1%). Other major destinations included the United Kingdom (4.3%), the United Arab Emirates (4.2%), Israel (3.5%), and Norway (2.9%). Together, these top ten markets accounted for a significant share of total U.S. arms exports over the period.

Where do China and the U.S. import their weapons from?

What about the other side of the equation—do China and the U.S. themselves import weapons, and if so, from where?

For the U.S., imports are negligible, a tiny fraction of its already massive exports. Its purchases mainly come from European partners such as the U.K., France, the Netherlands, and Germany.

Between 2015 and 2024, the leading suppliers of U.S. arms imports were the United Kingdom (18.0%, USD 1,302 million), France (13.0%, USD 911 million), the Netherlands (12.0%, USD 851 million), and Germany (12.0%, USD 823 million). Other major sources included Israel (10.0%, USD 726 million), Italy (7.0%, USD 499 million), Norway (5.6%, USD 399 million), Sweden (5.0%, USD 356 million), Australia (4.2%, USD 300 million), and Jordan (3.8%, USD 271 million).

China’s pattern looks different. Russia has been its largest supplier, followed by France, which primarily provides high-end components such as aircraft engines. The third source may be more surprising: Ukraine.

Between 2015 and 2024, the primary supplier of China’s arms imports was Russia (74.0%, USD 7,277 million), followed by France (11.0%, USD 1,110 million) and Ukraine (8.4%, USD 833 million). Other notable suppliers included Switzerland (2.0%, USD 195 million), the United Kingdom (1.9%, USD 190 million), Germany (1.8%, USD 176 million), and Uzbekistan (1.0%, USD 102 million).

China-Ukraine relations have historically been decent, with Ukraine serving as a crucial partner for China’s defense industry thanks to its inherited Soviet-era heavy industrial base. Naval propulsion was particularly critical: China imported Ukrainian gas turbines such as the UGT-25000 to power its 051C and 052C/D destroyers, filling a gap in domestic large-scale marine engines. In aviation, Ukraine’s Motor Sich supplied jet engines for the L-15 advanced trainer and provided helicopter engine support. The most emblematic case was in 1998, when China purchased the unfinished Soviet aircraft carrier Varyag from Ukraine. After years of modification, it eventually became China’s first aircraft carrier, the Liaoning. Other transfers included design data for the An-225 transport aircraft and technology related to air-to-air missiles.

At the time, Ukrainian arms sales to China carried fewer political restrictions, while Ukraine still retained significant technical strengths in fields China urgently needed, such as propulsion and shipbuilding. Meanwhile, Ukraine’s post-Soviet economy was chronically weak and in desperate need of cash. Once an industrial powerhouse within the Soviet system, it found itself adrift after the collapse, effectively selling off assets to survive. For China, securing this “great-power inheritance” at relatively low cost proved a bargain—allowing it to rapidly close critical gaps in aircraft carriers, marine engines, and related technologies.

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Targeted imports, domestic breakthroughs

After 2010, China’s approach to weapons imports shifted toward small-batch, specialized procurement—purchases aimed less at filling arsenals and more at acquiring critical technologies. Buying fighter aircraft, for instance, was often about studying their engines; importing an air-defense system also meant dissecting its radar technology. China has continued to import certain core subsystems abroad to bridge gaps in domestic manufacturing.

Today, the balance has flipped: China’s exports are moving up the value chain, from low-cost, high-volume equipment to advanced, high-margin systems. In 2023, six Chinese companies ranked among the world’s top 20 defense firms, with the highest reaching No. 8. The global league tables are now dominated almost entirely by U.S. and Chinese firms, with only occasional entries from Russia and Europe.

One important distinction remains. For leading U.S. defense contractors, more than two-thirds—and in some cases over 90%—of revenue comes from weapons sales. By contrast, for Chinese firms the figure is far lower, typically 20–30%.

The relationship between U.S. defense contractors and the government is unusually tight. These companies depend heavily on government contracts, while US officials often rely on the industry for financial and career incentives. Legislators push policy and budgets; defense agencies define requirements and procurement processes.

Companies, through lobbying and personnel movement—especially the U.S.’s unique ‘revolving door’ practice—ensure contract awards and ongoing purchases, even involving key corporate personnel in policy-making itself.

Much of this cannot be spelled out openly, yet over decades it has built a stable ecosystem: America’s second-largest capital complex after finance, one sustained by constant conflict abroad. Under this model of “perpetual war,” it is no surprise that more than 90% of U.S. defense firms’ reported profits stem from weapons sales.

China’s defense industry, by contrast, is constrained by international politics but structured differently at home. Through a strategy of military-civil fusion, most Chinese defense companies also develop civilian applications—in electronics, machinery, and related fields—giving them more diversified revenue streams.

Although China’s defense industry has developed rapidly, its technological level still lags far behind that of the U.S., and the profit margins on Chinese equipment are much lower than those of American defense firms. Winning the current market through cost-effectiveness, lack of political strings, and long-term strategic planning is already a significant achievement.

The recent “Deepseek moment” may mark a turning point, sparking a new wave of demand. While the overall scale of our arms trade still falls far short of challenging the U.S., the limited markets we have tapped provide more Chinese equipment with real-world operational opportunities. In today’s volatile global environment, the test is whether Chinese equipment can move beyond its old reputation for being “cheaply made” to one of being “affordable and reliable.”

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Baiguan Youtube

This past weekend, I went to see the 1st World Humanoid Robot Games held in Beijing.

The event welcomed 279 teams from 16 countries, with more than 500 humanoid robot “athletes.” Among them were China’s domestic “superstars,” such as Unitree (the Hangzhou startup whose robots danced at China’s Spring Festival Gala) and Tiangong (the robot that won first place in the humanoid robot marathon back in April, also held in Beijing).

Today, I want to share some of the best (and funniest) moments! (Some of the GIFs were taken by me at Sunday’s event, and others were kindly created by 量子位, an excellent publication on WeChat that focused on AI and technology trends.)

It was a 3-day competition featuring a wide range of events: 3v3 football, 5v5 football, kickboxing, and track-and-field sports such as high jump, long jump, 4x100 relay, 100m/400m dash, 1500m run, obstacle race, and even gymnastics—the setup was very much like a human Olympics.

Unitree won a total of 7 gold medals, including the 100m obstacle race, which tested humanoid robots’ ability to run, jump, balance, and identify barriers.

“奥林1队 (Olympics Team 1)” won the kickboxing final, which was actually remote-controlled by award-winning athlete Xue Ming, who played for China's national volleyball team.

The much-anticipated 5v5 soccer tournament was won by Tsinghua University. All teams used Booster Robotics T1 hardware, competing by optimizing algorithms. Booster Robotics—founded in 2023, also by Tsinghua alumni—designed humanoid robots specifically for developers and researchers. The T1 model became the only humanoid robot showcased at NVIDIA’s Spring Festival event.

The soccer matches were fully autonomous.

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A highlight: the game rules encouraged autonomous control. For instance, in track and field, robots got a 20% reduction in running time if they were fully autonomous. Tiangong Ultra won the 100m dash under full autonomous mode (the team engineer had to chase it hard to keep up!).

But of course, penalties were applied to those that “hit and run.”

Another highlight: beyond competitive sports, the Games also featured real-world scenario competitions—from hotel service and cleaning to medicine sorting and industrial material handling. These tasks required both accuracy and speed.

For instance, the medicine-sorting task required the robot to first read the prescription (fortunately, it was computer-printed, not handwritten by doctors) and then retrieve the correct medicine from the shelf.

The Games welcomed 192 university teams and 88 enterprise teams, with prize money of 10,000, 30,000, and 50,000 RMB awarded to the winners of scenario-based competitions. Teams used a variety of hardware, but impressively, all robots competing were autonomous.

There were plenty of funny moments. Everybody had a good laugh.

“Sir falls a lot”

“Sir hit my engineer”

“Human ambulance”

A robot (funded by Chia Tai Group) that took forever to finish the 4x100m relay race—but when it finally crossed the finish line, the whole audience clapped.

“Cutie McSmarty Bots” getting their medals

Robots hip-hop dancing,

walking in a fashion show (with clothes designed by local students from Beijing),

and even performing a Terracotta Army drum show.

Because it’s summer break in China, the audience was full of kids. I often overheard parents telling them: “Fun, right? Study hard and grow up to be like these engineers!” Even during vacation, Chinese parents never miss the chance for a “gentle push”—but I liked the fact that in China’s culture, engineering and tech aren’t considered nerdy—they’re seen as something worth celebrating with a fun event like this! (At one point, the commentator invited the entire audience to chant "Hello, world" :) )

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Robots fell a lot in the competition—but that’s half the fun! I really do hope to see this turn into an annual (or even Olympic-style) global event. The next decades will be the race of brilliant minds—What could be cooler than a worldwide showcase of such progress?

Some people complained that many of the competitions were “useless” (like dancing robots). But I think it’s awesome that China is finally encouraging these so-called “useless” pursuits by hosting a full-fledged Games. Innovation is born from generous funding, relentless trial and error, and—equally important—the curiosity and joy of doing many "useless" things just for fun. Great inventions can't be planned!

Below are the winners of the major competitions and their corresponding hardware (chart organized by the Goldman Sachs team).

And if you’d like to further understand the investment implications behind the humanoid robot value chain, you can read my previous newsletter on the topic:

I hope you enjoyed this newsletter as much as I enjoyed watching the Games!

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On July 19, 2025, Chinese Premier Li Qiang stood in the remote southeastern Tibetan city of Nyingchi and announced the official commencement of the Medog hydropower station—what he termed a "project of the century".

The mega project is a hydropower station on the lower reaches of the Yarlung Tsangpo River, a plan of such breathtaking scale that it redefines the very concept of a mega-project. With a projected investment of 1.2 trillion yuan (approximately $167-170 billion) and a planned annual electricity output of 300 billion kilowatt-hours (kWh), the facility is designed to generate nearly three times the power of the iconic Three Gorges Dam, China's previous "project of the century".

Its output alone would be enough to power the entire United Kingdom [*(2023 statistics)] and is equivalent to 20% of China's total residential electricity consumption in 2024 [*], enough for 300 to 400 million people.

The economic benefits of the hydropower project far exceed those of typical power generation projects. Industry experts predict that the construction will directly create 100,000 to 200,000 jobs—three times the number created by the Three Gorges Project. Once completed, the project is expected to generate approximately 20 billion yuan in annual fiscal revenue for Tibet, accounting for about two-thirds of its projected fiscal revenue for 2024 [*].

The timing of this monumental announcement is as significant as its scale. It comes at a time when China’s economic growth is weighed down by a struggling property sector and persistent deflationary pressures, following decades of meteoric expansion. Against this backdrop of economic anxiety, the decision to launch a multi-decade, multi-billion-dollar project in one of the most remote and geologically challenging regions on Earth seems, at first glance, counterintuitive.

It raises a central question: why now?

Is this infrastructure push a bid to stimulate the economy, a display of China’s technological and political might, or a strategic effort by Beijing to rally national sentiment by showcasing the state’s immense capacity to act?

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The century-old dream realized: A century of China's hydropower ambitions

To say that this project represents more than just a strategic pivot would not be a mistake. When the Three Gorges Dam—the last so-called “project of the century”—was launched, it coincided with the beginning of China’s decades-long economic boom.

For many in China, the Three Gorges Dam's construction period, from 1994 to its completion in 2006, is inextricably linked with the country's decade of explosive economic "take-off." It became more than an engineering marvel; it became a potent symbol of national pride and a harbinger of an era of unprecedented prosperity. This powerful association has created a form of national reminiscence, a collective hope that the Yarlung Tsangpo project, being even larger and more ambitious, could similarly kickstart a new "super-cycle" of growth, especially when the economy is slowing after meteoric expansion in past decades.

The ambition to harness China’s great rivers is far from new. It is a vision deeply embedded in the country’s modern DNA—a recurring dream of national rejuvenation. The ideological lineage of the Yarlung Tsangpo project stretches back over a century, to the very founder of modern China: Sun Yat-sen. In his 1920 treatise The International Development of China (《实业计划》), Sun envisioned vast hydropower projects on the Yangtze River—what would later become the iconic Three Gorges Dam—as a pillar of his strategy to modernize the nation through flood control and electrification.

Sun’s grand industrial blueprint included three core strategies:

• Building a national railway network, including lines through high-altitude regions—an idea that eventually materialized as the Qinghai-Tibet Railway, now the world’s highest railway, officially inaugurated in 2006;

• Coordinating the development of China’s water resources, including what would later become the Three Gorges Dam;

• Integrating the economies of the frontier regions—a goal that later became massive state-led campaigns, such as the Western Development Strategy, aimed at reducing economic disparities between China’s prosperous coastal areas and its inland and western regions.

In 2005, the idea took a particularly controversial yet provocative shape with the publication of the book Tibet's Water Will Save China. Authored by Li Ling, a former People's Liberation Army officer, the book proposed a radical engineering scheme to divert vast quantities of water from the Yarlung Tsangpo and other major rivers to the arid, water-starved plains of northern China.

Although the book is mostly a conceptual vision and an eloquent narrative by the author—and was never officially accepted by Beijing (and the vision differs completely from the current hydropower project)—the book’s audacious idea nevertheless struck a chord with many older Chinese generations and reinforces a view that remains influential today: that taming China’s rivers is inseparable from the quest to build a strong, modern state.

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Engineering on the roof of the world: technical details of the project

China’s hydropower ambitions have evolved over the decades, with a series of ambitious projects—each building on the experience of its predecessors.

From the Gezhouba Dam (1970 - 1988) on the Yangtze to the massive Three Gorges Dam (1994-2003), and more recently to high-altitude stations like the Lianghekou Dam on the Yalong River (2014-2021)—which remains the highest-altitude hydropower facility to date, with an average dam elevation of around 3,000 meters—China has steadily built its technical expertise required to master its great rivers.

The Yarlung Tsangpo project marks the boldest chapter yet. It is located in Medog County, a remote corner of southeastern Tibet, at a dramatic geographical feature known as the “Great Bend” of the Yarlung Tsangpo River. Here, after flowing eastward across the Tibetan Plateau, the river makes a hairpin turn around the sacred Mount Namcha Barwa and plunges south toward India. In just 50 kilometers (31 miles), the river drops between 2,000 and 2,350 meters (over 6,500 feet) [*], through the world’s deepest canyon—three times deeper than the Grand Canyon in the United States.

It is this staggering vertical drop that has long been viewed by engineers as the single most promising site for hydropower generation on Earth, with a water energy density estimated to be seven times that of the Three Gorges [*].

To exploit the potential of the "Great Bend," China is employing the "run-of-the-river" design, or, figuratively speaking, the "cut-the-bend" approach. Instead of constructing a single massive dam with a vast reservoir—which would be impractical and even more hazardous in this terrain—the project will consist of a series of five smaller "cascade" hydropower stations. These dams will divert a portion of the river's powerful flow into a network of four enormous tunnels, each stretching approximately 20 kilometers (12.5 miles) and bored directly through the Himalayan mountains [*].

This "run-of-the-river" approach, which utilizes advanced dam-less diversion technology, means water is not consumed but rather borrowed with a resource utilization rate of up to 85% (*). It plunges down these tunnels, gaining immense velocity, to spin turbines located at a much lower elevation at the bottom of the canyon. After generating power, the water is discharged back into the river just before it crosses the Line of Actual Control into India. This design allows China to harness the massive potential energy from the 2,000-meter elevation drop while minimizing the size of the required reservoirs.

So why has China waited until 2025 to commence this project?

Because building in this location presents engineering and environmental challenges on a scale previously unimaginable—not just for China, but for any country in the world.

For instance, the engineering challenges require technical capabilities that China has only developed in recent decades.

Beyond basic infrastructure like building roads and bridges, two key technologies have made this project feasible:

The first is tunnel boring machines (TBM)—used to dig long tunnels through mountains, similar to how a pangolin burrows through soil. These machines were once monopolized by German manufacturers and were prohibitively expensive. But after China localized their production, they became widely available and cost-effective.

In the early planning stages of the Medog hydropower station, several construction proposals were considered. Now, only one remains viable: a “run-of-the-river” approach, which involves digging a tunnel over 30 kilometers long to connect both ends of the river’s U-shaped bend, using the more than 2,000-meter drop in elevation to generate electricity. Such an idea would have been unthinkable in the past—but with TBMs, it has become a realistic option.

In fact, there’s already a prototype for this kind of construction: the Jinping II Hydropower Station on the Yalong River. Its surrounding terrain is nearly identical to that of the Medog section. There, engineers cut through both ends of a similar U-shaped bend, building four water diversion tunnels—each 17 kilometers long. The station has been operational for six years and has proven stable.

With this prior experience as a foundation, taking on the challenge of the Himalayas no longer seems so daunting.

The second breakthrough is ultra-high-voltage (UHV) power transmission. Tibet is vast and sparsely populated, and local demand is far below the project's potential output. Most of the electricity will need to be transmitted to major power-consuming provinces in the east—or exported to Southeast Asia. The only viable solution for such long-distance transmission is UHV, one of the few technologies in which China is globally recognized as a clear leader. Years of experience from the “West-to-East Power Transmission” program have proven that UHV is both mature and reliable.

Translated from 雅江水电工程背后的大国博弈 The Great Power Struggle Behind the Yarlung Tsangpo Hydropower Project

The project site sits near the Indus-Yarlung Suture Zone, the tectonic collision point where the Indian plate forces its way under the Eurasian plate. This is one of the most seismically active areas in the world. To counter this, engineers have developed advanced techniques and systems designed to help the tunnels resist earthquakes up to magnitude 8.5.

The canyon is not just a geological marvel but also a globally significant biodiversity hotspot. The unique geography, combining a massive change in elevation with wet monsoon air from the south, has created a range of ecosystems from tropical rainforests to alpine meadows, hosting rare species like the snow leopard and some of Asia's tallest and oldest trees. This makes it essential for the design and construction activities to be precisely planned and rigorously tested to minimize the threat to this fragile and irreplaceable environment.

Also, the Yarlung Tsangpo Grand Canyon is one of the most inaccessible places on Earth. Until the completion of the Paizhen-Medog Highway in 2022, the area lacked reliable road access and a power supply, making the logistics of transporting millions of tonnes of materials like steel and an estimated 40 million tons of cement a monumental undertaking.

The resulting power output is staggering. The project is designed with an installed capacity of 60 to 70 gigawatts, producing 300 billion kWh of electricity annually. This is enough energy to meet the needs of nearly 300 million people, making it by far the most powerful hydroelectric facility on Earth.

The initial feasibility studies for the Yarlung Tsangpo project began in the 1950s but were paused due to a major earthquake. It wasn't until 1982 that a joint expedition conducted the first field survey of the "run-of-the-river" concept. A systematic survey in the 1990s confirmed that 90% of the river's entire hydropower potential was concentrated in the Great Bend. However, due to technical and logistical limitations, the project was not pursued further at the time.

In 2005, a formal construction plan was proposed, and in 2020, the project was officially included in China’s 14th Five-Year Plan. Key logistical hurdles were overcome with the completion of the Paizhen-Medog Highway in 2022, and the project received final approval from the State Council in 2024.

After a long and cautious journey, the Yarlung Tsangpo project is finally becoming a reality.

The sheer ambition of the Yarlung Tsangpo project is best understood when compared to its famous predecessor, the Three Gorges Dam.

This comparison makes clear that while the Three Gorges Dam was a monumental feat of civil engineering focused on taming a river, the Yarlung Tsangpo project is a more technologically complex endeavor.

It also reflects the level of strategic foresight and long-term, forward-looking planning—planning that transcends economic fluctuations and political cycles—required to execute industrial and infrastructure development on the scale China is pursuing today.

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The geopolitics

A major hydropower project is being built in Medog County, the last county in Tibet before the Yarlung Tsangpo River crosses the Line of Actual Control (LAC) and enters the Indian state of Arunachal Pradesh. The Yarlung Tsangpo River is called the Brahmaputra after it enters India.

This is not just any border: China claims the entirety of Arunachal Pradesh as “South Tibet,” rejecting the colonial-era McMahon Line that currently serves as the de facto boundary. The project's location, just a stone's throw from a disputed border, has inevitably placed it at the center of one of Asia's most sensitive geopolitical rivalries.

For India, the project is not an engineering feat but a source of deep strategic anxiety, raising fears of water security due to China's construction of the Medog Hydropower Station, which flows downstream into Bangladesh as the Jamuna River.

This has fueled intense alarm downstream. Indian officials fear that control over the river's headwaters gives Beijing a powerful tool of coercion. The Chief Minister of Arunachal Pradesh has publicly described the project as a "ticking water bomb," warning that China could manipulate river flows. “Suppose the dam is built and they suddenly release water—our entire Siang belt would be destroyed,” he said [*].

However, a closer look at the region’s hydrology and China’s broader strategy reveals a more complex reality.

In fact, China does not control the majority of the Brahmaputra’s water.

The upstream Tibetan Plateau is a high-altitude cold desert with relatively low precipitation. The river only transforms into the mighty, flood-prone Brahmaputra after entering India, where it is fed by torrential monsoon rains in the Eastern Himalayas and powerful tributaries such as the Lohit and Dibang. Snow and glacial melt from Tibet contribute only a small fraction of the river’s total volume.

Scientific studies and hydrological data consistently show that the bulk of the river’s annual flow—around 65–70%—is generated within India’s borders. China’s upstream contribution (mainly glacial melt in Tibet) accounts for only about 25% [*].

This hydrological profile fundamentally limits China’s ability to “turn off the tap” and cause droughts in India. Moreover, the project’s "run-of-the-river" design ensures that water is not consumed but merely diverted to generate electricity before being returned to the river, meaning the downstream volume will not be significantly affected.

Ultimately, the geopolitical conflict is less about the physical quantity of water and more about the "institutional vacuum" in which this project is being built.

By constructing a strategic national asset of this magnitude in the heart of contested territory, Beijing is embedding its sovereignty claim in billions of tons of concrete and steel—fundamentally altering the strategic landscape. This move is also likely to bring population growth and economic development (including surplus electricity exports to neighboring countries like Bangladesh, Nepal, and even Northeast India) to a sparsely populated frontier, helping establish a strategic balance with the more populous side.

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A jolt to the equity market

The announcement of the Yarlung Tsangpo project sent immediate ripples through China’s A-share market. In an economy starved of structural growth drivers like real estate once was, the state’s endorsement of a 1.2 trillion yuan undertaking acted as a powerful catalyst, igniting a rally in infrastructure-related stocks. Sectors like cement and engineering machinery gained over 8% in just one day on July 21, the first trading day after project commencement.

The market quickly identified key beneficiaries. State-owned giants such as Power Construction Corporation of China and China Energy Engineering Corporation, the designated primary contractors, saw their shares surge following the announcement of project commencement.

The rally also lifted a wide range of “hydropower concept stocks,” from heavy machinery to civil explosives suppliers. For instance, in the cement sector alone, all 21 A-share-listed cement companies saw their stock prices rise by over 8%, with 19 of them hitting the daily limit-up — and, of course, not all of them secured contracts.

On July 21, over 70% of A-share stocks closed higher. In the Hong Kong stock market, the power grid equipment sector rose by more than 40%.

The market smells speculative fervor, but sophisticated investors should understand that the catalyst has already been priced in by now.

The strategic imperative: powering China's future

The true implications of the project transcend the short-term equity market craze. Economic stimulus, while a welcome side effect, is far from its primary objective.

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While the US scrambles to “de-risk” from Chinese supply chains, here’s the irony: in the face of rare-earth magnet shortages, several major automakers have reportedly considered moving some parts production to China [wsj]. In other words, Trump’s trade war may have accidentally helped bring manufacturing back—to the other side.

So what exactly is China’s stranglehold on rare earths? Is it about raw resources, refining capacity, or something more structural? And how critical is China’s dominance—really—to the U.S. and its allies? More importantly, how long can this strategic leverage last?

To help unpack these questions, we’re translating a comprehensive deep dive from South Reviews (南风窗), a biweekly politics and economics magazine in China. Below is Baiguan's translation of the original article "The strategic power of rare earths".

(Please note: this article was originally written on June 6. Some of the events mentioned have since seen further developments.)

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The strategic power of rare earths

On June 6, just a day after a phone call between the Chinese and U.S. presidents, Donald Trump declared publicly, “Yes, he agreed.” He claimed that China had agreed to resume exports of rare earth minerals and magnets to the United States.

Three days later, trade officials from both countries met in London, with talks centered on rare earths, technology, and tariffs.

If the U.S. holds the upper hand in semiconductors, China has leverage over rare earths. These two strategic assets have become the defining weapons in the ongoing trade standoff. After Washington imposed sweeping export restrictions on high-performance chips to China, Beijing responded by tightening its grip on rare earth exports.

In stark contrast to Washington’s frequent and unilateral wielding of export controls, Beijing has exercised extreme caution when it comes to administrative measures that could disrupt global supply chains. The rare earth restrictions were not a matter of tactical retaliation, but a signal that China’s tolerance had reached its limit.

If one must draw comparisons, China’s rare earth curbs bear more resemblance to Cold War-era mechanisms like the Coordinating Committee for Multilateral Export Controls (CoCom) or the Wassenaar Arrangement — both frameworks long used by the West to restrict strategic materials. Notably, despite years of technology blockades, China had refrained from using rare earths as a geopolitical counterweight — until now. What changed? Many in China see the Trump administration’s actions — unilateral, sweeping, and often untethered from international norms — as the tipping point. In their view, this wasn’t a tit-for-tat, but a recalibration of patience.

Rare earths are deeply embedded in the high-tech manufacturing ecosystem. The auto industry feels the most immediate impact, but the ripple effects extend to semiconductors, medical imaging chemicals, robotics, offshore wind turbines, and advanced weaponry. Just a week ago, Ford temporarily shut down its Chicago plant due to rare earth shortages. Meanwhile, the European Association of Automotive Suppliers, headquartered in Brussels, issued a stark warning of potential shutdowns across the sector.

Though tariff disputes between the U.S. and China remain unresolved, it is rare earth exports that now strike at the heart of global supply chains. For the U.S., hopes of finding a rare earth “Plan B” may remain wishful thinking — at least in the near term.

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China’s rare earth dominance

On April 2, the Trump administration announced sweeping new tariffs on Chinese imports. Just two days later, Beijing struck back — imposing export restrictions on seven categories of medium and heavy rare earth elements, including samarium, gadolinium, terbium, dysprosium, lutetium, scandium, and yttrium. The move sent shockwaves through global markets.

Rare earths comprise a group of 17 elements, typically categorized into light, medium, and heavy groups. These materials are indispensable for making high-performance magnets used in both civilian and military technologies. Among them, medium and heavy rare earths — critical for aerospace, defense, and other cutting-edge sectors — are particularly scarce and difficult to source.

Don’t be fooled by their size. Rare earth magnets are no larger than a stick of chewing gum, yet pack magnetic force 15 times stronger than traditional iron magnets. Heat-resistant and cost-efficient, they are essential components in electric motors — not only in EVs and hybrid vehicles, but also in robots, drones, offshore wind turbines, missiles, and fighter jets.

China holds an overwhelming lead in both rare earth mining and processing.

According to the International Energy Agency, China accounted for over 60% of global rare earth mining output in 2023 — and an even more dominant 92% of the world’s refining capacity. According to the International Energy Agency, China accounted for over 60% of global rare earth mining output in 2023 — and controlled a staggering 92% of global refining capacity. In effect, most of the world’s rare earths must pass through China before they can be integrated into downstream industries. Between 2020 and 2023, 70% of the rare earth compounds and metals used in the U.S. were imported from China, according to the U.S. Geological Survey.

As supply tightened, international prices of rare earth materials surged.

According to Argus Media, a leading global provider of commodity price benchmarks, the average landed price of dysprosium oxide in Europe rose 167.8% between early April and June 5. On that same day, the price gap between China’s offshore price and Europe’s import price exceeded $460 per kilogram. Terbium oxide followed a similar trend, with European prices nearly doubling in two months and a striking $1,500 per kilogram premium over China’s quote.

Under growing pressure from soaring costs, automakers are sounding the alarm.

Rare earth magnets, though small in size, are indispensable in modern vehicles. Exposed to high temperatures or strong electromagnetic fields, traditional magnets quickly lose their effectiveness. To counter this, manufacturers add trace amounts of heavy rare earths like dysprosium or terbium to ensure thermal stability.

Both gasoline and electric engines generate significant heat, requiring magnets that can withstand high operating temperatures. A single car contains dozens of small electric motors—for brakes, power steering, speakers, windshield wipers, headlights, and more. A luxury car seat alone may contain up to 12 rare earth magnets to power its multiple adjustment motors.

Ford recently halted production for a week at its Chicago plant due to rare earth shortages, affecting its Explorer SUV line. In early June, the Motor & Equipment Manufacturers Association (MEMA), along with General Motors, Toyota, Volkswagen, Hyundai, and other major automakers, issued a joint letter warning that without a stable supply of rare earth magnets, production of essential components could come to a standstill.

Several Indian carmakers are facing the same pressure. Suzuki, Tata Motors, and Mahindra have all reported dangerously low inventories of rare earth materials, urging Prime Minister Modi to negotiate with Beijing to restore export permissions.

Even Elon Musk’s humanoid robot, Optimus, relies heavily on rare earths. Each unit requires more than 3.5 kilograms of rare earth materials for its motors. Musk has reportedly submitted an application to Chinese regulators in hopes of securing an export license.

Rare earths are also critical to national defense.

Turbine blades in high-temperature jet engines require a protective thermal barrier made with yttrium, preventing the engines from melting mid-flight. According to the U.S. House Armed Services Committee, producing a single F-35 fighter jet requires roughly 0.4 metric tons of rare earths. A single Aegis-class destroyer uses about 2.4 tons, while a Virginia-class nuclear submarine consumes up to 4 tons.

Yet the U.S. defense industrial base holds only limited rare earth reserves. A 2024 analysis by the RAND Corporation warned that a 90-day disruption in rare earth supplies could force up to 78% of U.S. defense contractors to halt production.

China’s dominance is especially pronounced in refining — it supplies more than 90% of the world’s processed rare earths. Western dependence is acute: the only U.S. rare earth mine, Mountain Pass in California, produces light rare earths, but sends 80% of its output to China for processing. Japan, too, imports rare earth oxides from non-Chinese sources but still sends most of its magnet materials and components to China for final refining.

In recent years, geopolitical tensions have only deepened global reliance on China’s mineral supply chains.

In 2023, over 90% of U.S. rare earth imports came from China — a sharp increase from around 70% in 2013. Two key developments explain this surge. First, the war in Ukraine prompted U.S. sanctions against Russia, formerly the second-largest supplier of rare earths, effectively shrinking the pool of viable alternatives. Second, soaring demand for high-tech products — particularly robotics and electric vehicles — has intensified the global scramble for rare earths. At present, only China has the capacity to meet demand on such a scale.

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Undermining" U.S. manufacturing from within

China’s dominance in the rare earth supply chain is no accident — it is the result of decades of deliberate policy and strategic investment.

In 1992, during a visit to Inner Mongolia, Chinese leader Deng Xiaoping famously declared: “The Middle East has oil; China has rare earths.” That remark would prove prescient.

In 2010, amid a territorial dispute with Japan, China imposed a two-month export ban on rare earths. Between 2009 and 2013, intermittent export controls pushed many global manufacturers to relocate operations to China, where access to rare earths was more secure.

Before 2010, rampant smuggling plagued the industry. Organized criminal groups were reportedly moving rare earth volumes equivalent to half of China’s annual output. One common method involved embedding rare earths into steel rebar for export, then re-melting it abroad to extract the materials. In this opaque supply chain, even major clients like Boeing, Volkswagen, and Toyota often sourced rare earths with unclear provenance.

Over time, Beijing tightened regulations. Many small steel and smelting plants were shuttered and replaced by fewer, larger, and more tightly supervised facilities.

Since Donald Trump’s first term, China has been preparing for the possibility of sanctions and investing heavily in contingency strategies to mitigate U.S. pressure. The rare earth export ban announced in April 2025 came as a direct response to the White House’s sweeping tariffs. In early May, senior officials from 11 ministries and seven provinces convened, and the Ministry of Commerce issued a joint statement emphasizing that “strategic mineral export controls are fundamental to safeguarding national security and development interests.” It also called for full-chain tracking of rare earth production and transportation.

The move won widespread public support in China, where many viewed it as a firm response to Trump’s latest tariff escalation. Just as the U.S. has enforced end-to-end controls on chip exports, Chinese commentators offered “strategic advice” on rare earth retaliation — suggesting that “every element should be regulated individually.”

Trump may now be beginning to grasp what a fantasy it is to bring manufacturing back to America — at least without access to China’s rare earth supply.

Following China’s export restrictions, multiple automakers and EV suppliers are reportedly considering relocating portions of their motor production to China to avoid supply chain disruptions. Some are exploring two-pronged strategies: either building electric motors entirely in China or shipping U.S.-made motors to China for magnet assembly.

“If you try to import magnets from China, they’ll be blocked,” one supply chain manager told reporters. “But if the magnets are already assembled inside a Chinese-made motor, customs won’t stop you.”

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Are rare earth alternatives a myth?

After China’s 2010 export ban, Japan sought to build a two-year stockpile of rare earths.

With government financial backing, Sumitomo invested in Australian mining firm Lynas, securing up to 60% of Japan’s rare earth needs. Japan’s largest magnet manufacturers — Proterial (formerly Hitachi Metals), Shin-Etsu Chemical, and TDK — partially relocated production to China and shifted parts of their supply chain to lower-cost countries like Vietnam. Still, they maintained a sizable domestic output in Japan.

The U.S. once boasted the world’s largest rare earth magnet industry. Its Mountain Pass mine in California had supplied most of the global market since 1965. But in 1998, the mine was shut down following a pipeline leak that released trace heavy metals and radioactive materials into the Mojave Desert. Chinese firms made three separate attempts to acquire the mine — all blocked by U.S. authorities.

Alarmed by Japan’s supply crisis, the Obama administration supported Hitachi Metals’ investment in a rare earth magnet plant in North Carolina, operational from 2011 to 2013. But the costs were prohibitively high compared to China’s vertically integrated, state-backed operations in cities like Ganzhou. U.S. buyers, ultimately unwilling to pay a “made-in-America premium,” continued sourcing from Chinese suppliers. In 2020, Hitachi shut down the facility and mothballed its equipment.

Back in 2010, Mountain Pass — the U.S.’s only remaining rare earth mine — received over $1 billion in Pentagon funding just to stay afloat. But lacking commercial competitiveness, it shut down again the following year. In 2017, MP Materials acquired the site, restarted mining operations, and began exporting raw ore to China for processing. The company now plans to begin producing rare earth magnets at a new facility in Texas by the end of this year. Still, even at full capacity, its annual output would match just a single day of production in China.

The Trump administration cast a wide net in search of rare earth “substitutes.”

Desperate to secure alternatives, the Trump administration cast a wide net. Greenland, home to the world’s eighth-largest rare earth reserves, became an unexpected target. Trump even floated the idea of acquiring the island outright — hinting that economic or even military tools might be used to gain control.

Washington also turned to Ukraine, which holds about 5% of global rare earth deposits, along with major reserves of lithium and titanium. After sustained pressure from Washington, a bilateral mining agreement was signed, targeting Ukraine’s rare earth resources.

In addition, the U.S. is collaborating with Australia’s Lynas Corporation and the European Union’s Critical Raw Materials Resilience initiative on rare‑earth supply‑chain resilience to diversify global rare earth sources. Japan, meanwhile, is reportedly preparing to offer a bilateral deal centered on rare earth elements and liquefied natural gas (LNG) as part of its tariff negotiations with the United States — hoping to trade resources for tariff concessions.

Domestically, the Round Top project in Texas has emerged as a cornerstone of America’s rare earth strategy. Operated by U.S. Rare Earths Inc., the site holds estimated reserves of 130,000 metric tons across 16 different elements and aims to supply 20% of U.S. rare earth demand by 2027. The company is also building a $100 million magnet manufacturing facility in Oklahoma, which is expected to process up to 2,000 metric tons of rare earth materials annually.

Meanwhile, the U.S. Department of Energy has launched the ReElement initiative, allocating $50 million to recover up to 90% of rare earth elements from electric vehicle batteries by 2025. But these recycling systems have yet to achieve commercial scale and remain economically marginal.

The National Defense Authorization Act for fiscal year 2025 earmarks $1.2 billion for strategic stockpiling and $350 million for domestic development. These funds are being channeled into American firms like MP Materials, aimed at accelerating the construction of a domestic rare earth processing infrastructure.

While the U.S. is pursuing a dual-track approach — securing both overseas and domestic rare earth alternatives — the incentives offered still outweigh the realistic viability of these efforts.

Even if external regions like Greenland and Ukraine hold mineral reserves theoretically sufficient to meet U.S. demand, the true bottleneck lies not in mining — but in refining. Much of the world’s existing refining capacity is tailored to the specific technical standards of U.S. industries, allowing seamless integration into American supply chains. Rebuilding this infrastructure elsewhere would require a wholesale redesign of global supply routes — a process that cannot happen overnight.

Despite growing federal support, results have fallen short of expectations. According to the Center for Strategic and International Studies (CSIS), the Pentagon has invested over $439 million since 2020 to develop a rare earth industrial base — but most U.S. production remains in its early stages.

RAND Corporation estimates that it would take at least 10 years and $10–15 billion in investment to establish a fully independent domestic rare earth supply chain, factoring in infrastructure, permitting, environmental compliance, and workforce training.

In truth, the troubled half-century journey of Mountain Pass — America’s lone rare earth mine — encapsulates the blind spots of the “Made in America” ideal. Time and again, the U.S. sets out to rebuild domestic manufacturing, only to price itself out of competitiveness along the way.

*End of translation*

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The bottom line

Following the recent US–China trade talks in London, Beijing pledged to establish a fast-track export approval process for rare earth shipments to the US, valid for six months. However, this agreement notably excludes high-performance magnets required by the US military, such as those used in fighter jets, submarines, and missile systems. [Reuters]

In practice, China has not banned the export of rare-earth permanent magnets outright, but only permits those used for civilian purposes. According to several sell-side research teams, even civilian-use exporters can apply for licenses, and approvals can take up to 45 working days. Some Chinese exporters have started shipping again under the new system, but with permit approvals taking weeks, overseas factories—especially those running on just-in-time inventory—are still at risk of running short.

What underpins China's leverage is not exclusive access to rare earths—they exist in many parts of the world—but Beijing's near-total control over the midstream: the refining and magnet production. Today, China’s rare earth industry is entirely state-controlled, led by China Rare Earth Group and Northern Rare Earth. This enables strict coordination over exports and pricing, giving Beijing a credible bargaining chip in broader trade negotiations.

The West has made slow progress in developing alternatives to Chinese rare earths. For now, China still holds a dominant position in both refining and permanent magnet production. In the short term, it remains extremely difficult for other countries to rebuild rare earth refining capacity and reduce reliance on China—not because of a lack of raw materials, but due to challenges around environmental approvals, technical barriers, and inefficient investment returns.

According to research by sell-side teams, even if rare earth production restarts in Australia or the US, it would still take at least 3 to 5 years—or even longer—to meaningfully replace China’s supply.

But as the article explains, rare earth resources aren’t exclusive to China, and its dominance in refining isn’t due to insurmountable technological barriers. So if global decoupling continues to deepen, China’s rare earth bargaining chip may not remain a guaranteed winning hand forever.

📣 Introducing Baiguan’s Private Discord for Paying Members

We are excited to announce the official launch of our paid-member-only Discord chat group! This exclusive community is designed to enhance your experience as a valued subscriber, providing a space for meaningful conversations, direct interactions, and a deeper connection with like-minded individuals.

Within our server, we dive deeper into topics and news headlines just like rare earths, and China-focused investment ideas. You’ll also gain access to equity research and market views from trusted institutional sources, all in a more interactive and timely format.

How to join:

First, become a paid member of Baiguan. Then simply click the link below and follow the instructions to gain access to the group.

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Key Viewpoints & Insights

1. The US-China trade talks in Switzerland show promising signs of dialogue

The high-level trade negotiations between China and the US in Switzerland appear to be progressing constructively, contrary to false reports of walkouts.

> "Given the length of the discussion—I think there's some reports saying it took eight hours for the first day, right? That's quite long for initial talk. And I believe the overall vibe is a bit better than the sort of Alaska talk back in 2021 between the Biden administration and China." - Johnny Zou

> "What's encouraging is the talk has been now being done by this level of officials... It is not the top. These are, at best, aids to the top leadership. But at the working level, a lot of the real discussion can happen, and I think this may be the only chance for these people who are high enough in the bureaucracy, but then also low enough not to be too politically minded to talk, to share information with each other." - Robert Wu

The involvement of China's Public Security Minister Wang Xiaohong suggests willingness to discuss broader issues beyond trade, including security concerns like Fentanyl.

2. The Pakistan-India conflict has showcased China's military capabilities globally

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To read the Politburo readout correctly, we think it’s essential to compare the text with the last major meetings on the economy, specifically the Central Economic Work Conference held in December (CEWC) and the Politburo meeting held immediately before it.

In this note reserved for Baiguan's paying subscribers, we will examine five major areas where we believe this “April Politburo” has added substantial incremental information compared to the two December meetings.

The keyword here is “incremental”, so we will only look at what was not there previously. The five major areas include:

• Added urgency to launch more forceful and more “innovative” monetary policies

• Stronger emphasis on stabilizing employment

• A continued focus on consumption, and especially the service consumption, likely even with the support of new monetary policy tools

• Digging in through preparing for worst-case scenarios and, unironically, openness

• More language on supporting real estate and capital markets

[The comment below is paywalled. Paying subscribers of Baiguan also enjoy complimentary access to Robert Wu’s , as well as engaging with other paying subscribers in Baiguan’s hyper-active Discord channel.]

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1. Hefei, Anhui province (East China): +219,000 new residents, leading for two consecutive years, driven by its new energy vehicle (NEV) industry (e.g., BYD, NIO factories) and industrial spillover from the Yangtze River Delta.

2. Guiyang, Guizhou province (Southwest China): +182,500 newcomers, fueled by big data infrastructure (Huawei Cloud, Tencent data centers) and provincial policies consolidating resources under the "Strong Capital" strategy.

3. Zhengzhou, Henan province (Central China): +180,000 influx, leveraging electronics manufacturing (e.g., Foxconn facilities) to attract intra-provincial labor.

4. Hangzhou, Zhejiang province (East China): +146,000 residents, sustained by digital economy giants like Alibaba, though growth slowed compared to previous years. (Amber from our team published an article about why Hangzhou can be the city behind DeepSeek’s rise)

5. Chengdu Sichuan province (Southwest China): +135,000 increase, with urbanization surpassing 80.5%, driven by emerging industries and intra-provincial absorption effects.

Notably absent from this list are traditional megacities like Beijing, Shanghai, Shenzhen, or Guangzhou—a trend aligning with our earlier research on shifting labor dynamics (China’s Labor Market: Silver Linings in the Fog).

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Our analysis indicates that mid-tier cities are now the primary drivers of demographic growth, a conclusion supported not by anecdotal observations but by our proprietary recruitment analytics. To further illustrate this point, let me quote from our mid-2024 article:

It's crucial to note that mid-tier cities (second- and third-tier) are emerging as potential hubs for future population growth. These cities, depicted in the charts below, show higher job demand and more stable salary growth. Furthermore, housing affordability in these areas is increasingly favorable, with ownership becoming achievable within approximately 10 years, a significant improvement compared to top-tier cities.

So what kind of cities are mid-tier cities? Mid-tier cities in China, including regional centers, provincial capitals, and key manufacturing hubs, are emerging as vital economic centers. This also echo with our analysis of industrial shifts. It shows that the manufacturing sector, especially in advanced areas like automotive and semiconductor industries, leads in both job demand and salary growth.

According to Yicai Global, Niu Fengrui, director of Guo Xin Small and Medium Cities Index Research Institute, noted that China’s ongoing urbanization continues to drive rural-to-urban migration, with a clear pattern emerging:

• China’s eastern coastal economic hubs remain the primary destination for migrants.

• Provincial capitals and key regional cities absorb populations from smaller towns within their respective provinces. Despite population declines in some provinces, major provincial capitals are still experiencing steady growth.

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In today’s translated article, we will delve deeper into this topic by exploring which cities have the potential to expand by 2035, which could emerge as the next 20-million megacities, and the underlying factors driving this growth potential. This analysis is based on the 2035 master plans for 42 cities approved by the State Council, providing a framework for understanding urban development trajectories.

Below is the original article translated into English (with some paragraphs abbreviated).

Recently, the State Council approved urban master plans for 42 cities through 2035, outlining urban hierarchies, functional roles, and spatial development strategies. These plans also set population ceilings, effectively determining growth potential over the next decade. These limits will directly impact critical areas such as transportation, education, healthcare, land use, and housing supply. For details, see the article “Which cities were upgraded, which were downgraded.”

So, which city has the highest population ceiling, and which one is poised to become China’s next 20-million-resident metropolis?

Who will be the next 20-million megacity?

China uses multiple statistical metrics for population measurement, including permanent residents, household-registered residents, urban vs. rural populations, and real-time or service populations. The 2035 master plan prioritizes two key indicators:

• Permanent population ceiling – The maximum number of residents who live in a city for at least six months per year. As a core demographic metric, it is stable and predictable, setting the upper limit for a city’s long-term population capacity and guiding urban infrastructure planning

• Actual service population (or real-time population) – A broader measure that includes both permanent and temporary residents, such as business travelers, visiting family members, and tourists. This metric provides a more accurate reflection of public service demand and urban resource allocation.

China now has 17 cities with populations exceeding 10 million, including four megacities—Chongqing, Shanghai, Beijing, and Chengdu—all surpassing 20 million residents.

By permanent population metrics, Guangzhou and Shenzhen are on track to join this elite group, with both cities expected to exceed 20 million residents in the coming years. The country’s urban master plan sets long-term population ceilings for key metropolitan areas:

• Guangzhou: 19 million (2035 target: 22 million)

• Shenzhen: 18 million (2035 target: 19 million)

• Zhengzhou, Suzhou, and Tianjin: Targeting ~18 million by 2035

• Wuhan, Xi’an, Hangzhou, and Changsha: Projected to surpass 15 million by 2035

When accounting for temporary residents, the number of Chinese cities with service populations exceeding 20 million is expected to surpass ten in the coming years.

In most cities, the actual service population—which includes both permanent and temporary residents—is estimated to be 20% higher than the official permanent population. This metric plays a critical role in urban resource planning and public infrastructure investment.

By 2035, major cities in China are projected to reach significant service population levels. Guangzhou and Chengdu are expected to accommodate 25 million residents, while Shenzhen is forecasted to reach 23 million. Additionally, cities like Hangzhou, Wuhan, Zhengzhou, Xi’an, and Tianjin are anticipated to approach the 20-million mark.

In practice, Guangzhou and Shenzhen have already exceeded the 20-million threshold in real-time population, with Guangzhou at 24 million and Shenzhen at 22 million. Notably, Guangdong Province as a whole records a staggering daily population flux of 150 million, reflecting the region’s dynamic economic and demographic activity.

This trend suggests that within the next decade, over 10 Chinese cities will have real-time populations exceeding 20 million, including Chongqing, Shanghai, Beijing, Guangzhou, Chengdu, Shenzhen, Wuhan, Hangzhou, Xi’an, Zhengzhou, Suzhou, and Tianjin.

China’s urban hierarchy will further consolidate around its dominant megacities.

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Population growth potential: which cities have room to expand by 2035?

Urban population caps are determined by resource capacity, economic development, and migration patterns, serving as benchmarks for public resource allocation.

Tier-1 cities: diverging population growth trends

Among China’s four Tier-1 cities—Beijing, Shanghai, Guangzhou, and Shenzhen—growth trajectories vary significantly. By 2035, while Shanghai and Beijing are approaching their upper population limits, Guangzhou and Shenzhen still have room for expansion.

• Shanghai: 25 million (near full capacity)

• Beijing: 23 million (strictly controlled growth)

• Guangzhou: 22 million (3 million more residents allowed)

• Shenzhen: 19 million (1 million more residents allowed)

Compared to Guangzhou, Shenzhen’s population planning appears more conservative. Despite being one of China’s fastest-growing cities, Shenzhen’s 2024 population increased by nearly 200,000, and over the past decade, it has added more than 5 million new residents.

However, space constraints are a key limiting factor. With a land area of less than 2,000 square kilometers—just one-third the size of Guangzhou and a fraction of Chengdu and Chongqing—Shenzhen faces significant challenges in accommodating further expansion. The city’s high-intensity land development has further constrained its ability to support large-scale population inflows.

Tier-2 cities: expanding capacity, but facing uncertainty

While Tier-2 cities have significant population growth potential, the real question is whether these ambitious targets are realistically achievable.

By 2035, Chongqing and Chengdu are expected to emerge as western China’s primary urban hubs, with planned populations of 36 million and 23.5 million, respectively—accounting for nearly one-fifth of the region’s total population. Meanwhile, Suzhou, Tianjin, and Zhengzhou are each targeting approximately 18 million residents, while Wuhan is projected to reach 16.6 million. Hangzhou, Changsha, and Xi’an are anticipated to exceed 15 million, while Nanjing and Hefei are expected to surpass 13 million.

If comparing these projections to current population figures:

• Chongqing, Tianjin, Zhengzhou, Changsha, and Suzhou each have the capacity to add over 4 million residents.

• Nanjing and Hefei could grow by more than 3 million.

• Wuhan, Xi’an, and Hangzhou each have room for at least 2 million additional residents.

These projections imply annual growth rates of 300,000–400,000 people per city over the next decade—an ambitious goal given China’s shifting demographics. While such projections might have been realistic during the high-growth urbanization era, today’s declining birth rates and slowing migration patterns make them far more challenging.

1. Over the past decade, only a handful of cities managed annual population gains exceeding 200,000, while most added fewer than 100,000 per year. Some super-large cities even experienced negative growth.

2. Moreover, a city’s carrying capacity does not guarantee its ability to attract residents, nor does its geographical size directly determine its population potential. Without a competitive economic environment, these population ceilings risk remaining theoretical, rather than achievable growth targets.

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Why are major cities still growing despite nationwide population decline?

China’s overall population has entered a period of decline, a turning point that officially began in 2022, when birth rates fell below death rates for the first time (for details, see “The sudden reversal of birth trends”).

Unlike other major economies that offset demographic decline through immigration, China’s population trajectory is largely dictated by natural growth trends. However, while the national population is shrinking, regional migration remains a powerful force reshaping urban demographics.

One of the most significant demographic trends is the increasing migration toward major metropolitan areas, economic hubs, and urban clusters.

Guangdong Province, now China’s most populous region, has gained this status not just due to higher birth rates, but primarily because of its strong economic pull—embodied in the well-known saying: “No matter where you’re from, wealth is made in Guangdong.”

The Yangtze River Delta, despite aging demographics, has managed to maintain net population growth due to continuous inflows of migrants.

In contrast, smaller cities and less developed regions face growing population outflows, putting increasing pressure on local economies. For China’s central and western regions, only strong provincial capitals have managed to retain their competitive edge, acting as the last line of defense against demographic decline.

Another significant demographic trend is that China’s urban population battle has intensified, shifting from an era of open expansion to a zero-sum game.

For one city to grow, another must shrink; for one to expand, another must contract. This means most cities must abandon traditional large-scale expansion strategies and adapt to population stagnation as the new normal. The days of relentless urban sprawl are over. Instead, the focus has shifted to competing for talent and labor, with cities racing to attract and retain people.

With 90% of cities having already eliminated residency restrictions, and even megacities relaxing their household registration (hukou) policies (Baiguan previously published an in-depth article exploring the origins and evolution of residency restrictions. Click here to learn more), the competition for human capital has never been fiercer. What started as a race to attract top university graduates soon expanded to young laborers, and today, cities are welcoming virtually anyone willing to relocate.

Yet, attracting people is only half the battle—retaining them is what truly matters. People follow industries and seek upward mobility. Once they leave a city, they rarely look back. The population is not a burden; it is an economic resource—a driver of productivity, innovation, and consumption. A city’s ability to attract and retain talent does not just shape its present but determines its future competitiveness.

This is no longer just common sense; it is now the defining factor in urban competition.

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Before we start though, there is a small announcement I would like to make too. I just started another newsletter called , which covers the market intelligence and Data-as-a-Service industry in China - basically our own industry. In the first essay, I discussed the differences between China and the US in this regard. This newsletter will be ideal if you also work in our industry as well.

Implication for China after Trump-Zelenskyy spat

Originally written by Bob Chen, edited by Robert Wu

Last week’s public spat between Trump-Vance and Zelenskky has thrown Europe and Ukraine into a new crisis. Yet, with the ongoing U.S.-Ukraine drama and the growing rift between the U.S. and Europe, China might actually shake off the bad luck it has faced on the international stage since 2022 and regain its momentum.

The capital markets have already cast their votes. When the U.S. lashes out globally, especially against its allies, the valuation pressure on China is gradually easing.

In 2022, China’s international position was unusually bad. Russia acted on its own, leaving little time for China to react, essentially forcing China to take sides. Since siding with the U.S. was not an option, this move damaged China-Europe relations, pushing Europe closer to the U.S. It also made it difficult for China to stand firmly on moral grounds, even causing domestic public opinion to split on this issue.

Now, the U.S. has taken a step back, leaving Europe bewildered. Looking at China, Europe now sees a country that doesn't stir up trouble, has influence over Russia, and is indispensable in mediation.

The U.S. has always had a tradition of isolationism and returning to its own backyard. From Jefferson to the eve of World War I, Americans who focused solely on their own interests stood in stark contrast to the elite with their global intelligence networks, desires for power projection, and international volunteerism. The former naturally asks, why should we spend hundreds of billions of dollars aiding other countries overseas? What’s in it for us?

Indeed, this question requires some complex thinking to answer. It involves explaining the entire post-war international order, what the U.S. gained from it, and what it gained from the trade system. But people like JD Vance, representing the "country folk," only care about what they lost in trade.

If you ask Deepseek what the U.S. gained from the international system it led after the war, it summarizes it well. But all these answers are subject to being overturned today.

The benefits include the seigniorage of the U.S. dollar. The big brother provides protection and security guarantees, which is why everyone considers the dollar safe. This allows the U.S. to collect seigniorage, engage in quantitative easing, and borrow money. (But why can Japan, a protected ally, borrow more than America? Why are Chinese bonds also popular? Is the cost of seigniorage too high?)

Second, stable energy supply. The U.S., once driven into recession by high oil prices, heavily supported Israel, projected power in the Middle East, and participated in the War on Terror and the Iraq War. (But today, the U.S. is the world's largest oil producer.)

Third, the stability of global trade routes, including the Strait of Malacca, the Suez Canal, and the Red Sea, relies on U.S. military projection and protection. (But the biggest beneficiary of the global trade system is no longer the U.S. In fact, the U.S. sees itself as a victim. The biggest beneficiary is China, which has benefited from trade and is catching up to the U.S.)

Because these fundamental questions cannot be answered, the arguments for core tenets of America’s long-held international strategy, such as the balance of power and offshore balancing, have become shaky.

From a purely rational perspective, spending a few hundred billion dollars that can be freely printed to contain Russia, using Ukrainian lives to fill the front lines, is a very cost-effective move for the U.S. But the new generations of Americans are asking, what if we just let Russia have Ukraine? What if Russia controls Eastern Europe? Can’t Europe protect itself? Russia can’t swallow all of Europe, can it?

Some may worry, "What if China also becomes expansionist?" An extreme isolationist American might answer: With the Pacific and Atlantic protecting us, what do distant wars have to do with us? What’s the return on our aid? What price do we pay for deterrence and protection? If we can make a fortune through corporate competitiveness, technology, and the Internet, why bother managing the international order at all?

The West has grown too accustomed to a world under the U.S. security umbrella. When security becomes negotiable, the problem is that the credibility of deterrence is now diminishing, and it may cost even more in the future. When the security dilemma returns, the world will inevitably restart an arms race. This is not a good thing for the globe. I don’t believe China will try to fill this vacuum in the short term but will just go as it flows.

For China, as the biggest beneficiary of stable international trade and order, we may indeed gradually take on more responsibilities. Let’s not forget that the U.S. international intelligence network and the export of commercial values were both the pillars and the products of maintaining such order. We need time to build a system like this as well. There may not be any more free rides for China, but this might also be a real opportunity for us to go global.

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