US-China Watch

One of the things that surprised me the most when I started traveling regularly to China in the late 1990s was the spirit of its people. It was contagious — in conferences, in meetings with government officials, research organizations, professors, and students, and in walking the streets. My initial impressions were at odds with the images portrayed in the western media of a dour communist society. Over the years, as I traveled extensively throughout China, that ever-present spirit was a constant.

Until now.

Back in China last week, after having been disinvited in March for the first time in 26 years, I sensed a subtle shift in the spirit of the Chinese people. It was not a dramatic collapse.  But it was enough of a mood swing to give me considerable pause for thought. It came through in a Track II dialogue that I have been a part of for over fifteen years. It was also evident as I roamed the streets of Shanghai, long China’s most vibrant city. That is what the question mark in this title denotes.

It’s easy to speculate over why.  The combination of tough entry-level job prospects and reform fatigue probably account for most of the emerging spirit deficit. You would never know that from the official data, especially a rousing 5.0% GDP growth rate reported for the first quarter. Nor would you see it in the official Chinese labor market data: The total urban (surveyed ) unemployment rate was 5.4% in March, up fractionally from an average of 5.2% over 2023-25, while the unemployment rate for the 16-to 24-year-old cohort (now restated to exclude students) was considerably higher at 16.1% in February, versus a 15.7% average of yearend figures for 2023-25. The deterioration in Chinese labor market sentiment (chart below from the IMF’s latest Article IV consultation with China) is far worse than that reflected in the official statistics; it reflects more of a shift in the quality of new jobs away from the private sector toward state-owned enterprises.  This is a serious disappointment for college graduates, even those from China’s best universities.

By reform fatigue, I am alluding to the lack of major progress on structural rebalancing of the Chinese economy. There is growing recognition inside of China that the newly enacted 15^th Five-Year Plan reflects a doubling down of technology-led industrial deepening that was also stressed in the just completed 14^th Five Year Plan — consistent with a point I have emphasized since the Party’s Fourth Plenum of last October. True, there is considerable talk of China’s long-awaited focus on household consumption, but the policy support to such a shift has been disappointing, at best; durable goods trade-in campaigns, which bring forward previously planned replacement demand, once again get precedent over support to social safety net welfare actions that would reduce excess precautionary saving and support medium- to longer-term gains in discretionary household consumption.

In one sense, these are familiar arguments.  What’s different, in my opinion, is that the combination of job concerns and reform fatigue now weighs more heavily on Chinese sentiment in the aftermath of the policy pronouncements of the Two Sessions of early March. Not only has hope for a major pivot to structural stimulus largely been dashed, but growing recognition of the lingering headwinds of the property crisis implies that another dose of export-led growth is China’s only real option to stay the course of Xi Jinping’s aspirational objectives of the Chinese Dream. Yet with a war-torn Middle East and a concomitant energy shock posing downside risks to the global economy, as the IMF’s recent update of its World Economic Outlook underscores, there are mounting risks to the external support of China’s export-led growth solution. All in all, it’s hard to envision an improvement of Chinese spirit under these circumstances.

Nor is it reasonable to believe that AI will be the savior. There is no mistaking China’s rapid shift to AI-enabled growth. This is, by far, the most rapid transformational development I have ever witnessed in the modern Chinese economy. The same, of course, can be said for most other major economies around the world.  However, as Robert Solow once stressed, the long history of technological revolutions is associated more with job creation than job destruction.  That’s because it takes time to adapt to new technology platforms.  In the current transformation, however, there is no luxury of time; as a recent spate of business announcements suggests, AI adaptation is likely to be a labor-saving transformation over the next three to five years.  That’s equally true of the two AI superpowers, the US and China. Last week’s trip to Beijing and Shanghai did little to dispel that notion — AI is literally everywhere in China’s two major cities. That is hardly a panacea for a dispirited Chinese labor market.

A few personal anecdotes reinforce the thrust of my argument. One night in Shanghai I went to a fabulous Michelin-starred French restaurant; the food was outstanding; the service and presentation were remarkable. Yet there was literally no one else in the restaurant other than me and my dining companion.  A couple of days later, our  Track II delegation visited the new headquarters of the Shanghai Financial Court; the first several floors, where the court conducts its public-facing business, was also barren of any  people — lawyers, clerks, support staff, and judges. AI-enabled case filing, mediation, and scheduling allowed for a new model of labor-saving judicial processing, shortening the court’s decision lag dramatically.

Tesla’s Shanghai gigafactory was our final stop. Our management briefers stressed that this factory accounted for more than half of Tesla’s global output last year. We walked on to the assembly line during one of the ten-minute breaks.  A few minutes later, to the sound of spirited rock music, the operations resumed at a very rapid pace.  I timed finished cars rolling off the end of the assembly line at every 35 seconds! There was one shocking feature of this extraordinary efficiency — no robots.  Thousands of workers placed every six feet, or so, performed highly specific targeted tasks. Tesla’s labor-intensive approach to assembly-line efficiency stands in sharp contrast to the celebrated robot-intensive “dark factory”  EV operations of Xiaomi.  To my eye, the Tesla workers looked bored and tired midway through their 12-hour shift — at odds with the spirited presentation we received from the giga-managers. It seems inevitable that Tesla’s Shanghai gigafactory will eventually go the robot route of its competitors.  What will that do to the spirit of its large assembly-line workforce?

As I stressed at the outset, my message is not that an imminent collapse of the Chinese economy is at hand.  Instead, I saw a growing sense of resignation to increasingly stiff headwinds. The international media, taking its cue from Xi Jinping’s recent claim that the “international order is crumbling into disarray,” depicts China as an increasingly triumphant  great power. In a classic K-shaped response, dispirited Chinese people might beg to differ.