Shakedown Economics & China’s Focus – GREED & FEAR (31 July 2025)

Federal Reserve Meeting and Market Expectations

  • The Federal Open Market Committee (FOMC) meeting in July 2025 resulted in no interest rate cut.

    • The general consensus among economists, including Jefferies US Chief Economist Thomas Simons, is a base-case expectation of a 25bp25\text{bp} (basis point) rate cut in September 2025.

    • Following the meeting, money-market pricing indicated reduced expectations for easing by year-end 2025, with total anticipated cuts falling to 34bp34\text{bp} from 46bp46\text{bp} before the meeting.

    • Consequently, the implied timing for the first rate cut has been pushed back to October 2025.

US Economic Growth Trends

  • The headline Gross Domestic Product (GDP) figures show a distortion:

    • The first quarter of 2025 (1Q25) saw an artificial inflation of activity due to businesses front-loading imports, likely in anticipation of new tariffs.

  • Looking at underlying growth (annualized, half-year data):

    • The second half of 2024 (2H24) recorded a growth rate of 2.8%2.8\%.

    • This significantly declined to 1.2%1.2\% in the first half of 2025 (1H25).

  • This clear down-shift in economic momentum is evident from a peak observed in late 2024.

Treasury Financing & Stablecoin Demand

  • The quarterly refunding in July 2025 involved:

    • No change in the size of coupon (longer-term bond) auctions.

    • A continued increase in the issuance of T-bills (short-term Treasury bills).

  • The current US administration's strategy, termed “Shakedown economics,” aims to:

    • Spur demand for T-bills by encouraging stablecoin reserves to be invested in them.

    • For example, Tether’s Treasury holdings are approximately US$127bnUS\$127\text{bn}, which, if considered a sovereign entity, would rank it as the 18ᵗʰ-largest sovereign holder of US Treasuries, illustrating the significant potential for stablecoin-driven demand.

US–EU Trade Deal Framework (announced 27 July 2025, Turnberry, Scotland)

  • Headline terms of the agreement include:

    • An across-the-board tariff of 15%15\% on EU exports to the US (a reduction from an earlier 30%30\% threat).

    • Sectoral tariffs on steel/aluminium/copper remain high at 50%50\%.

    • EU commitments (though not yet legally binding):

      • Purchase US$750 bn of US energy through 2028 (triples 2024 import levels of "≈US$76bn""\approx US\$76\text{bn}" and would absorb the majority of US energy exports "≈US$316bn""\approx US\$316\text{bn}").

      • Invest US$600 bn in the US (the European Commission's mandate for this is questionable).

      • Make “significant” purchases of US military equipment.

      • EU to eliminate many tariffs on US industrial goods.

  • Political optics:

    • Ursula von der Leyen, EU Commission President, appeared “far from comfortable,” suggesting an unfavorable deal for the EU.

    • The deal is characterized as a quid-pro-quo (something for something) arrangement, linking non-trade elements like energy, defense, and foreign direct investment (FDI) commitments to trade concessions.

  • Legal/Institutional caveats:

    • The agreement is in an MOU-style (Memorandum of Understanding), meaning final ratification is not guaranteed.

    • Investment pledges specifically fall outside the direct authority of the European Commission and depend on individual member states and the private sector for implementation.

European Pushback

  • Germany: Chancellor Friedrich Merz warned that the deal could cause “considerable damage” to German industry.

  • France: Prime Minister François Bayrou described it as a “dark day” and a “resigned submission,” reflecting strong opposition.

Pattern of Deal-Making Favouring Boeing

  • A series of recent aircraft purchases illustrates an ongoing trend of transactional diplomacy, where large orders for Boeing aircraft appear to be linked to broader geopolitical or trade negotiations:

    • Indonesia: 50 aircraft

    • Japan: 100 aircraft

    • IAG: 32 aircraft (+10 options)

    • Qatar: 160 aircraft (+50 options)

    • Saudi AviLease: 20 aircraft (+10 options)

    • Etihad: 28 aircraft

    • Gulf Air: 18 aircraft

    • Vietnam Airlines: 50 aircraft

Additional Deal Cracks (Japan Example)

  • The US claimed that Japan committed to finance US$550 bn in US strategic investments with a profit split of 90% for the US / 10% for Japan.

  • Japan’s pushback indicates that their 90% share would only apply if the US provided a proportional amount of risk capital.

Tariff Landscape & Yale Budget Lab Data

  • The average US tariff is now estimated at 18.4%18.4\%, which is the highest since 1933 (the Smoot-Hawley era of high protectionism).

  • Historical data clearly shows a spike compared to the general sub-10%10\% norm during the GATT/WTO era, which promoted trade liberalization.

Potential US Cyclical Upside Despite Tariffs

  • Corporate tax cuts under the OBBBA legislation are expected to allow US firms to absorb the cost of tariffs.

  • Tariff-induced reshoring (bringing production back to the US) combined with increased energy and defense orders is supporting domestic capital expenditure (CAPEX).

  • There is a noticeable manufacturing construction boom:

    • Total private manufacturing spend (Seasonally Adjusted Annual Rate - SAAR) grew from $98bn\$98\text{bn} (Jan 2022) to a peak of $239bn\$239\text{bn} (Jun 2024), settling at $226bn\$226\text{bn} (May 2025).

    • Specifically, in computers/electronics, this spending jumped from $26bn\$26\text{bn} to $126bn\$126\text{bn} before reaching $115bn\$115\text{bn} (May 2025).

  • Import response has been slower; for example, machinery imports increased by 27% (from US$819 bn to US$1.059 tn).

  • There's been an uptick in commercial-bank lending (mid-Mar 2024 → mid-Jul 2025):

    • Total loans grew from 1.5%1.5\% Year-over-Year (YoY) to 4.2%4.2\% YoY.

    • Commercial & Industrial (C&I) loans shifted from −2.6%-2.6\% YoY to 3.7%3.7\% YoY.

US Equity-Market Dynamics

  • While a cyclical thesis suggests a broadening of market gains beyond mega-cap stocks, current trends show:

    • The S&P 500 continues to reach new highs.

    • The Russell 2000 (representing smaller companies) is still 9.5%9.5\% below its November 2024 peak (though it has rebounded 28.8%28.8\% from April lows).

  • The AI Capital Expenditure (CapEx) Arms Race:

    • The market remains highly focused on Artificial Intelligence (AI) Large Language Model (LLM) investments, often described as reaching “maniacal proportions.”

    • Meta CEO Mark Zuckerberg’s talk of “personal super-intelligence” highlights this intense focus.

    • Warning: There is a potential for capital misallocation on a scale possibly larger than the 2000–02 dot-com bust, with Nvidia identified as a prime beneficiary (“prime shovel”).

    • The anticipated launch of DeepSeek R2 (focused on video/graphics) in 1–2 months could potentially shift market sentiment.

US–China Relationship & August Tariff Deadline

  • Talks in Stockholm aimed at extending the August 12, 2025, tariff deadline, indicating a temporary holding pattern in trade tensions.

  • China continues to be unique among major partners in resisting US “shakedown tactics”:

    • Nvidia was permitted to resume H20 sales, a setback for national-security lobbying efforts against tech exports to China.

    • The Biden administration’s “AI Diffusion Rule” was scrapped in May, enabling sovereign AI data-center deals in the Gulf region.

    • China maintains leverage through its control over rare-earth elements.

  • Former President Trump is seeking a face-to-face meeting with Xi Jinping in the autumn, suggesting potential de-escalation as a bargaining chip.

    • Notably, Commerce Sec. Howard Lutnick (a known China hawk) was absent from the Sweden meetings.

China: Renewed Deflation Concerns & “Anti-Involution” Campaign

  • There are persistent concerns about producer-price deflation:

    • The Producer Price Index (PPI) has been negative for 33 consecutive months since October 2022; in June 2025, it was −3.6%-3.6\% Year-over-Year.

    • Nominal GDP growth has been lower than Real GDP growth for 9 consecutive quarters, indicating a significant deflationary drag.

  • The genesis of the “Anti-involution” campaign:

    • President Xi Jinping at the Central Committee for Financial and Economic Affairs (CCFEA) on July 1, 2025, called to “promote orderly exit of obsolete capacity,” targeting overproduction.

    • A draft amendment (July 24) to the Pricing Law (the first change since 1998) was introduced, which bans below-cost sales aimed at eliminating rivals; public comments are open until August 23.

  • Enforcement compared to 2015–18 supply-side reforms:

    • Then (2015-18): Led by NDRC, involved hard capacity cuts in heavy industries (steel, coal, cement) with offsets like shantytown monetization.

    • Now: Coordinated by MIIT, enforcement is softer, focusing on regulating price wars and promoting production discipline, while avoiding mass layoffs amidst weak demand.

  • Sectors targeted for this campaign extend beyond traditional heavy industry to include newer sectors like solar, lithium batteries, EVs (Electric Vehicles), and e-commerce.

  • Investor reaction has been termed “anti-involution fever,” leading to rallies in steel, cement, and solar stocks, though Jefferies remains cautious.

  • Historical contrast:

    • The 2016-17 PPI rebound (from −5.9%-5.9\% to +7.8%+7.8\%) along with nominal GDP around 12%12\% led to an equity market boom.

    • In 2025, nominal GDP is only 3.9%3.9\% and the property market is still contracting, suggesting a different outcome.

Property Market Weakness

  • June 2025 nationwide residential sales showed a decline:

    • Volume: −7.3%-7.3\% Year-over-Year (YoY).

    • Value: −12.6%-12.6\% YoY.

  • The secondary-market (across 13 cities) sales were down 7%7\% YoY in the 4 weeks to July 27, following a 19% increase in the first half of 2025.

Labour-Market & Consumer Sentiment

  • The surveyed urban unemployment rate stood at 5.0%5.0\%.

  • The Consumer Confidence employment sub-index in May 2025 was 71.471.4, near its record low of 71.371.3.

Manufacturing CAPEX & Credit Trends

  • Manufacturing Fixed Asset Investment (FAI) growth was 7.5%7.5\% YoY in 1H25, which is a decrease from 9.2%9.2\% in 2024.

  • For medium and long-term bank loans to manufacturing:

    • Outstanding growth was 8.7%8.7\% YoY in 1H25, significantly lower than the >30% growth seen in 2020-23.

    • Net new lending amounted to Rmb921 bn in 1H25, down from Rmb1.5 tn in 2024 and approximately Rmb3 tn in 2023.

Demographic Stimulus – National Newborn Subsidy (29 Jul 2025)

  • The central government initiated a cash transfer of Rmb3,600 (approximately US$502) per child per year until age 3.

    • This subsidy is retroactive to January 1, 2025, and tax-free.

  • This marks the first ever nationwide direct incentive to boost birth rates.

  • Context: China recorded 9.54 m9.54\text{ m} births in 2024, significantly lower than approximately 23 m23\text{ m} in India, highlighting the demographic challenge.

Bond-Market Signal

  • The 10-year Chinese Government Bond (CGB) yield rose from 1.63%1.63\% to 1.71%1.71\% (late-June to end-July), a minor increase. This movement should be monitored for evidence of reflation (a general increase in prices as a result of an increase in the money supply).

GREED & FEAR China Long-Only Portfolio Change

  • Added Daqo New Energy (polysilicon) with a 3% weight.

  • Trimmed 1% from each of the following holdings:

    • Alibaba (reduced from 6% to 5%).

    • AIA (reduced from 4% to 3%).

    • Fuyao Glass (reduced from 5% to 4%).

  • The portfolio now consists of 20 names, with a focus on Hong Kong (HK) and China ADRs (American Depositary Receipts), and Nvidia is not included.

Ethical / Philosophical Implications & Broader Themes

  • The breakdown of multilateral trade norms (GATT/WTO) is leading to the rise of transactional, bilateral “shakedown” deals, raising ethical concerns about coerced purchasing and the use of political leverage.

  • The escalation of tariffs risks recreating the protectionist environment seen before WWII; however, the US strategy frames itself as the most effective approach through industrial policy.

  • China’s anti-involution push acknowledges the social cost of “race-to-the-bottom” pricing strategies, attempting to balance the fight against deflation with maintaining employment stability.

  • The current AI investment mania mirrors historical economic bubbles, underscoring the recurring theme of capital misallocation versus genuine technological progress.

Key Numerical/Statistical References (compiled)

  • 25bp25\text{bp} prospective Fed rate cut (Sep 2025)

  • US GDP 1H25 1.2%1.2\% saar vs. 2H24 2.8%2.8\%.

  • Average US tariff 18.4%18.4\% (highest since 1933).

  • Manufacturing construction SAAR $239bn\$239\text{bn} peak.

  • PPI China −3.6%-3.6\% YoY (Jun 2025); 33 months negative.

  • Newborn subsidy Rmb3,600Rmb3\text{,}600 p.a.

  • China births 2024: 9.54 m9.54\text{ m}.

Conceptual Formulas & Relationships

  • Effective tariff rate estimation methodology (Yale Budget Lab): Avg Tariff=∑<em>it</em>i×m<em>i∑</em>im<em>i\text{Avg Tariff} = \frac{\sum<em>i t</em>i \times m<em>i}{\sum</em>i m<em>i} where t</em>it</em>i is the tariff on good i, and mim_i is the import value.

  • Industrial profit sensitivity to PPI historically: correlation "≈0.75""\approx 0.75" (2011–19).

  • GDP Identity reminder: Nominal GDP=Real GDP×(1+GDP Deflator)\text{Nominal GDP} = \text{Real GDP} \times (1 + \text{GDP Deflator}) suggests that negative PPI contributes to weak nominal growth.

Analysis

Positives

  • US Cyclical Upside: Corporate tax cuts under the OBBBA legislation are enabling firms to absorb tariff costs. Furthermore, tariff-induced reshoring, coupled with increased energy and defense orders, is bolstering domestic Capital Expenditure (CAPEX). A significant manufacturing construction boom is evident, with total private manufacturing spend (SAAR) notably increasing from $98bn\$98\text{bn} in Jan 2022 to $226bn\$226\text{bn} in May 2025.

  • Commercial Bank Lending: There has been a positive uptick in commercial-bank lending, with total loans growing 4.2%4.2\% YoY and Commercial & Industrial (C&I) loans growing 3.7%3.7\% YoY by mid-Jul 2025.

  • Transactional Diplomacy: The recurring pattern of deal-making, particularly benefiting Boeing, suggests successful transactional diplomacy in securing large aircraft orders, potentially exchanging political favors for commercial contracts.

  • China's Demographic Stimulus: The introduction of a national newborn subsidy of Rmb3,600 (approximately US$502) per child per year is China’s first nationwide direct incentive, aiming to address declining birth rates.

  • China Resisting Shakedown Tactics: China has demonstrated resilience in resisting US trade and economic pressures, as evidenced by developments like Nvidia being allowed to resume H20 sales, indicating that US “shakedown tactics” are not uniformly effective.