China transformed

It must seem quite strange to some people that the world’s second biggest economy (and by some margin) is seen as a risky place to invest. Of course, a more studied look would reveal why. GDP growth has been volatile since 2020, the country’s leadership has had an unpredictable approach to policy and regulations, and on more long-term considerations, geopolitical tensions between China and the West have ratcheted up.

However, as stated, China is the world’s second largest economy. And there is no sign of recent troubles slowing down its ambitions and accomplishments. China is a powerhouse in the science and technology fields and, driven by the expectations of a massive and rich middle class, it can now count itself as a major producer of high-quality goods. There are plentiful rewards on the table for investors who take the time to fully understand these two strands of China’s economy.

Silicon battle

One area of bipartisanship between the Biden administration and the incoming Trump administration is suspicion over China. Today’s “chip war”, in which the U.S. seeks to maintain a lead in semiconductors through export control of its own technology and that of its allies, such as Dutch photolithography machine maker ASML, started in 2019 under President Trump. This philosophy continued under Biden’s CHIPS Act which passed in 2022. In response, China has now restricted imports of gallium and germanium, two materials essential for semiconductor manufacturing.

Currently, China still lags the U.S. in chip development. It would be easy to consider this extending far into the future. However, Bill Gurley, General Partner at Benchmark, recently spoke about Huawei’s new smartphone “Mate X70”, and how nobody in the West really knows what kind of chip technology it’s using, not having been built at TSMC, the famous Taiwanese foundry.

And in his latest video, “Letter from Shanghai: Reflections on China in 2024,” physicist Steve Hsu talks of there being a quiet confidence among Chinese technologists—an understanding that China has the means to produce anything it needs when the time is right. Are we getting the full story on the current state of the art in China? It may be worth revisiting certain assumptions about China on the technology front.

Luxury goods

For an example of China having moved far beyond being the global provider of cheap goods, look no further than the area where it is racing at full speed, but this time with the full knowledge of the West—electric vehicles. Plenty has been written about China’s goals and successes in this sector before, so there is no need to repeat it here. But I think it’s worth pointing out that Jim Farley, CEO of Ford considers China EV manufacturers an “existential threat” to U.S. manufacturers. After visiting China, he personally drove a Xiaomi Speed Ultra 7 for months, so taken was he with the vehicle.  You can read more about how he views this threat to his market in the Wall Street Journal and in Yahoo! Finance.

Big government

China’s government wields a level of influence over its economy that may seem unfamiliar to Western observers. Last September, it enacted a stimulus package totaling over $1 trillion including interest rate cuts, relaxed mortgage and lending requirements, and direct cash injections into the stock market. These measures aimed to stabilize growth and bolster confidence in what has been a somewhat gloomy economy. “Policy Pivot: China at a Crossroads,” by Polen Capital , does an excellent job of explaining exactly what happened. And M&G Investments ’s “Chinese Equities: The Investment Story of the Next Decade” provides further insight, this time from a stock picking view.

But despite government stimulus packages now being very familiar to those in the West, in many ways China does operate very differently. Take, for example, two restrictions introduced by Chinese leaders. In 2021, education reforms banned for-profit tutoring outside of school hours, driven by worries over growing social inequity. And in a separate clampdown, children were banned from playing videogames for more than an hour a day on Fridays, weekends, and public holidays. Both acts carried significant economic implications but were seen as necessary to retain a cohesive culture. For Western investors, understanding these unique aspects of Chinese policy—which have little analogues in the West—is crucial when assessing opportunities.