– Tariff war 2.0 to lower growth in Greater China

– China: NPC focused on local government debt swap

– Exports beat expectations with broad based gains, FX reserves fell by a larger than expected US$55.3bn

– Taiwan: CPI inflation ticked lower to 1.7%oya, exports show stabilizing trend

– Next week: China inflation, credit and activity data, Hong Kong GDP final

The Trump win in the U.S. presidential election significantly increased the external risk faced by the Chinese economy. On our base case scenario that US tariffs on Chinese imports will be hiked to 60% in 1H25, China’s growth outlook will be damaged by around 2%pts (all else equal) due to anticipated collapse of exports to the U.S., weaker investment and consumption, and damage to business confidence.

A renewed tariff war will naturally lead to corresponding policy changes in China, mainly via the following channels. First, CNY will depreciate to partially offset the tariff impact, as happened in tariff war 1.0 in 2018-19. What is different this time is that CNY devaluation can hardly offset the tariff shock in the U.S. market, instead it will help to expand China’s exports in non-US markets. Second, China will likely step up fiscal support, e.g. lifting 2025 budgetary fiscal deficit to 3.8% of GDP (previously: 3.5%) and augmented fiscal deficit to 12.8% (previously: 12.4%). We also expect the PBOC to cut policy rates by 30bps (previously: 20bps) in 2025. The pressure on exports may also force the Chinese government to strengthen consumption support on the domestic front. Third, Chinese companies may speed up the pace of outbound investment and diversify export destinations. In addition, China’s retaliation measures may include tit for tat tariff increase, export control on critical minerals, or tightened rules on profit repatriation by MNCs.

Taking into account these policy responses, China’s 2025 growth forecast is marked down to 3.9%. While 1Q may observe front-loaded exports ahead of tariff hikes, the growth will be much weaker at 1.2%q/q saar in 2Q and 2.0%q/q saar in 3Q.

Tariff hikes may also lead to persistent deflationary pressure in China. While larger CNY depreciation tends to increase import prices, the evidence of imported inflation has been limited in China. China’s PPI cycle has been closely related to the global commodity cycle, which is less affected by bilateral trade tension. By contrast, the negative shock to exports likely will increase the domestic demand-supply imbalance, especially if policy support for consumption and domestic demand does not pick up quickly. In addition, China’s CPI cycle has been largely affected by food (especially pork) prices, which bottomed this year, but a sustained upturn may not happen in 2025. We expect changes in China’s GDP deflator to stay negative in 1H25 and turn marginally positive in 2H25.

Hong Kong may feel spillovers most immediately given its close economic linkage with Mainland China and its dollarpegging exchange rate regime. The combination of higher for longer US rates, stronger USD and tariff war 2.0 risk points to a significant drag on the economy which has been undergoing a bumpy recovery with nearly 15% gap from its pre-pandemic path. The high interest rate environment has weighed on the city’s housing market, with prolonged housing price correction and collapse in land sales and housing transaction related fiscal revenue. Slower rate normalization will limit the pace and room of mortgage rate adjustment, a lingering headwind for housing demand. An anticipated further fall in housing price will also have a significant negative wealth effect on the city’s domestic consumption.

A major part of Hong Kong’s trade activities is re-exports, with significant proportion coming from the mainland. Hence the city will feel the pain the same as the mainland if the Tariff War 2.0 risk materializes. A stronger USD, and therefore a more expensive HKD than for other regional peers will leave the city’s retail sales and tourism less attractive, pointing to continuing imbalance in cross-border tourism recovery with outbound outweighing inbound. We think everything together may trim roughly 0.8%pt off Hong Kong’s 2025 GDP growth to 0.6%oya (vs. 1.4% previously), with slower and below trend growth for most part of the year.

The US tariff hike on China likely will exert a meaningful drag on Taiwan’s export sector performance. In the first ten months of 2024, 31.2% of Taiwan’s exports go to mainland China/ HKSAR, a significant share of which is related to China’s final exports to rest of the world, including that to the US. Regarding export orders received by Taiwan manufacturers, 37.8% are still produced out of their production lines in mainland China.

Hence, while the expected upcoming US tariff hike on all China imports to 60% will likely facilitate further supply chain diversification by Taiwan manufacturers in the medium term, it will still impose a meaningful drag on Taiwan’s near term export activity. In addition, uncertainty on the global trade environment may also drag Taiwan exporters’ near term investment plans. Meanwhile, as Taiwan tech producers are expected to continue benefiting from solid structural demand in the leading-edge tech areas (especially in the AI-related space), this will help to provide some resilience on overall export sector performance.