MICHAEL CEMBALEST: Good afternoon, everybody. Welcome to the August 2026 Eye on the Market podcast. This one's called The Year of the Trojan Fire Horse. We'll have obviously some Odyssey themes in there. But this is an update on China's imbalanced economy and its energy mercantilism, because like the Trojan horse, some things are not quite as good as they look.
Let me start with Stephen Roach. So Stephen Roach used to be the head Morgan Stanley economist in Asia. He's now at the Yale China Center. And he wrote a piece recently in the FT on China's imbalances and wondering how China can survive and that it's creating risks for the rest of the world. And a lot of his themes are clearly visible in the data.
Soaring exports relative to imports, weak private sector ends, and state driven fixed investment, both of which look pretty poor, very weak retail sales. China, a well publicized housing collapse that's been ongoing now for five years. And on top of all that, a very high level of precautionary household savings.
And so one of the charts we have on the Eye on the Market looks at the domestic savings rates of the top 10 economies in the world. China is off the charts at about 45% compared to anywhere from 15% to 30% for the rest of the largest economies in the world. So China's essentially unable to jump-start much other than exports.
And here's a chart that pulls some of those different strands together. Home sales, fixed asset investment, retail sales look weak or at best flat. Exports are soaring, and the parts of the industrial production segment that are supportive of exports is doing well. And so Roach talks about how unsustainable that is. And behind the scenes, a lot of Wall Street economists on China that I talked to agree in the long run.
We do track a lot of near term contemporaneous data in China, and they're kind of bouncing up and down. None of them are falling off a cliff. And so, for example, the China manufacturing and services sector surveys from the PMI are going nowhere. They're not rising, but they're not tumbling. One's from NBS. The other's from Caixin Global.
And then there are these things that people put together called China monitors. And the purpose of them is to avoid the official GDP and other data compiled by the government, and look at more cleanly observable data. Coal and electricity consumption, traffic congestion, subway flow, air pollution, dry bulk freight.
These things are kind of indicators of what's going on in the pace of the economy. And while one of them is rolling over, it's coming off a high level, and then the second one we looked at, it's kind of flat. And many of the underlying components are very similar. And so nothing falling off a cliff here.
And then China actually had deflation for a few years. The GDP deflator was negative and has actually picked up a bit. So even without a special domestic demand focused rescue package, fiscal package this year, China seems to be kind of muddling along, at least in the short term.
Now, the problem for investors is that's not good enough. And all of these problems and imbalances have contributed to China doing pretty poorly in a global context. First chart we have here looks at 2020 to 2025, so that six year period. China onshore and MSCI offshore Chinese equities underperformed just about everything else in the developed and developing world that we care about. And then the same is true this year as well year to date. Only India has done worse than the two different China buckets.
So for investors, this model that Roach described as having all these imbalances that isn't really yielding any benefits to them. It may be yielding certain benefits to China, but they're certainly not yielding benefits to equity investors.
There is one area, though, that stands out and differs from the general malaise affecting the Chinese economy. This is the year of the fire horse in China. That's the Zodiac symbol for the year. And the fire horse is characterized by bold moves, self-reliance, speed, action, and innovation. And we're certainly seeing that with respect to the energy transition and export of the energy transition from China. And so I want to spend some time on that and then talk about energy mercantilism.
So when we look at China, there's three indicators that stand out to me with respect to energy. The first is how much of your overall final energy consumption is renewable? And Latin America, because a lot of hydropower, and Europe are ahead of China, but the pace in China is picking up faster than anywhere else in the world at this point. So that's number one.
Number two, other than Japan. China's got the fastest pace of electrification of useful vinyl energy. And so when you combine electrification of energy consumption and with a fast pace of renewables, what you're doing is you're improving your energy self-sufficiency. And when we look at the self-sufficiency of energy consumption, it's gone up in China.
In 2025, it was a little over 80%. And what that looks at is of all the energy you consume, how much comes from domestic renewables, domestic nuclear, and domestically produced fossil fuels? And even though China doesn't have a lot of oil and gas, they're at about 80%, 81% self-sufficient at this point. And that number is even higher this year, because China has cut its oil imports by 30% to 35% through a combination of three things.
Drawing down on massive strategic and commercial reserves that reportedly exceeded a billion barrels at the peak, the use of gasification of domestic coal reserves to make petrochemicals instead of having to either produce or import oil and gas. They can synthetically make it by gasifying their coal reserves and then making petrochemicals and plastics from that. And increased electrification. So China is rapidly rising up the food chain in terms of energy self-sufficiency, and is set to continue to improve on that front.
And with respect to electrification, I have these debates a lot, and you see a lot of good and dumb information on social media and LinkedIn and places like that. China is arguably the only major car market in the world whose electrified share of the existing fleet has reached escape velocity. So what does that mean? At this point, they are selling so many EVs and retiring so many internal combustion engine cars that they're almost at 20% of the fleet being EVs.
But those numbers are rising much more slowly and are much lower, sub 10%, in different parts of the world. And certainly when we look at-- please stop wasting your time and mine by looking at Norway. Let's look at the top 10 countries that make up 70% to 75% of global passenger car sales. And of those markets, the numbers are all 10% or lower and rising in a much slower pace. And in China, it's not just passenger cars. You're starting to see oil displacement by electrified buses, class eight semi-trailers trailers, and long haul trucks.
So here's where it gets interesting, and here is where the energy mercantilism discussion begins. So China's clean technology exports, focusing for a moment just on batteries, EVs, and solar panels, they were kind of steady in the late 2010s and then jumped after Russia's invasion of Ukraine and then jumped again earlier this year after the US invasion of Iran.
So each time that you have a geopolitical event that affects oil supplies and availability and pricing, you tend to get this jump in clean technology exports. And that's great, and there are plenty of examples of China's exports in terms of renewables and other transition things, products helping other countries increase their self-sufficiency as well.
But like the Trojan horse generous in The Odyssey, the gift of inexpensive Chinese exports is not always as. As unilaterally and universally beneficial as it seems. And here you can see an image of the Zodiac fire horse being tugged onto the beach in a scene we replicated from Nolan's Odyssey movie.
Look what's happened to global auto exports. There aren't too many charts that look like this in the history of charts, where Japan, China, Germany, South Korea, the US are the five largest auto exporters. For a decade, they all maintain their respective positions. And then starting in 2021, China just starts to eat all their lunch at an incredibly rapid pace.
And even the imposition of duties isn't slowing them down. In late '24, Europe imposed new duties on Chinese EV imports of 17% to 35% on top of the traditional import tariff. They dropped temporarily, but they started going up again. And so there's a bit of a juggernaut as it relates to this. And the issue for Europe is a couple of hundred thousand auto jobs lost so far, and all the multiplier effect impacts of that, with another 3 or 400,000 auto jobs at risk by 2030, according to some of the industry associations and labor unions and things like that in Europe.
So there's a lot of damage that this is doing to economies that are absorbing this flood of Chinese exports. And this is not just a problem for Europe. Europe gets a lot of press because of what's going on with its auto markets. But this is an arguably even bigger problem for the ASEAN countries. Indonesia, Cambodia, Laos, Malaysia, Philippines, Singapore, Thailand, Vietnam, for Latin America and the Caribbean, and for what's called South Asia, which is basically India, Bangladesh, Nepal. China's manufactured trade surpluses with these regions are absolutely soaring, and this is creating a lot of stress fractures there as well.
And I just want to show this to you, just so that you can understand why this is somewhat of an unprecedented situation. And this is representative. Solar, wind, batteries, EVs. China has a certain production level, some of which they consume and some of which they export. Their capacity to produce is often double the amount they're actually producing. So China is set up to swamp the world with excess supply for years to come.
And here's another example. China is still dominating sectors that should already have transitioned to poorer countries years ago. In the beginning of this century, being in the 21st century, China had about of 35% share of apparel, textiles, footwear, and leather exports among all the low and middle income countries.
They also had 35% of the working age population of that set of low and middle income countries. Their population share has gone down from 35 to a little below 30, and their value added share of apparel, textiles, footwear, leather has gone from 35 to 65. So again, this is a sector that China arguably should no longer be dominating, but they are.
Now, how is this happening? Why is this happening I think is the question that a lot of people get into. Normally a collapse in producer prices would lead to competition and reduction in capacity, and China's had several prolonged period of negative producer prices. In every other country in the world I've ever seen, negative industrial producer prices reduce capacity. Not in China. The zombie industrial farms live on. And the share of the Chinese industrial entities operating at a loss has doubled from 15% to 30% of all of them just over the last few years. So these zombie firms continues to survive.
And so then the question is, how are they surviving and what is China doing? And China strenuously object to descriptions of its economy as benefiting from mercantilism and points to innovation. I would argue that there's heavy doses of both. And as it gets to the subsidies and industrial policy side, the numbers are clear at this point.
So the first chart we have in here on this is from CSIS. And it looks at industrial spending, policy spending in key economies. China, no matter how you compute it, absolutely dwarfs South Korea, France, Germany, Taiwan, the US, Brazil. And then another version of this from the OECD. They have a database that tracks this kind of thing. And they look at below market borrowings, income tax concession, and government grants. Again, Chinese industrial subsidies crush Europe, North America, Asia-Pacific.
Almost 60% of all new Chinese bank loans are actually extended at or below the prime rate of 3%. I mean, imagine if you read that 60% of all the bank loans that were being given out in the United States by the banking system were made at the Fed funds rate, everybody would immediately borrow all tons of money.
So this is the most blatant example of mercantilism in any country in the post-war era. And the consequences are pretty damaging. Just in the last three years, when we look at those ASEAN countries of Malaysia and Philippines, Vietnam, Thailand, Indonesia, all of them saw their manufacturing share of GDP decline because of what China is doing. And there was a report to Congress last year that walked through hundreds of thousands of jobs lost in different sectors, particularly in Indonesia and Thailand, which creates a lot of instability in those countries. And some of them are starting to think about ways of slowing this down, which is somewhat difficult.
So just to wrap up here, yes, many countries are beneficiaries of cheap, renewable exports. And Pakistan's one example of that. A friend of mine said, Mike, have you seen what's going on with solar in Pakistan? Yes, here's a chart on it. The solar share of electricity generation has gone from 4% to over 20% in like three years. That's an unbelievably rapid transformation. And solar is even taking up a bigger share of total energy consumption because of that.
But if you remember from The Odyssey, there was this character. He had one eye. He was a cyclops, and his name was Polyphemus. And I was thinking of him here because so many people are just so focused on energy that they're missing the big picture, because they've just got one eye open. And just having a singular point of focus misses the fact that energy is just one sector of the economy.
So yeah, can get access to cheap solar exports from China and greater energy independence to boot, but that has to coexist with a flood of Chinese exports across multiple sectors of your economy, and not just energy. And the countries that are trying to navigate China's unprecedented production surplus are facing a huge challenge, energy independence, dividends notwithstanding.
And the best quote I've seen from this comes from Logan Wright at the Rhodium Group. and because I was looking at all of these anti-dumping and countervailing duty investigations that have been initiated against China, and his Logan's was an economy like China's that is so dependent on global demand for growth cannot remain in perpetual conflict with its customers. And so I think that's pretty apt. And so we're heading for a global showdown of sorts as the US, which went first, but as the US and Europe and Latin America and Southeast Asia begin to try to wall themselves off from this massive and unprecedented production surplus in China. None of which is good news for investors in China, and we've seen the evidence of that already.
So just one more quick comment. There have been some Odyssey themes in the market. I've been keeping track of all the criticisms that Nolan's film has gotten. So unconventional casting choices, American accents, inefficient attention to details regarding the interventions by the Greek gods that were present in the original Homeric text, but did not appear in the movie, a fictional movie. Anachronistic themes or character introspection in the ancient world. In other words, it was unrealistic for him to portray Odysseus as having introspective angst and things like that because it didn't exist then.
He shouldn't have filmed in territorially disputed parts of Morocco. There's insufficient depth of all of his female characters. There are costume inaccuracies, and my favorite one is they used Norse longships instead of the Bronze Age Greek vessels, and that's outrageous. As the film crosses $1 billion in worldwide box office revenues, thankfully, the audiences are ignoring all the harpies.
And again, this is another reminder that it's a lot harder to create than it is to destroy. Thank you for listening. We're going to have an Eye on the Market investment recommendation post-mortem a little bit after Labor Day, and we'll see all then. Thank you. Bye.
MICHAEL CEMBALEST: Good afternoon, everybody. Welcome to the August 2026 Eye on the Market podcast. This one's called The Year of the Trojan Fire Horse. We'll have obviously some Odyssey themes in there. But this is an update on China's imbalanced economy and its energy mercantilism, because like the Trojan horse, some things are not quite as good as they look.
Let me start with Stephen Roach. So Stephen Roach used to be the head Morgan Stanley economist in Asia. He's now at the Yale China Center. And he wrote a piece recently in the FT on China's imbalances and wondering how China can survive and that it's creating risks for the rest of the world. And a lot of his themes are clearly visible in the data.
Soaring exports relative to imports, weak private sector ends, and state driven fixed investment, both of which look pretty poor, very weak retail sales. China, a well publicized housing collapse that's been ongoing now for five years. And on top of all that, a very high level of precautionary household savings.
And so one of the charts we have on the Eye on the Market looks at the domestic savings rates of the top 10 economies in the world. China is off the charts at about 45% compared to anywhere from 15% to 30% for the rest of the largest economies in the world. So China's essentially unable to jump-start much other than exports.
And here's a chart that pulls some of those different strands together. Home sales, fixed asset investment, retail sales look weak or at best flat. Exports are soaring, and the parts of the industrial production segment that are supportive of exports is doing well. And so Roach talks about how unsustainable that is. And behind the scenes, a lot of Wall Street economists on China that I talked to agree in the long run.
We do track a lot of near term contemporaneous data in China, and they're kind of bouncing up and down. None of them are falling off a cliff. And so, for example, the China manufacturing and services sector surveys from the PMI are going nowhere. They're not rising, but they're not tumbling. One's from NBS. The other's from Caixin Global.
And then there are these things that people put together called China monitors. And the purpose of them is to avoid the official GDP and other data compiled by the government, and look at more cleanly observable data. Coal and electricity consumption, traffic congestion, subway flow, air pollution, dry bulk freight.
These things are kind of indicators of what's going on in the pace of the economy. And while one of them is rolling over, it's coming off a high level, and then the second one we looked at, it's kind of flat. And many of the underlying components are very similar. And so nothing falling off a cliff here.
And then China actually had deflation for a few years. The GDP deflator was negative and has actually picked up a bit. So even without a special domestic demand focused rescue package, fiscal package this year, China seems to be kind of muddling along, at least in the short term.
Now, the problem for investors is that's not good enough. And all of these problems and imbalances have contributed to China doing pretty poorly in a global context. First chart we have here looks at 2020 to 2025, so that six year period. China onshore and MSCI offshore Chinese equities underperformed just about everything else in the developed and developing world that we care about. And then the same is true this year as well year to date. Only India has done worse than the two different China buckets.
So for investors, this model that Roach described as having all these imbalances that isn't really yielding any benefits to them. It may be yielding certain benefits to China, but they're certainly not yielding benefits to equity investors.
There is one area, though, that stands out and differs from the general malaise affecting the Chinese economy. This is the year of the fire horse in China. That's the Zodiac symbol for the year. And the fire horse is characterized by bold moves, self-reliance, speed, action, and innovation. And we're certainly seeing that with respect to the energy transition and export of the energy transition from China. And so I want to spend some time on that and then talk about energy mercantilism.
So when we look at China, there's three indicators that stand out to me with respect to energy. The first is how much of your overall final energy consumption is renewable? And Latin America, because a lot of hydropower, and Europe are ahead of China, but the pace in China is picking up faster than anywhere else in the world at this point. So that's number one.
Number two, other than Japan. China's got the fastest pace of electrification of useful vinyl energy. And so when you combine electrification of energy consumption and with a fast pace of renewables, what you're doing is you're improving your energy self-sufficiency. And when we look at the self-sufficiency of energy consumption, it's gone up in China.
In 2025, it was a little over 80%. And what that looks at is of all the energy you consume, how much comes from domestic renewables, domestic nuclear, and domestically produced fossil fuels? And even though China doesn't have a lot of oil and gas, they're at about 80%, 81% self-sufficient at this point. And that number is even higher this year, because China has cut its oil imports by 30% to 35% through a combination of three things.
Drawing down on massive strategic and commercial reserves that reportedly exceeded a billion barrels at the peak, the use of gasification of domestic coal reserves to make petrochemicals instead of having to either produce or import oil and gas. They can synthetically make it by gasifying their coal reserves and then making petrochemicals and plastics from that. And increased electrification. So China is rapidly rising up the food chain in terms of energy self-sufficiency, and is set to continue to improve on that front.
And with respect to electrification, I have these debates a lot, and you see a lot of good and dumb information on social media and LinkedIn and places like that. China is arguably the only major car market in the world whose electrified share of the existing fleet has reached escape velocity. So what does that mean? At this point, they are selling so many EVs and retiring so many internal combustion engine cars that they're almost at 20% of the fleet being EVs.
But those numbers are rising much more slowly and are much lower, sub 10%, in different parts of the world. And certainly when we look at-- please stop wasting your time and mine by looking at Norway. Let's look at the top 10 countries that make up 70% to 75% of global passenger car sales. And of those markets, the numbers are all 10% or lower and rising in a much slower pace. And in China, it's not just passenger cars. You're starting to see oil displacement by electrified buses, class eight semi-trailers trailers, and long haul trucks.
So here's where it gets interesting, and here is where the energy mercantilism discussion begins. So China's clean technology exports, focusing for a moment just on batteries, EVs, and solar panels, they were kind of steady in the late 2010s and then jumped after Russia's invasion of Ukraine and then jumped again earlier this year after the US invasion of Iran.
So each time that you have a geopolitical event that affects oil supplies and availability and pricing, you tend to get this jump in clean technology exports. And that's great, and there are plenty of examples of China's exports in terms of renewables and other transition things, products helping other countries increase their self-sufficiency as well.
But like the Trojan horse generous in The Odyssey, the gift of inexpensive Chinese exports is not always as. As unilaterally and universally beneficial as it seems. And here you can see an image of the Zodiac fire horse being tugged onto the beach in a scene we replicated from Nolan's Odyssey movie.
Look what's happened to global auto exports. There aren't too many charts that look like this in the history of charts, where Japan, China, Germany, South Korea, the US are the five largest auto exporters. For a decade, they all maintain their respective positions. And then starting in 2021, China just starts to eat all their lunch at an incredibly rapid pace.
And even the imposition of duties isn't slowing them down. In late '24, Europe imposed new duties on Chinese EV imports of 17% to 35% on top of the traditional import tariff. They dropped temporarily, but they started going up again. And so there's a bit of a juggernaut as it relates to this. And the issue for Europe is a couple of hundred thousand auto jobs lost so far, and all the multiplier effect impacts of that, with another 3 or 400,000 auto jobs at risk by 2030, according to some of the industry associations and labor unions and things like that in Europe.
So there's a lot of damage that this is doing to economies that are absorbing this flood of Chinese exports. And this is not just a problem for Europe. Europe gets a lot of press because of what's going on with its auto markets. But this is an arguably even bigger problem for the ASEAN countries. Indonesia, Cambodia, Laos, Malaysia, Philippines, Singapore, Thailand, Vietnam, for Latin America and the Caribbean, and for what's called South Asia, which is basically India, Bangladesh, Nepal. China's manufactured trade surpluses with these regions are absolutely soaring, and this is creating a lot of stress fractures there as well.
And I just want to show this to you, just so that you can understand why this is somewhat of an unprecedented situation. And this is representative. Solar, wind, batteries, EVs. China has a certain production level, some of which they consume and some of which they export. Their capacity to produce is often double the amount they're actually producing. So China is set up to swamp the world with excess supply for years to come.
And here's another example. China is still dominating sectors that should already have transitioned to poorer countries years ago. In the beginning of this century, being in the 21st century, China had about of 35% share of apparel, textiles, footwear, and leather exports among all the low and middle income countries.
They also had 35% of the working age population of that set of low and middle income countries. Their population share has gone down from 35 to a little below 30, and their value added share of apparel, textiles, footwear, leather has gone from 35 to 65. So again, this is a sector that China arguably should no longer be dominating, but they are.
Now, how is this happening? Why is this happening I think is the question that a lot of people get into. Normally a collapse in producer prices would lead to competition and reduction in capacity, and China's had several prolonged period of negative producer prices. In every other country in the world I've ever seen, negative industrial producer prices reduce capacity. Not in China. The zombie industrial farms live on. And the share of the Chinese industrial entities operating at a loss has doubled from 15% to 30% of all of them just over the last few years. So these zombie firms continues to survive.
And so then the question is, how are they surviving and what is China doing? And China strenuously object to descriptions of its economy as benefiting from mercantilism and points to innovation. I would argue that there's heavy doses of both. And as it gets to the subsidies and industrial policy side, the numbers are clear at this point.
So the first chart we have in here on this is from CSIS. And it looks at industrial spending, policy spending in key economies. China, no matter how you compute it, absolutely dwarfs South Korea, France, Germany, Taiwan, the US, Brazil. And then another version of this from the OECD. They have a database that tracks this kind of thing. And they look at below market borrowings, income tax concession, and government grants. Again, Chinese industrial subsidies crush Europe, North America, Asia-Pacific.
Almost 60% of all new Chinese bank loans are actually extended at or below the prime rate of 3%. I mean, imagine if you read that 60% of all the bank loans that were being given out in the United States by the banking system were made at the Fed funds rate, everybody would immediately borrow all tons of money.
So this is the most blatant example of mercantilism in any country in the post-war era. And the consequences are pretty damaging. Just in the last three years, when we look at those ASEAN countries of Malaysia and Philippines, Vietnam, Thailand, Indonesia, all of them saw their manufacturing share of GDP decline because of what China is doing. And there was a report to Congress last year that walked through hundreds of thousands of jobs lost in different sectors, particularly in Indonesia and Thailand, which creates a lot of instability in those countries. And some of them are starting to think about ways of slowing this down, which is somewhat difficult.
So just to wrap up here, yes, many countries are beneficiaries of cheap, renewable exports. And Pakistan's one example of that. A friend of mine said, Mike, have you seen what's going on with solar in Pakistan? Yes, here's a chart on it. The solar share of electricity generation has gone from 4% to over 20% in like three years. That's an unbelievably rapid transformation. And solar is even taking up a bigger share of total energy consumption because of that.
But if you remember from The Odyssey, there was this character. He had one eye. He was a cyclops, and his name was Polyphemus. And I was thinking of him here because so many people are just so focused on energy that they're missing the big picture, because they've just got one eye open. And just having a singular point of focus misses the fact that energy is just one sector of the economy.
So yeah, can get access to cheap solar exports from China and greater energy independence to boot, but that has to coexist with a flood of Chinese exports across multiple sectors of your economy, and not just energy. And the countries that are trying to navigate China's unprecedented production surplus are facing a huge challenge, energy independence, dividends notwithstanding.
And the best quote I've seen from this comes from Logan Wright at the Rhodium Group. and because I was looking at all of these anti-dumping and countervailing duty investigations that have been initiated against China, and his Logan's was an economy like China's that is so dependent on global demand for growth cannot remain in perpetual conflict with its customers. And so I think that's pretty apt. And so we're heading for a global showdown of sorts as the US, which went first, but as the US and Europe and Latin America and Southeast Asia begin to try to wall themselves off from this massive and unprecedented production surplus in China. None of which is good news for investors in China, and we've seen the evidence of that already.
So just one more quick comment. There have been some Odyssey themes in the market. I've been keeping track of all the criticisms that Nolan's film has gotten. So unconventional casting choices, American accents, inefficient attention to details regarding the interventions by the Greek gods that were present in the original Homeric text, but did not appear in the movie, a fictional movie. Anachronistic themes or character introspection in the ancient world. In other words, it was unrealistic for him to portray Odysseus as having introspective angst and things like that because it didn't exist then.
He shouldn't have filmed in territorially disputed parts of Morocco. There's insufficient depth of all of his female characters. There are costume inaccuracies, and my favorite one is they used Norse longships instead of the Bronze Age Greek vessels, and that's outrageous. As the film crosses $1 billion in worldwide box office revenues, thankfully, the audiences are ignoring all the harpies.
And again, this is another reminder that it's a lot harder to create than it is to destroy. Thank you for listening. We're going to have an Eye on the Market investment recommendation post-mortem a little bit after Labor Day, and we'll see all then. Thank you. Bye.
