The world’s auto markets were shocked in May when China’s leading electric vehicle maker, BYD (Build Your Dreams), offered a model for the equivalent of about $8,000. The low price seemed untied to the true costs of EVs.
A while later, U.S. Treasury Secretary Scott Bessent said the Chinese economy – the world’s second-largest – is “the most unbalanced” in history. He was reflecting global concerns that China would export goods at artificially low prices to boost its economy and thus damage others, driving a global descent into trade barriers.
That concern, however, was not only outside China.
In recent months, the Chinese Communist Party has admitted that excessive government incentives in the country’s showcase industries – including solar panels, batteries, and EVs – have helped distort market forces, leading to excess capacity and overheated price wars. The ruling party is worried that private firms will now reduce spending on research and set back China’s drive to be a leader in innovation.
The downward spiral of prices, combined with a slump in property values, has led to deflation, or what is dubbed in Mandarin neijuan, “turning inward.” In June, producer prices in China fell 3.6% from a year earlier, the largest decline in more than two years.
“Neijuan directly affects wage levels, government tax revenues, investment confidence and the whole economy,” declared an editorial in the People’s Daily.
Deflation often comes with a self-perpetuating mentality among consumers that is hard to break. If they expect prices to drop, they delay purchases, causing prices to drop again. In the same way, businesses that keep expecting government subsidies rush to make more products.
“China’s overcapacity isn’t just a manufacturing issue but a mindset issue,” wrote Singaporean economist Kok How Lee in the South China Morning Post.
The party is now trying to correct that mindset by lowering subsides, forcing companies to merge, and curbing the practice of big manufacturers forcing small suppliers to lower prices. Party leader Xi Jinping calls it “the orderly exit of outdated production capacity.” The mental shift may have begun. Some economists say China could beat deflation by 2026. The rest of the world is watching.
