This week, we explore how China’s mounting debt is threatening its economy, and how Beijing is trying to shift towards technology-driven growth. Then, we delve into the challenges investors face in a high-interest rate era, including the lackluster adoption of AI across industries, as well as the heavy debt burden that the developing world faces. Next, we examine the rising protectionism and polarization in Europe, and how that factors into Britain’s Labour party’s push to repair relations with the continent. We end this week’s newsletter with a look at the challenges that China and Russia pose to the West, highlighting the waning influence of the West in West Africa.

The Great Wall of Debt Threatens China’s Economy

Trillions in Hidden Debt Drove China’s Growth. Now It Threatens Its Future.

Briana Spegele and Rebecca Feng, The Wall Street Journal

China’s GDP growth slows to 4.7% in Q2, missing forecasts

Grace Li, Nikkei

EVs, Solar, Tech Sectors Help Xi Jinping’s China Navigate Property Slump

Bloomberg

For years, many cities across China have had economic development projects fueled by trillions of dollars in off-the-books debt amassed through opaque state-owned funding vehicles. This hidden debt, estimated between $7 trillion and $11 trillion, with up to $800 billion at risk of default, now haunts these cities with overgrown construction sites and vacant infrastructure projects. The failure of these initiatives, including an unfinished light-rail system and an abandoned amusement park in the city of Luizhou, vividly illustrates the perils of debt-driven growth and the local government’s struggle amid a collapsing real estate market. The fallout has been significant, culminating in the dismissal and legal actions against Mayor of Luizhou Wu Wei, highlighting broader issues of fiscal mismanagement and unsustainable development practices across China.

Meanwhile, China’s overall economic woes persist as GDP growth slowed to 4.7% in Q2 2024, missing forecasts and declining from 5.3% in the previous quarter. The slowdown amplifies concerns ahead of the third plenum, amidst challenges from a persistent property crisis, feeble consumer demand, and escalating trade tensions. Property investment plummeted 10.1% in the first half of the year, accompanied by continuous declines in home prices and dismal consumer confidence. Even with substantial government subsidies, retail sales growth staggered to 2.0% in June, hitting its lowest point since December 2022. Analysts caution that while China aims for a 5% growth target for the year, decisive policy interventions are imperative to address domestic demand and stabilize the beleaguered property market. Despite these economic headwinds, Xi Jinping’s strategic focus on high-tech sectors like electric vehicles, solar energy, and semiconductors means that his quest for “high-quality growth” could come to fruition. These industries, critical for boosting exports and mitigating domestic weaknesses, are at the forefront of China’s economic agenda as reaffirmed in the ongoing third plenum. This shift toward technology-driven growth signifies a deliberate effort to reshape China’s economic landscape, reducing reliance on traditional sectors like property and heavy industries, and positions the nation for sustainable long-term growth.

Challenges in a High-Interest Rate Era, AI’s Shortcomings, and Global Debt

How to Invest During a High Interest Rate Era 

Suzanne Woolley, Bloomberg

What happened to the artificial-intelligence revolution? 

The Economist

Debt Is Dragging Down the Developing World | Foreign Affairs 

Mark Suzman, Foreign Affairs

In today’s high-interest rate environment, investors must navigate a landscape where traditional strategies may no longer apply. For instance, loan costs have risen significantly for borrowers while savers are benefiting as high-yield savings accounts and certificates of deposit offer returns that exceed inflation, and bond investors benefit from stronger yields. The stock market is defying expectations, with the S&P 500 reaching new highs despite higher borrowing costs, driven by investor confidence in technology, particularly Artificial Intelligence with companies like Nvidia leading the surge. Companies like Alphabet, Amazon, Apple, Meta, and Microsoft are heavily investing in AI research and development, leading to significant growth in their stock prices due to expectations of future AI-driven profits. However, despite the hype, official statistics show limited AI adoption across various industries, with many companies still experimenting and using AI for narrow tasks like customer service and marketing. Concerns about data security, algorithmic bias, and unreliable outputs persist, and examples of companies revolutionizing operations with AI might be misleading. Contrary to fears of mass layoffs, unemployment rates remain low, wages are growing, and there’s no significant increase in worker movement between companies. Data on white-collar professions shows stable employment levels, and macroeconomic data suggests no surge in productivity linked to AI adoption. Businesses outside big tech are not investing heavily in AI, hindering widespread implementation. Investors are betting on big future profits from AI, but this could be a gamble if the technology doesn’t deliver as expected.

Meanwhile, the burden of national debt continues to weigh heavily on developing countries. Due to COVID-19 and other recent shocks, many developing countries have had to take on large debts they can’t afford to repay. As a result, these countries are struggling to fund basic necessities like healthcare and education, stalling economic growth and stability. Analysts believe that to combat this, wealthy nations and institutions like the World Bank need to provide more affordable loans and debt relief to these countries. Potential solutions include increasing funding for the World Bank’s International Development Association (IDA), which offers low-interest loans and grants to the poorest countries, and improving past efforts like the G-20’s debt-relief initiatives, which haven’t delivered enough resources to the countries that need them most. Helping developing countries recover will not only improve their economies but also boost global innovation and benefit the world as a whole.

Rising Protectionism and Polarization in Europe

Europe prepares for a mighty trade war 

The Economist

Forces on Both Left and Right Battle for Europe’s Political Soul 

Andrew Higgins, The New York Times

Starmer has a golden opportunity to reset relations with Europe 

Anand Menon, Financial Times

Europe’s shift towards greater trade protectionism is reshaping the continent’s economic landscape. The European Union (EU) aims to uphold the World Trade Organization (WTO) rules it benefits from while protecting its industries from unfair competition, but this requires a delicate balance. Applying tariffs on Chinese EVs, even if WTO-compliant, could strain relations with China, and German carmakers fear retaliation. Defending the WTO is crucial for the EU, but the system might be outdated for today’s economic giants, making the EU a more predictable but potentially disadvantaged player. This transformation is happening at the same time as a fierce political battle between left and right-wing parties. This increasing polarization weakens the traditional center parties and could threaten further erosion of democratic norms. Public trust in democracy and traditional institutions is declining while distrust toward “establishment parties is rising. However, despite the rise of nationalist parties, many experts believe that institutions are still strong enough to keep extremists from tearing them down, and the popularity of nationalist parties has not always translated into lasting power.

In this context, Britain’s Labour Party under new Prime Minister Keir Starmer sees a chance to mend relations with Europe. Labour’s manifesto aims to reestablish the UK as a “leading nation in Europe,” fostering an ambitious and improved relationship with European partners. Amidst the ongoing war in Ukraine and increasing global instability, the argument for stronger security ties with neighboring countries is compelling. However, the details will be crucial: analysts believe that the UK must convince the EU to ease restrictions that prevent British involvement in initiatives like the European Defence Fund, designed to boost military collaboration. Additionally, while the manifesto promises to “remove unnecessary trade barriers,” it remains uncertain if this will be achievable. The vital question remains: Will the increasingly protectionist, polarized EU be open to negotiations?

The Chinese and Russian Challenge to the West

China’s Unique Challenge to the West

David P. Goldman, Law and Liberty

Mali, Niger, Burkina Faso: How a triumvirate of military leaders are redrawing West Africa’s map

 Paul Millar, France 24

How China and Russia could hobble the internet

The Economist

Imperial powers of the past often pursued conquest to secure access to scarce resources such as slaves, gold, and agricultural land. In today’s geopolitical climate of great power competition, however, people have emerged as the most crucial scarce resource as viewed from the lens of China and its interactions with the Global South. China, like the West, is facing a demographic decline and has sought to increase its influence in the Global South as the working age of the global population shifts southward to counteract its emerging demographic deficiencies. The Chinese have chosen a strategy that does not count on increased fertility within its borders but instead focuses on AI-driven productivity enhancements and the Belt and Road Initiative (BRI) to export infrastructure and technology to the Global South. However, despite China’s global economic footprint and dominance in key industries, including telecom and new energy vehicles, the West retains an advantage in innovation potential, particularly in AI applications for economic development. To effectively counter China’s influence, democracies must form a cohesive alliance structure focused on technological innovation, for military and civilian use, as well as offer alternatives to Chinese infrastructure projects in developing regions.

The newly formed Alliance of Sahel States (AES) — Niger, Burkina Faso, and Mali —represent a significant region in the Global South where Western influence is waning. The military leaders of these states have criticized Western intervention and aligned themselves away from what they view as Western-influenced African groupings like the Economic Community of West African States (ECOWAS), instead seeking security assistance from mercenary groups associated with adversarial powers like Russia. This shift not only diminishes Western influence but also undermines regional unity and stability. To regain standing and foster stability in this critical region, the West must prioritize understanding regional dynamics, offering targeted support where needed. Also of geopolitical importance, the West must work together to ensure the security of vulnerable undersea cables as there is the potential for China and Russia to sabotage these nodes that carry the majority of the internet’s traffic globally. There are currently over 600 active or planned undersea cables crisscrossing the world’s oceans, measuring roughly 870,000 miles in total length. These nodes not only carry civilian internet traffic but also vital communications between Western intelligence services and island nations like Taiwan, increasing their strategic value. Furthermore, repairing these cables after they have been severed is hard and the world has roughly 60 repair ships, with the majority not being flagged by Western powers. As a result, the West is rapidly trying to improve the defense of these cables and understand what is happening underwater. Ensuring the security of these critical infrastructures is not just a matter of technological advancement but a strategic imperative for maintaining global stability and safeguarding the future of international communications.