Shenwan Hongyuan's Zhao Wei: AI Has Become a Key Driver of China's Economy, Consumption Is the Biggest Long-Term Opportunity

Overseas "Collective Tightening" and the Risk of "Stagflation-Like" Conditions

Q: In September, the Federal Reserve raised interest rates by 25 basis points, while the European Central Bank and the Bank of Japan also raised policy rates. Global monetary policy has shifted toward collective tightening. How do you interpret this "collective tightening" among major overseas economies?

A (Zhao Wei): On the surface, the three major central banks—the Fed, ECB, and BOJ—do appear to be tightening collectively, but the underlying logic differs for each.

The Fed is primarily dealing with inflation stickiness amid strong economic resilience and robust demand. Its rate hikes are aimed at suppressing aggregate demand to ensure inflation returns to target. The ECB faces imported inflation risks from rising energy prices, with the key focus on preventing a one-off shock from evolving into a second-round wage-price spiral. The BOJ's rate hike, meanwhile, is based on improving wage growth and inflation expectations, marking a gradual exit from ultra-loose policy. So while their direction is aligned, the driving logic is not identical.

Currently, the U.S. and Europe are in the early stages of a new rate hike cycle, which could be characterized as "catch-up" tightening. The BOJ's cycle, which began in 2022, is likely already in its second half. Based on current market pricing, the Fed may raise rates three more times over the next year, the ECB three to four times, and the BOJ two to three times. However, the exact trajectory will depend on how inflation evolves.

Q: Oil prices have been volatile at high levels amid geopolitical turmoil in the Middle East. You have previously warned that the "stagflation" pressure from rising oil prices will gradually materialize. Looking ahead to Q4, how might global "stagflation-like" risks play out?

A: Under the baseline scenario, the global economy may face a "stagflation-like" environment in Q4, though the primary challenges will differ across economies. The U.S. economy remains relatively resilient, while Europe exhibits more pronounced stagflationary characteristics. The tail risk that truly warrants vigilance is a renewed surge in oil prices, which could raise household inflation expectations and trigger a "wage-price" spiral. In that case, major central banks may be forced to tighten further, suppressing aggregate demand.

RMB Exchange Rate: Strength Amidst Widening Interest Rate Differentials

Q: Against the backdrop of a deepening inversion in China-U.S. interest rate differentials, the RMB exchange rate has remained strong recently. What are the main reasons behind this? How do you assess the future trajectory of the RMB?

A: We believe the recent RMB strength is not contradictory to the widening interest rate inversion. Three key factors are at play:

1. Reassessment of the dollar's convenience premium. Rising U.S. fiscal sustainability concerns and policy uncertainty have eroded the safety and liquidity premium of dollar assets. High interest rates do not necessarily equate to a strong dollar; they may also imply higher risk compensation.

1. Stock hedging replacing flow carry trades as the marginal driver of exchange rates. Global investors hedging their large dollar asset exposures generate dollar selling pressure that can exceed the incremental capital attracted by interest rate differentials.

1. Diminishing stability in U.S. policy paths. Current interest rate differentials are a poor proxy for future holding returns, reducing the appeal of carry trades that rely on policy predictability.

Looking ahead over the next year, we remain bullish on the RMB appreciating against the dollar on a fluctuating basis. On the external front, U.S. fiscal and monetary policies may suffer from a "fallacy of composition." Fiscal expansion and relatively tight monetary policy may each appear to support the dollar individually, but their combination could increase debt service costs and exacerbate policy conflicts, likely resulting in two-way volatility rather than sustained dollar strength.

Domestically, the wave of foreign exchange settlements is expected to continue. The flow settlement from trade surpluses, combined with the release of approximately $400 billion in accumulated un-settled foreign exchange from 2022–2025, could create a共振 (resonance effect). However, the pace of releasing these "pending settlement funds" depends on exchange rate expectations and corporate cash management. Therefore, while the direction of RMB appreciation remains intact, the process may not be a one-way trend.

AI: A Key Driver of China's Economy

Q: How will AI-related industries impact China's economic trajectory? What steps should China take to fully leverage the historic opportunities presented by AI?

A: The development of AI-related industries has become a significant driver of China's current economic growth. Since 2023, the average growth rate of new economy value-added, represented by the information technology services sector, has been 11.3%. In contrast, the average growth rate of value-added in infrastructure/real estate and labor-intensive industries has fallen to around 2% and 5%, respectively.

From a demand structure perspective, AI impacts exports, investment, and consumption. In 2026, AI goods contributed 50% of total export growth. In investment, only high-tech industry investment has rebounded significantly. In consumption, categories like communication equipment have performed well. AI-related inflation has also influenced PPI and CPI readings.

For China to seize the historic AI opportunity, systematic efforts are needed in six areas:

• Strengthen the computing power foundation, focusing on building a domestic software and hardware ecosystem, avoiding an overemphasis on hardware while neglecting the software stack.
• Activate high-quality data elements, transforming massive data resources into "data crude oil" usable for model training.
• Make "AI + real economy" the main battlefield, closing the commercial loop and avoiding projects that remain at the demonstration stage.
• Build a tiered talent system, addressing gaps in basic research and compound talents for industry applications.
• Improve the capital, financial, and innovation ecosystem, developing long-term patient capital and optimizing innovation incentive mechanisms.
• Establish a tiered and classified AI governance system, maintaining an inclusive and prudent approach while ensuring safety and controllability.

Consumption: The Biggest Opportunity for the "15th Five-Year Plan"

Q: Consumption recovery has been a key policy focus in recent years. How do you understand the deep-seated reasons for weak domestic demand? What more needs to be done to truly stimulate domestic demand?

A: The deep-seated reason for weak domestic demand is the phased adjustment pressure accompanying the economic transformation. This is reflected in three main areas:

• Slowing income growth for residents
• Pressure on corporate spending capacity
• Weak consumer confidence

To truly stimulate domestic demand, policies must target structural pain points in the transformation process. For the weakening of the old economy, stimulus can be directed toward areas with future growth potential, such as new infrastructure, energy transition infrastructure, and digital infrastructure. Expanding effective investment can help alleviate employment pressure in the construction and metallurgical industries to some extent.

Additionally, stronger employment policy support is needed to guide the unemployed toward service sectors and other areas aligned with the future direction of economic transformation. To address local fiscal constraints arising from the transition, the central government could expand support for local governments, optimize local government borrowing policies, reduce rigid spending pressures at the local level, and increase local fiscal resources through multiple channels. Easing local fiscal pressures can help mitigate the decline in the fiscal policy multiplier effect caused by the transition.

Q: Beyond income expectations, what other factors are shaping Chinese residents' consumption behavior? What is your medium-to-long-term assessment of China's consumption potential?

A: Leisure time and effective supply are also shaping Chinese residents' consumption behavior. In recent years, the phenomenon of "herd-style" consumption has become more pronounced. Many tourist attractions are increasingly quiet during off-peak seasons but overcrowded during holidays, which diminishes the consumption experience and even leads some residents to forgo travel altogether.

Insufficient effective supply is another factor suppressing consumption, particularly in services. For example, the quality of service supply often fails to meet residents' needs, and there is a shortage of sports facilities and domestic services.

In the medium to long term, Chinese residents' consumption has significant room for improvement. First, rising per capita GDP provides a foundation for consumption growth. Future policies to optimize income distribution will also increase the share of labor compensation, supporting sustainable consumption growth. Second, China's urbanization process still has considerable room for advancement, especially in terms of household registration (hukou) urbanization, which is conducive to unlocking residents' consumption potential.

Q: Next year marks an important year for the implementation of the "15th Five-Year Plan." If you were to forecast China's medium-to-long-term economic growth, what would you identify as the biggest risk and the most underestimated opportunity?

A: The downward pressure on investment from local fiscal balance issues remains a significant risk. In the post-real estate era, a sharp decline in land purchases by developers has significantly impacted local government revenue sources. Local governments also face constraints such as rigid spending, debt resolution, and a lack of "good projects," which weighs on fixed asset investment.

The growth and upgrading of the consumer market stand out as a prominent potential opportunity. By international comparison, China's share of middle-income groups, the proportion of labor compensation in national income, and residents' overall consumption time are relatively low. As reforms continue to advance, the development potential of the consumer market is likely to be gradually released. Furthermore, China has been intensifying its opening-up efforts in recent years, introducing policies such as visa exemptions and various measures to support inbound tourism. The driving effect of inbound consumption is becoming increasingly prominent.

(Source: Securities Times / 券商中国)