As economic split-screens go, surging Chinese stocks are one for the ages.
On one, Shanghai shares are testing 10-year highs as the market races past the S&P 500 and other top global bourses. On the other, an underlying economy is struggling under the weight of a deflation-generating property crisis, weak household demand and an aging population.
The disconnect, though, isn’t turning off the Shanghai bulls. This is, in part, thanks to optimism that President Xi Jinping’s Communist Party is going all-in on artificial intelligence investment.
Xi’s pledge to put China at the forefront of global AI penetration, even using the party’s “unwavering” phraseology to demonstrate resolve, has many investors playing the AI long game.
Alibaba Group’s stock surge may tell the story. On August 29, China’s e-commerce leader reported an AI-driven revenue surge, the latest sign that Alibaba is making serious headway against rivals since the DeepSeek shock earlier this year.
Alibaba said AI-related product revenue “maintained triple-digit year-over-year growth for the eighth consecutive quarter.”
Like many Chinese tech companies, the juggernaut Jack Ma co-founded has been investing aggressively in AI infrastructure, while offering an array of AI services involving its cloud computing business. Investors view the unit as key to Alibaba’s ability to monetize AI.
In the quarter ending June, cloud computing revenue jumped an annualized 26%, an acceleration from the previous three months. Overall, Alibaba posted revenue of nearly US$35 billion in the second quarter — a 2% year-on-year rise. Net income jumped an annualized 78%.
Between the DeepSeek Sputnik moment in January and Alibaba now, the “Made in China 2025” extravaganza that Xi launched in 2015 is scoring its biggest public relations wins to date. Nine months ago, DeepSeek’s arrival on the scene generated the best headlines Xi’s economy had in a long while.
DeepSeek’s promise of a cost-effective AI model using less-advanced chips had America’s Nvidia and Dutch chip-making equipment giant ASML reeling. It also knocked the chips off the shoulders of Silicon Valley bros cozying up to US President Donald Trump. Suddenly, US tech dominance was in question as rarely before.
DeepSeek’s arrival also managed to eclipse Trump’s big AI event at the White House in January. Trump stood with OpenAI’s Sam Altman, SoftBank’s Masayoshi Son and Oracle’s Larry Ellison, declaring victory over AI. DeepSeek made Trump’s ballyhooed $500 billion Stargate AI infrastructure project look like old hat.
China Inc’s big win provided an even greater incentive for Team Xi to accelerate moves to raise the nation’s innovative game. For Trump World, DeepSeek was a stark reminder that tariffs won’t revitalize US tech entrepreneurship in ways that equalize the China threat. Only bold policy moves can do that.
Now here comes Alibaba to prove that Xi’s 2015 strategy to increase China’s global footprint in technologies of the future, including biotechnology, electric vehicles, renewable energy, semiconductors and now AI, is paying dividends.
Take BYD. Though the EV upstart that last year surpassed Elon Musk’s Tesla had a rough second quarter — revenues plunged a staggering 30% — China’s auto revolution continues to upend the global auto market.
Alibaba is also turning heads by finding ways to capitalize on AI with the best of them, including OpenAI, Google and Microsoft. The Shanghai stock surge owes much to these tech wins.
The $50 billion stock rally that Alibaba triggered helped calm investor fears about the costs of the intensifying battle for e-commerce with Meituan and JD.com. The AI arms race has Western tech giants Alphabet, Amazon, Meta, Microsoft, Nvidia, Tesla and others investing aggressively.
Yet the “old economy” part of the split-screen matters, too. The reason investors are debating whether Shanghai shares are getting ahead of their skis is China’s unbalanced economy.
The return of China Evergrande Group to global headlines is the last thing Asia’s biggest economy needs. Late last month, China’s top property developer had its shares unceremoniously removed from the Hong Kong Stock Exchange.
On August 28, Fitch Ratings downgraded China Vanke Co, citing “further weakening” of the homebuilder’s liquidity. Fitch analyst Rebecca Tang says it’s “essential for China Vanke to address its financial obligations, as Fitch forecasts its free cash flow to remain negative in the near term.”
Trouble is, there are dozens of giant developers across China’s $18 trillion economy facing the same exact pressure as domestic demand slows.
Economist Sunny Kim Nguyen at Moody’s Analytics points out that “sentiment is gloomy as firms grapple with weak demand and squeezed margins. A temporary trade truce with the US has offered some respite, but sporadic US threats are keeping the [manufacturing] sector on edge.”
Risks emanating from abroad are colliding with numerous pre-existing conditions at home. China’s property crisis resulted in the longest deflationary streak since the 1997-98 Asian financial crisis. Weak household demand and near-record youth unemployment are slamming confidence.
Things may soon get much worse if Trump decides to raise the current 30% tariff rate should Xi play hard to get on a US-China trade deal. So far, Trump has moved much slower in deploying trade curbs than global investors expected.
These risks only increase the urgency for Xi’s team to stabilize China’s financial system. Immediate priorities include repairing a weak property sector that fuels deflation, building more vibrant capital markets, reducing youth unemployment, addressing runaway local government debt, curbing the dominance of state-owned enterprises and increasing transparency.
Team Xi also must create a vibrant network of social safety nets to encourage consumption over saving.
In recent months, Xi’s government intensified efforts to support China’s volatile stock markets by encouraging pensions and mutual funds to invest more in domestic stocks and prodding mainland households to buy more shares.
Such steps are only necessary, though, because Team Xi has been too slow to address the economy’s pre-existing conditions. One big debate in financial circles is whether Beijing might resort to weakening the yuan to boost economic growth.
The pros are obvious. A weaker exchange rate would further boost exports, a key reason why China may reach 5% growth this year.
Yet the cons are stopping Team Xi from going the weaker yuan route. For one thing, it might make it harder for highly indebted property developers to make payments on offshore bonds.
That would increase default risks in Asia’s biggest economy. Seeing #ChinaEvergrande trending again is not what Xi’s party wants in 2025.
For another, the monetary easing required to depress the yuan could squander years of deleveraging efforts. In recent years, Beijing has made important strides in reducing China’s financial excesses and improving the quality of gross domestic product.
As a result, Xi and Premier Li Qiang have been reluctant to let the People’s Bank of China ease more assertively, even as deflation deepens.
Xi’s government has proved more skilled at talking the talk than walking the walk on earning the trust of global investors. Too often, Xi’s reform team put the proverbial cart before the horse. Team Xi has tended to over-promise and under-deliver on financial reforms.
Deeper debt markets would help sort out the cart-before-the-horse problem that afflicts China’s economy. During the Xi era and before it, China too often believed that pulling in more foreign capital is a reform all its own. It’s been slower to strengthen China’s financial system ahead of those waves of overseas capital.
For example, China’s inclusion in the World Trade Organization in 2001 did less to recalibrate its growth engines than to remake the global economic system to its advantage.
The 2016 inclusion of the yuan in the International Monetary Fund’s “special drawing rights” didn’t stop Beijing from imposing capital controls or accelerate capital liberalization nearly as much as many hoped.
In 2019, A-share stocks being added to the MSCI index didn’t suddenly make China’s financial system sounder, the government more transparent, companies more shareholder-friendly or the ginormous shadow-banking world any less of a menace.
Strengthening China Inc — and validating the current stock rally — requires significant heavy lifting to curb the dominance of state-owned enterprises, increase economic space for the private sector and eliminate the risk of dueling bubbles in debt, credit, assets and pollution.
The key now is for vibrant debt capital markets to help catalyze growth of all sectors, but particularly those in the high-tech space — the realm Li has been elevating in recent months.
While it’s important that Beijing ends the regulatory volatility of recent years, more internationalized capital markets would accelerate China’s move upmarket.
Currently, investors are giving Xi and Shanghai shares the benefit of the doubt. Fair enough, so long as Beijing steps up efforts to raise China’s game not just in AI but the economy undergirding it all.
Follow William Pesek on X at @WilliamPesek
