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China’s Inward Turn – Self-Reliance✭

October 13, 2022

121 minutes

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China’s Inward Turn

The Pursuit of Economic Self-Reliance

It is said that “change is the only constant in life.” This sentiment took on particular
significance over the past few years as the COVID-19 pandemic raced around the
globe. Whether it was personal shifts in how people worked and interacted or larger
geopolitical shifts, change seemed to be all around us. As the pandemic
increasingly becomes a thing of the past, there is a desire for things to go back to
the way they were — get back to the office, start traveling again, and gather in large
groups for holidays and events. But can the world really go back to the way it was?
In our December 2021 Citi GPS report on Global Supply Chains, we noted the
pandemic forced corporates and governments to quickly adjust their supply chains
to deal with border closings, lockdowns that kept production sites shuttered, and
sudden shifts in demand as consumers spent more on merchandise than services.
The lessons learned from the experience resulted in a shift from “just-in-time” to
“just-in-case” inventory and a reassessment of global supply chains in general.
Governments responded by categorizing certain industries as critical and vowing to
produce certain goods domestically in the name of essential security.
In this new report, we look specifically at China and how change in the past few
years, and before then as a result of the Great Financial Crisis, has resulted in a
shift in the country’s development path in pursuit of self-reliance. China’s 14th FiveYear Plan, released in 2020, announced a policy framework of “dual circulation”
economics whereby China is rebalancing from an export-led “international
circulation” strategy to one that focuses more on its domestic market through selfreliance, or “domestic circulation.” This transition towards a more inward-looking
growth model was given additional urgency in response to recent geopolitical
events, in particular the U.S.-China trade war and tightening export controls on U.S.
technology, and the sanctions imposed on Russia after the Ukraine invasion.
The report focuses on three areas in which China’s pursuit of self-reliance seems
especially clear: (1) technology and self-sufficiency in semiconductor development;
(2) agriculture, where China can nearly secure its supply of staple grains but relies
on imports of feed grains; and (3) energy, where dependence on natural gas
imports has increased as part of a decarbonization push.
In order to address the challenges brought by China’s inward tilt, the government
elevated innovation to “core status” in its modernization. Technology decoupling
amid U.S. protectionism has pushed China to focus its innovation strategy on selfreliance in technology upgrading, which may ultimately lead to China’s Sputnik
moment in innovation. Strong government spending on research and development,
a large domestic market, and highly-skilled talent position China to increasingly
compete with industrialized economies and a more normalized regulatory regime for
platform companies should help minimize the risk of innovation being stymied.
Although self-reliance is the focus of the report, positive international spillovers will
continue as China’s import demand for food and consumers goods remains strong.
In addition, other economies can benefit as labor-intensive manufacturing
increasingly finds locations other than China.
Despite its inward turn to address the challenges of today’s new world, China’s
global relevance will continue to only grow.

China’s Inward Tilt
TOWARDS SELF-RELIANCE
China is moving towards a more self-reliant growth model that is increasingly state-dominated, inward-looking,
and investment-driven. China’s once export-driven economy started turning inward for economic reasons during
the global financial crisis amid a softening in trade. But geopolitics, including U.S. sanctions and the RussiaUkraine conflict, as well as ideology have now increasingly come into play.
Average Net Exports
Contribution to GDP Growth
0.30%

China’s Foreign Trade Dependency Ratio

0.3%

% of GDP

Foreign Trade Dependency
Exports
Imports

0.20%

64.2%
(2006)
34.2%
(2021)

0.10%

–0.1%

0.00%
-0.10%

2000-08

2010-21

‘78 ‘81 ‘84 ‘87 ‘90 ‘93 ‘96 ‘99 ‘02 ‘05 ‘08 ‘11 ‘14 ‘17 ‘20

Source: Citi GPS

Source: NBS, Citi GPS

DUAL CIRCULATION ECONOMICS: RESHAPING POLICY DYNAMICS
China introduced its “Dual Circulation Economics” (DCE) strategy in response to a hostile external environment
following the U.S. trade war. DCE aims to rebalance the Chinese economy from “international circulation,” based
on external demand as a stimulus to growth, towards “domestic circulation,” or increasing self-dependence.
Recent geopolitical events such as the Russia-Ukraine crisis have further elevated DCE in importance.
Key Features of
Dual Circulation Economics

A Framework for Dual Circulation Economics
Domestic Circulation

Refocus on domestic demand
expansion
Focus on the real economy,
not finance
Elevate economic security

Salary, Profit & Taxes

Commodities &
Tech Products

Labor, Intermediate
Inputs & Public Goods

Payments

Resource & Tech
Suppliers

Threat:
Domestic Consumers,
Corporates &
Government

Forcefully push forward
self-reliant innovation
Uphold high-level opening up

International Circulation

Trends:

Increasingly
unstable
supply chains

Made in China

Consumption &
Investment Products

Manufacturing
Goods

Payments

Consumption
upgrading; effective
investment

Trends:

Food, energy &
tech security;
industrial upgrading

Global Consumers

Threat:

Rising trade
protectionism

TARGET AREAS AND CONSTRAINTS
China’s pursuit of self-dependence is especially clear
in the areas of technology, food, and energy. In each of
these — especially in technology — China is constrained in
its ability to achieve pure self-reliance, but its efforts will
characterize Chinese policy for the foreseeable future.
Technology
Developing competence in semiconductors is the key to
China’s pursuit of tech self-reliance, but there are many
obstacles, including U.S. export controls and sanctions.
China Lags Industry Leaders in Chips
China

Industry Leader

12 nm

Logic

3D NAND

128 L

19 nm

DRAM

10 nm

7 nm

17 nm

A broad trend of U.S.-China tech decoupling
has pushed China to undertake an innovation
strategy based on self-reliance via a “new wholenation system” that mobilizes resources for core
technology breakthroughs. This shift may ultimately
lead to China’s Sputnik moment, and position it to
increasingly compete with industrialized economies.
China’s Advantages

Note: EV = electric vehicle

5 nm

144 L

18 nm

CHINA’S SPUTNIK MOMENT?

176 L

16 nm

14 nm

Largest

2nd largest

R&D staff

consumption market

Source: SIA, Citi GPS

Food
The weak links in China’s food supply system are more
a feedstock problem — staple grains are largely secure
but feed grain relies on soybean imports.
Grain Net Imports as % of Domestic Consumption
100%
80%
60%
40%
20%
0%
-20%

35%

R&D spend
forecast to reach

of global robotics
patents (2005-19)

3.8%
of GDP by 2030

43%

‘93 ‘95 ‘97 ‘99 ‘01 ‘03 ‘05 ‘07 ‘09 ‘11 ‘13 ‘15 ‘17 ‘19 ‘21
Rice
Wheat
Corn
Soybean

of global plug-in EV
market by
sales volume

Source: Wind-Economic Database, Citi GPS

Energy
China’s rising dependency on imported energy amid its
decarbonization push raises the importance of energy
security.
Net Fossil Fuel Imports as % of Domestic Consumption
80%
60%
40%
20%
0%
-20%
-40%

Global Implications
Positive spillover effects:
Food and consumer goods exporters
Potentially vulnerable to tech self-sufficiency:

Germany & Japan
vehicles
‘97

‘99
Coal

‘01

‘03
Oil

‘05

‘07 ‘09 ‘11
Natural Gas

‘13

‘15

‘17

‘19

‘21

Source: China Customs, NBS, Wind-Economic Database, Citi GPS

machine tools
robotics

South Korea & Taiwan
semiconductors
computer
equipment

United States
agri machinery
aerospace
EVs
biotech

Citi GPS: Global Perspectives & Solutions

October 2022

Contents
Chapter 1: The Inward Tilt of Chinese Policymaking
Chapter 2. China’s Dual Circulation Economics
Chapter 3. Can China Achieve Tech Self-Reliance?
Chapter 4. Can China Achieve Food Security?
Chapter 5. Can China Limit Its Dependence on Imported
Energy?
Chapter 6. Is China Sufficiently Innovative to Meet Its Goals?
Case Study: The Rise of China’s EV Sector

Chapter 7. International Spillovers of Dual Circulation and
Tech Nationalism
Chapter 8. Conclusion: Pessimistic or Optimistic?

7
14
19
26
31
38
42

47
55

October 2022

Citi GPS: Global Perspectives & Solutions

Chapter 1: The Inward Tilt of Chinese
Policymaking
“At present, economic globalization is facing an adverse current and protectionism is on
the rise, but we must persist in keeping the door open for development. China’s
development should be down-to-earth and step-by-step, open, inclusive, mutually
beneficial and win-win, and actively build a new development pattern with the domestic
big circulation as the main body and the domestic and international dual circulation
promoting each other. We should adhere to self-reliance, put the development of the
country and nation on the basis of our own strength, and firmly seize the initiative in
development. To build a great modern socialist country in an all-round way and achieve
the second Centenary Goal, we must take the road of independent innovation. We
must not wait to promote scientific and technological self-reliance, seize every day to
break through the ‘bottleneck’ problem, and strive to master the key core technologies
and equipment manufacturing industry in our own hands.”
— President Xi Jinping, August 18, 2022
We think China’s development path will be increasingly characterized by the
pursuit of self-reliance, in which state-led investment spending plays an
important role. An economy’s development path can be considered across three
dimensions: the role of the private versus the public sector, the role of external demand
versus domestic demand, and the role of investment versus consumption. This report
considers China’s future across these three dimensions, and the basic message is that
China is moving towards a more self-reliant growth model that is increasingly statedominated and inward-looking compared to the past, but still likely to remain
investment-focused. This transition towards a more inward-looking growth model has
been with us since the aftermath of the Global Financial Crisis (GFC), but we think
Beijing has given it additional urgency in response to actions by the administration of
former President Donald Trump and the geopolitical implications of the Russia-Ukraine
crisis. Of course, characterizing things in this way risks oversimplification, but the loss
of subtlety is worthwhile for the sake of clarity. To focus our analysis, we consider three
areas in which China’s pursuit of self-reliance seems particularly clear: in technology, in
agriculture, and in energy. What we find is that in each of these areas, and especially in
technology, China’s ability to achieve a pure form of self-reliance will be highly
constrained, but that the effort towards that goal will characterize Chinese policy for the
foreseeable future. The global implications of this are not especially encouraging.
In a sense, China is reviving a form of what some economists call “neomercantilism.” This is an idea most closely associated with Friedrich List, a 19thcentury German-American economist who articulated a “national” economics, in
contrast with Adam Smith’s “cosmopolitan” emphasis on free markets and individuals. A
recent book on the topic defines this approach to economics as a reliance on economic
activism on the part of the government, together with the use of strategic trade
protectionism, as a means to promote national wealth and power.1 Although
neomercantilism in this sense is rooted in 19th-century economic tradition, it might be
worth reviving as a way of thinking about Chinese economic policy in the 21st century,
since the basic contours of a neomercantilist way of thinking — as China becomes
more state-oriented, more protectionist, and more inward-looking — seem less and
less liberal in the Adam Smith sense. Arguably, this is not purely a Chinese
phenomenon, as protectionism and industrial policy also become increasingly visible in
the United States and Europe.

Eric Helleiner, The Neomercantilists: A Global Intellectual History, Cornell University
Press, 2021.

Citi GPS: Global Perspectives & Solutions

October 2022

China’s inward tilt is nothing new, in a sense: The economy has become
visibly more self-reliant since the GFC. Figure 1 and Figure 2 illustrate this point.
The 2010s, roughly speaking, saw a sharp decline in the contribution of net exports
to GDP growth, and that story is reflected in the declining ratio of exports to GDP.
That was, to begin with, the result of a purely economic phenomenon, namely the
decline in external demand growth that resulted from post-GFC belt-tightening in the
West, the eurozone crisis, and a general softening of global trade growth in the
post-crisis years. A gloomy external demand picture encouraged Chinese
policymakers to deliver investment-led stimulus to the domestic economy in a
number of phases, all of which had the effect of raising the role of domestic
spending in generating GDP at the expense of exports. Yet although China’s inward
tilt may have started out as a response to purely economic phenomena, recent
years have seen two other factors come to play an increasingly important role:
geopolitics and ideology.
Figure 1. The Contribution of Net Exports to GDP Growth Saw Its Peak
in the Years Running Up to the Great Financial Crisis of 2008…
(%)

Average Net Exports Contribution to GDP Growth

Figure 2. …Which Also Marked a Peak in the Ratio of China’s Exports to
GDP
(%)

0.30

40%

0.25

35%

0.20

30%

0.15

Exports of Goods and Services as a Share of GDP

25%

0.10

20%

0.05

15%

0.00
-0.05

10%

-0.10

5%
0%

-0.15
2000-2008

Source: Citi GPS

2010-2021

1990 1993 1996 1999 2002 2005 2008 2011 2014 2017 2020

Source: Citi GPS

Although China’s inward tilt may have started as a purely economic
phenomenon, geopolitics has supercharged China’s pursuit of self-reliance.
In the post-GFC environment, an emphasis on self-reliance in China could be
understood simply as an effort to wean the economy off a dependence on external
demand growth that had become unreliable in the wake of the crisis. These days,
though, it seems insufficient to think about self-reliance as a choice purely
motivated by economics. The punitive economic policy measures the U.S. imposed
on China during the Trump administration gave China further impetus to pursue
self-reliance, since it had become clear that China’s access to international markets
was becoming increasingly constrained.
More recently, Russia’s invasion of Ukraine is another factor that will likely intensify
China’s pursuit of self-reliance. Given the risks of future scenarios in which China
might confront coordinated sanctions in the way that Russia has — especially the
sanctioning of Russia’s central bank, which overnight left the government without
access to hundreds of billions of dollars’ worth of purchasing power — China’s
authorities are very likely considering what their policy options are to minimize the
effect if similar policies were in future aimed at Beijing.

October 2022

Citi GPS: Global Perspectives & Solutions

We think that in order to minimize the impact of any potential future coordinated
sanctions, China would have three apparent options: (1) to find “sanction-proof”
assets in which to invest its reserves, (2) to accelerate the internationalization of the
renminbi, or (3) to structurally reduce China’s economic dependence on the West.2
Of these three options, only the last appears truly reliable in the relatively near term.
And it has the advantage of building on a strategy that China already has in place,
namely, the Dual Circulation Strategy (DCS) also referred to here as Dual
Circulation Economics (DCE).3
The centerpiece of China’s growing emphasis on self-reliance is the Dual
Circulation Strategy. This was first formally announced at a Politburo meeting in
May 2020, and sets out a rebalancing of the Chinese economy away from
“international circulation” (the first kind of circulation on which China has relied,
namely, reliance on external demand as a stimulus to growth) towards “domestic
circulation,” or increasing self-dependence. A fuller discussion of the DCS can be
found in the next chapter of this report, but for now it suffices to say that the
Strategy clearly defines domestic circulation as the mainstay of the Chinese
economy in the future.
In some ways this represents an important generational change in the way China
will interact with the rest of the world. As far as we know, the term “international
circulation” originated in 1988 when a government researcher, Wang Jian, made the
case that China should adopt an export-led growth strategy, making use of its huge
surplus labor to plug the economy into the international manufacturing process. In
that sense, the de-emphasis of international circulation is an important historical
shift. In a People’s Daily article in November 2020, Vice Premier Liu He set out a
number of objectives relating to the DCS including: (1) the priority of upgrading of
China’s technological capacity, including an enhancement of China’s supply chain
resilience (though referred to in this article as “optimizing the structure of supply”);
(2) the need for finance to serve the needs of the real economy; and (3) the
promotion of further urbanization. Any mention of external demand comes last.
While DCE seeks to define China’s relationship with the world, by itself it
leaves two questions unanswered. Considering the three dimensions referred to
at the start of this chapter, DCE by itself only really addresses the balance between
external and domestic demand in shaping GDP. By contrast, it is basically silent
both on the relative role of the private and public sector, and on the balance
between investment and consumption — although Vice Premier Liu’s November
2020 article does call for China’s policymakers to “comprehensively promote
consumption.”

David Lubin, “Lessons of Sanctions on Russia for China,” East Asia Forum, March 29,
2022.
3 This report uses the terms “Dual Circulation Economics” and “Dual Circulation
Strategy” interchangeably.

Citi GPS: Global Perspectives & Solutions

Figure 3. After a Period of Liberalization That Saw Private Firms
Dominate Fixed Asset Investment, the State’s Role Has Revived…
(%)

Share of Fixed Asset Investment: State vs. Private Sector

80%

Figure 4. …Which Seems to Be Echoed in the Private Sector’s
Declining Share in a Number of Activities
(%)
70
60
50
40
30
20
10
0

60%

40%

Share of Private Investment in the Domestic Enterprise by
Sector
58
54
50
47
47
45 47 45
45
43
41
37
36
35
34
32
28 25
22
22

Leasing and
Commercial
Service

20%
2004

2006

2008

2010

2012

State-Owned Enterprise

2014

2016

2018

Source: Citi GPS

Financial
Intermediation

2020

Private Sector

October 2022

2012

2014

Information
Transmission,
Software &
Information
Technology
Service
2016
2018

Scientific
Research &
Polytechnic
Service

2020

Source: Citi GPS

As far as the role of the state is concerned, it does seem that state-level
activism and industrial policy are increasingly apparent in China today. Earlier
we highlighted the idea that geopolitics seems to be influencing Chinese economic
policy, but it is equally valid to argue that ideology is having an impact. President Xi
Jinping is often understood to be deeply influenced by Marxist ideology, and the
19th Party Congress in October 2017 saw him emphasize the need for “stronger,
better, and bigger” state-owned enterprises (SOEs).4 It is tempting to see a
connection between this new official emphasis on the role of the state in the
economy and the fact that SOEs’ importance in generating fixed-asset investment
has grown considerably since the 19th Party Congress. This is illustrated in Figure
3, which suggests that 2020 was the first year since 2005 in which SOEs accounted
for more than one half of total fixed-asset investment. Within the services sector,
this reassertion of the role of the state in the Chinese economy seems particularly
evident in leasing and banking (Figure 4), but it is also evident in other areas of the
economy. As for the role of industrial policy, Chapter 3 in this report discusses
China’s pursuit of technological self-reliance in which industrial policy — most
famously through Beijing’s Made in China 2025 strategy — features prominently.
It is not that the private sector is being eclipsed, more that its role is changing
in what some have called a “two strong hands” approach. The idea of an
eclipsed private sector may seem superficially attractive from the 2020-21
crackdowns on private firms in the tech sector, in private education, and in the
gaming industry. Yet what is going on here cannot be simplistically reduced to a
“private bad, state good” framework. Indeed, support for private sector development
is evident in a number of ways in recent years, from the effort to simplify the
process of registering businesses to a new bankruptcy law and greater reliance on
the court system to successfully adjudicate commercial disputes. One academic,
Chang-Tai Hsieh of Chicago University, has talked about this as a “two strong
hands” approach: one hand limiting excessive corporate power, the other seeking to
nurture a thriving small and medium-sized enterprise (SME) sector.5

China News Service, “China to Create Bigger, Better, Stronger State-Owned Firms,”
October 20, 2017.
5 Chang-Tai Hsieh, “Two Strong Hands: China’s Vision for the Private Sector,” The Wire
China, May 22, 2022.

October 2022

Citi GPS: Global Perspectives & Solutions

This way of thinking might be easily connected to a principle that President Xi has
expressed support for in his writings, namely a “traffic light system” for private
capital, in which the authorities decide what kind of investment spending is
appropriate for the private sector and what kind should be best left to the authorities
themselves. One important question that results from this is whether a new
approach towards the division of labor between the private and public sectors in
China will do any damage to “animal spirits,” or the willingness to take on project
risk, within the economy. Or, to phrase the question as we put it in Chapter 6 of this
report: Is China sufficiently innovative to meet its goals?
An additional feature of China’s inward tilt is the role of protectionism, which
seems increasingly evident as an approach to policymaking. We have noted in
other research the growing role of protectionism globally. In effect, there is a kind of
vicious circle at work: Rising protectionism impedes the growth rate of global trade,
while at the same time slower trade growth inclines countries to adopt more
protectionist policies. What we consider to be the best source of data on global
protectionism — Global Trade Alert, based at the University of St. Gallen —
suggests that China has been the second-most important source of protectionist
measures in the past 10 years after the U.S. (Figure 5). That said, the granularity of
the data we have about what measures China has imposed is relatively low, and
Figure 6 shows the vast majority of those measures can only be lumped into the
imprecise category of “other subsidies.” Since those subsidies are likely to be
related to the task of supporting Chinese exports rather than limiting Chinese
imports, we need to think about the idea of China’s inward tilt a little more broadly to
consider this as part of our theme. What we consider here is China’s preference to
maintain its current account surplus, which came dangerously close to a deficit in
2018. An important aspect of a neomercantilist bias in China’s economic policy will
be the continued emphasis on running current account surpluses: Current account
deficits increase the rest of the world’s financial claims on China, increasing the
economy’s dependence on the “kindness of strangers,” i.e., other nations to keep
financing those deficits. Since that kind of dependence is not in keeping with the
pursuit of self-reliance, we think a preference for surpluses will remain a critical part
of China’s policy framework. One way of ensuring this is to emphasize the role of
import substitution; for that reason, Chapters 3, 4, and 5 will focus on the theme of
import substitution in three critical areas: technology, food, and energy.
Figure 5. China Ranks a Close Second to the U.S. When It Comes to
Introducing Trade Restrictions During the Past 10 Years…
(%)

Figure 6. …Though the Vast Majority of China’s Protectionist Policies
Take the Form of a Variety of Subsidies

Share of Harmful State Interventions in Trade Since 2012

100

Countervailing
Measures
2.5%
Import
Licensing
Requirement
0.9%

90
80
70

Import Tariff
1.2%

Export
Licensing
Requirement
0.9%

Export Ban
Import Ban 0.2%
0.4%
Local Content
Measures
0.5%

Import Quota
0.3%

60
50

Source: Global Trade Alert, Citi GPS

Other

Russia

Canada

France

Spain

U.K.

India

Italy

Germany

China

U.S.

Export Quota
0.7%

Other
Measures
1.6%
Other
Subsidies
90.2%

Source: Global Trade Alert, Citi GPS

Export
Subsidy
0.6%

Citi GPS: Global Perspectives & Solutions

October 2022

China’s growing self-reliance still leaves unanswered a crucial question about
the Chinese consumer. In the past decade or more, there has been an active
debate around the idea of China’s economy rebalancing away from its dependence
on investment spending and towards a more consumer-driven pattern of activity. As
Figure 7 suggests, the overall size of the Chinese economy has caught up with the
U.S. much more reliably than Chinese consumer spending. That discrepancy has
given rise to the argument that a consumer-oriented rebalancing is necessary,
especially since some economists argue that Chinese workers have effectively
subsidized the development of the Chinese economy in recent decades by
accepting low wages in the pursuit of profit-maximization by firms.
The future of consumption in China is pretty bright, but although creating a
consumer-driven economy is important, it is probably not the main goal of
policymakers. The debate around Chinese consumption is often framed by noting
the gap between Chinese consumption as a share of GDP (around 62%) and that
share in the U.S. (closer to 70%). In our view, this is not a very helpful way to
assess the health of a population’s consumption possibilities. As Figure 8 makes
clear, China’s consumption-to-GDP ratio in the 1970s was close to where the U.S.
ratio is today. Yet no one would describe Mao-era China as any kind of consumer’s
paradise, and so it seems right to consider these ratios with a grain of salt. In other
words, it is quite possible for the Chinese economy to deliver greater opportunities
for consumption without consumption being a specific target for policy. In fact, to the
extent that geopolitics is driving Chinese economic policy these days, it is likely that
investment spending continues to be the mainstay of Chinese GDP.
Figure 7. The Overall Size of the Chinese Economy Has Caught Up With Figure 8. …But the Private Consumption Share of GDP May Not Be the
the U.S. A Lot More Reliably Than Chinese Consumer Spending Has… Most Reliable Gauge of Consumer Satisfaction
(%)

China’s Economy Relative to the U.S.

(%)

Private Consumption Share of GDP

(%)

80%

70%

68%

60%

66%

50%

64%

40%

62%

30%

60%

20%

58%

10%

56%

0%
1980
1990
2000
China Share of U.S. Consumption

Source: Haver, Citi GPS

2010
2020
China Share of U.S. GDP

54%
60 63 66 69 72 75 78 81 84 87 90 93 96 99 02 05 08 11 14 17 20
China
U.S. (RHS)

Source: Haver, Citi GPS

Two factors above all are likely to sustain the development of the Chinese
consumer: the growth of the middle class and rural wealth effects. Under the
Organisation for Economic Co-operation and Development (OECD) standard of
household income between $10 to $100 per person per day in 2005 PPP
(purchasing power parity) terms, 74% of Chinese urban households enjoyed
middle-class status as of 2021; this corresponds to 677 million people, more than
double the total U.S. population of 331 million. The share and the size of the middle
class are set to expand further, given the fact that household disposable income has
been growing faster than GDP in the real terms in the past few years (except 2016),
a trend likely to extend into the future. At the same time, the unlocking of wealth
effects should help the consumer.

October 2022

Citi GPS: Global Perspectives & Solutions

As we will discuss, the “rural vitalization strategy” (see Chapter 4) could unlock total
rural land wealth of RMB150 trillion ($21.1tn).6 Divided by rural population, this is
about RMB190,000 per capita — around 13 times China’s rural disposable income
per capita. Chinese urban residents have already accumulated a huge amount of
wealth in property, which, at current market prices, we estimate to be as much as
RMB327 trillion.
However, it will take solid work to make China a consumer society. One
obvious point is that rapid growth will support a consumer-oriented transition, and
given the many growth-related challenges that China is currently facing, it is difficult
to be immediately optimistic on this point. Second, it is often argued, correctly, that a
boost to consumer spending in China will require more confidence on the part of
households that they can reduce precautionary savings and consume more. As a
result of this, confidence about the future of Chinese consumption requires
confidence about policies that will allow Chinese households to reduce their saving.
That means deeper and broader universal medical coverage and more generous
pensions, especially by lowering employee contributions to the social security
system. Third, following the point in the paragraph above, land reform will be
needed to further empower rural consumers. Finally, stabilizing home prices and
making housing affordable for young couples will not only help boost consumption
but also increase fertility in Chinese cities. In that sense, the government’s current
effort to wean the Chinese economy off its dependence on real estate investment
could boost consumption somewhat in the long run, though in the short run,
consumer confidence will remain constrained by a negative wealth effect as the
growth in housing prices is suppressed.
In conclusion, we think that China’s inward tilt will produce an economy that
remains investment-focused, state-driven, and neomercantilist. An important
question that follows, of course, is: Will it work to keep China’s growth rate
acceptably high? To some extent that depends on whether China has the capacity
to remain as innovative as it has in the past, and that issue is the subject of Chapter
6. Another question is: What are the international implications of China’s strategy?
We discuss this in Chapter 7. If China succeeds in boosting domestic market share,
this could pose challenges to Germany and Japan (in vehicles, machine tools, and
robotics), South Korea and Taiwan (especially in semiconductors and other
computer equipment), and to the U.S. (in agriculture machinery, aerospace, electric
vehicles, and biotech). China’s attempts to develop its own domestic semiconductor
industry will be of particular focus given its importance in modern electronic
machineries, its lingering technology gaps and vulnerabilities revealed from the
export controls imposed during the U.S.-China trade tensions, and ongoing
pandemic-exacerbated chip shortages.
Since Dual Circulation Economics is the most important overarching framework for
China’s inward turn, the following chapter aims to examine the elements of this
strategy. We discuss how infrastructure remains a vital prerequisite to allow the
government to fulfill its ambitions in making the domestic wheel the mainstay of the
Chinese economy.

Currency conversions throughout the report are as of October 5, 2022.

Citi GPS: Global Perspectives & Solutions

October 2022

Chapter 2. China’s Dual Circulation
Economics
Dual Circulation Economics was introduced to confront a more hostile external
environment, and the Russia-Ukraine crisis should have elevated its importance
further. It is a refocus on the domestic economy, with security higher on the priority
list. Of the various ways of prioritizing domestic circulation, we believe infrastructure
investment has become a major multi-year theme.
Dual Circulation Economics (DCE) is best understood as China’s response to
what it sees as a more hostile external environment. Following the prolonged
U.S.-China trade war, the Communist Party of China (CPC) leadership adopted a
more cautious assessment about the external environment, warning that “the world
is undergoing changes unseen in a century.” On the demand side, world trade
intensity, measured in several ways, has largely stalled since the Great Financial
Crisis (GFC), and the rise of protectionism has imposed significant uncertainty on
external demand. On the supply side, the U.S. has focused its efforts on Chinese
technology companies using a variety of legal and regulatory tools to limit
technology transfer to China. This has increasingly revealed China’s vulnerability in
its foreign dependence for core technologies. The rivalry with the U.S. for
technological leadership could undermine the stability and even threaten the
security of China’s supply chains. When the “international circulation” fails to work
well, it is natural for China to look more at the “domestic circulation,” with President
Xi introducing the idea of DCE in mid-2020. To be fair, China attempted to create a
new wave of globalization when the first wave subsided post-GFC, but these efforts
met pushbacks and constraints. Notably, the once high-profile Belt and Road
Initiative (BRI) has been met among some observers with loud accusations about a
“new colonialism” and faced a dollar constraint, with the greenback as the
dominating funding currency.7
DCE has assumed even greater importance in the wake of Russia’s invasion
of Ukraine. China certainly has taken note as the Ukraine crisis led to a series of
coordinated sanctions and penalties against Russia.8 The sanctioning of the
Russian central bank, which resulted in Russia losing access to hundreds of billions
of dollars worth of foreign exchange reserves, will have had particular resonance
with policymakers in Beijing. It is not a large stretch of the imagination to consider
the risk of future scenarios in which China might one day face sanctions from many
of the countries that targeted Russia. The tensions across the Taiwan Strait in
August 2022 following U.S. House Speaker Nancy Pelosi’s trip to Taipei were a
further reminder of how rapidly risks can escalate. In addition, China is now
increasingly physically segregated from the rest of the world because of its
“dynamic zero-COVID” (DZC) policy. The supply chain disruptions experienced
since the COVID-19 pandemic perhaps also strengthen the case for a more resilient
domestic circulation (Figure 9).

Lucy Hornby, “Mahathir Mohomad Warns Against ‘New Colonialism’ During China
Visit,” Financial Times, August 20, 2018; David Lubin, “Dollar Constraints May Lead to
More Multilateral Approach for China’s Belt and Road,” Chatham House, October 23,
2018.
8 Laura Kelly, “China ‘Learning Lessons’ From Russia War in Ukraine, Intelligence
Officials Say,” The Hill, May 10, 2022.

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Citi GPS: Global Perspectives & Solutions

Figure 9. A Framework of Dual Circulation Economics
Resource & Tech
Suppliers

Salary, profit & taxes

Labor, intermediate inputs & public goods

Threat: Increasingly
unstable supply chains

Domestic Consumers,
Corporates &
Government

Made in China
Threat: Rising trade
protectionism

Consumption & investment products

Global Consumers
Payments

Trends:
Consumption upgrading;
Effective investment

Trends:
Food, energy & tech security;
Industrial upgrading

Domestic Circulation

International Circulation

Source: Citi GPS

Rebalancing from export-led to demand-driven growth is also a reflection of
China’s own economic size. China’s foreign trade dependency ratio, measured as
the ratio of total goods trade to GDP, peaked at 64.2% in 2006 and has fallen
continuously to 35.8% in 2019 (before the COVID-19 pandemic) and to 34.2% in
2021 (Figure 10). On the one hand, it is simply unsustainable for an economy
generating over $17 trillion to rely much on demand. China’s current trade
dependency remains much higher than the U.S., at 20%, or Japan, at 31%. Since
China’s entry into the World Trade Organization (WTO) over two decades ago, its
share in global manufacturing value-added has risen from less than 6% to nearly
30%, and as a trade and manufacturing powerhouse, China also faces increased
protectionism. On the other hand, the purpose of economic growth is to raise
people’s living standards, which necessarily means the willingness and capacity to
consume more. The CPC pledged to boost the people’s “sense of gain” as an
element of its pursuit for the quality of growth as adopted by the 19th Party
Congress. The transition is essentially to boost and upgrade domestic demand.
The concrete reform measures to facilitate DCE are reshaping the policy
dynamics in China. Similar to the supply-side reform for the 13th Five-Year Plan
(FYP), covering 2016-21, DCE is the organizing framework for the 14th FYP (202125). Here are the key features of DCE:
 Refocus on Domestic Demand Expansion. The framework of DCE

underscores the importance of a strong domestic market and sets domestic
demand expansion as a strategic underpinning. Consumption will be promoted
comprehensively together with investment expansion. Along with promoting new
infrastructure in areas such as intelligent cities, DCE will improve the weak links
in traditional infrastructure. Investment should maintain “reasonable growth”
before consumption fully emerges as an engine for growth.

Citi GPS: Global Perspectives & Solutions

October 2022

 Focus on the Real Economy, Not Finance. DCE stresses the development of

the real economy. There should be a balanced development of finance and real
estate with the real economy. Financial reforms will be promoted, while financial
regulations should be tightened.
 Elevate Economic Security to the Highest Level Ever. DCE also calls for

integrating development with security. In economic areas, the policy attention
goes to food security, energy and strategic minerals security, technological selfsufficiency, financial stability, and protection over overseas interests, among
others. Economic security, in a sense, has assumed greater importance than the
pursuit of growth.
 Forcefully Push Forward Self-Reliant Innovation. DCE calls for “technology

self-dependence and self-strengthening” and a “new whole-nation system” to
mobilize resources for core technology breakthroughs.
 Uphold High-Level Opening Up. While DCE puts domestic circulation at the

core, China will not cut itself off from the rest of the world. The country could
accomplish both aims by leveraging the advantages of its large market to
promote international cooperation. The Belt and Road Initiative in the next stage
will require “high-quality development.”
Figure 10. China’s Foreign Trade Dependency Ratio Peaked at 64.2% in 2006 and Has Since
Continuously Lowered to 34.2% in 2021
(% of GDP)

China’s Foreign Trade Dependency Ratio

64.2

60
50
34.2

40
30
20
10
0
1978

1982

1986

Exports

1990

1994

1998

Imports

2002

2006

2010

2014

2018

Foreign Trade Dependency

Source: National Bureau of Statistics of China, Citi GPS

Of the various ways to prioritize domestic circulation, infrastructure
investment has seemingly become a major theme. The CPC leadership has
been suggesting “appropriately advancing infrastructure investment” at various
meetings. Notably, President Xi chaired the 11th meeting of the Central Committee
for Financial and Economic Affairs (CFEA) in April 2022 and called for “all-out efforts
to build a modern infrastructure system.” The tendency to shift away from
infrastructure investment during the extended deleveraging campaign may have
come to an end, allowing infrastructure investment to embark on a new path, at
least, for normal growth. Indeed, the authorities’ intense focus on infrastructure is
reflected in the shape of economic stimulus policies during 2022: While support for
real estate investment has fallen significantly down the list of government priorities,
official support for Chinese infrastructure investment has been overwhelmingly
evident.

October 2022

Citi GPS: Global Perspectives & Solutions

From a long-term perspective, China remains underdeveloped and
unbalanced even in some traditional infrastructure. To illustrate, China ranks
second globally by length of railways and has built the world’s largest high-speed
rail network. However, its rail mileage per capita still falls far behind G20 peers
(Figure 11). The contrast also holds true for roads. When it comes to pipeline
network, the U.S. is 24 times the size of China in total length and would exceed it
far more in length per capita. In the meantime, the vast hinterland of China is less
developed and still needs significant investment. For example, the length of paved
roads per capita in Henan province in central China’s Yellow River Valley is only
one-fourth of that in the coastal province of Jiangsu (Figure 12). Of even greater
concern, 17% of China’s population living in villages and towns still had no access
to clean water supply by 2020, despite years of “rural vitalization.” The high-quality
growth model calls for more investments in living facilities and conditions.
Figure 11. China Still Falls Behind G20 Peers in Railway Length Per
Capita Despite Ranked 2nd Globally in Total Length
(km)

Figure 12. Road Infrastructure Gaps Are Significant Across Provinces
(km)

Railway Length per Million People (2019)

1,400

700

1,200

600

1,000

500

800

400

600

300

Length of Paved Roads per Million People

200

400

100

200

India

Indonesia

Korea

China

Saudi Arabia

Mexico

Japan

Turkey

Italy

U.K.

Argentina

South Africa

Germany

U.S.

France

Russia

Canada

Source: World Bank, Citi GPS

Tianjin
Jiangsu
Liaoning
Shandong
Xinjiang
Jilin
Hainan
Inner Mongolia
Heilongjiang
Zhejiang
Ningxia
Hubei
Guangdong
Beijing
Fujian
Chongqing
Sichuan
Guangxi
Anhui
Shanxi
Jiangxi
Qinghai
Tibet
Hebei
Guizhou
Shanxi
Gansu
Hunan
Shanghai
Yunnan
Henan

Source: World Bank, Citi GPS

China’s industrial upgrade will rely on boosting investment in what the
authorities call “new infrastructure.” In 2018, the government introduced the
concept of new infrastructure to include efforts to: (1) support new technologies like
5G, big data, artificial intelligence, blockchain, cloud computing, and robotics; (2)
link traditional infrastructure to software, with the aim of creating smart cities and
intelligent energy networks; and (3) drive innovation and technological
development.9 Whereas traditional investment infrastructure has supported China’s
emergence as a global manufacturing center, new infrastructure will be the
foundation for its technological and structural upgrading, and this has just started to
take shape.

Citi Research, New Infrastructure: Investing for Both Growth and Upgrade, March 5,
2020.

Citi GPS: Global Perspectives & Solutions

October 2022

Is China considering a “New Deal” for infrastructure to breathe more life into
the Dual Circulation Strategy? While execution is yet to come, if China goes on a
new infrastructure spending spree in response to the COVID-19 shocks, it may
remind market participants of the New Deal in the U.S. As guided by the CFEA,
China will strive to bolster the construction of:
 Network-based infrastructure for transport, energy and water conservancy (e.g.,

waterways, coastal and inland ports, smart grid, green energy bases, and oil &
gas pipeline networks).
 New infrastructure for industrial upgrading in information, sci-tech and logistics

(e.g., supercomputing, cloud computing, AI platforms, broadband networks,
transportation hubs, and regional, general and cargo airports).
 Urban infrastructure (e.g., intercity railways, urban railways, underground

facilities, flood control and drainage, public health emergency facilities, and smart
infrastructure).
 Agricultural and rural infrastructure (e.g., high-standard farmland, country roads,

cold-chain facilities, and water conservancy).
 National security infrastructure (see Figure 13).

Figure 13. A Modern Infrastructure System for China in the Eyes of Beijing
Skeleton of National Transport Network

Transport

Coastal & Inland Ports and Waterways
Distributed Smart Grid

Network-Based
Infrastructure

Green & Low-Carbon Energy Bases

Energy

Oil & Gas Pipeline Network
Water Conservancy

Skeleton & Aorta of National Water Network
Key Water Sources, Irrigation Areas, and Flood Storage Areas
New Generation Supercomputing, Cloud Computing, and AI Platforms

Information
Modern
Infrastructure
System

Industrial Upgrading
Infrastructure

Broadband Network

Science
&Technology

Major Sci-Tech Infrastructure
Transportation Hubs and Collection & Distribution Systems

Logistics

Regional, General, & Cargo Airports
City Cluster
Transport
Integration

Intercity Railways
Urban & Suburban Rail Transit
Integrated Road Traffic System

Underground Integrated Pipe Gallery
Flood Control & Drainage
Urban Infrastructure

Sewage & Garbage Collection and Treatment System
Disaster Prevention & Mitigation Structure
Public Health Emergency Facilities
Smart Infrastructure (Smart Road, Power Supply, Bus)
Farmland Irrigation
Country Roads

Rural Infrastructure
National Security
Infrastructure

Urban-Rural Cold Chain Logistics
Centralized Water Supply
Sewage & Garbage Collection and Treatment System

Source: Government reports, Citi GPS

If domestic demand is really to be the mainstay of China’s Dual Circulation Strategy,
then China will have to find some way to reduce its dependence on imported
technology since China’s very low level of self-sufficiency in semiconductors is a
major source of strategic vulnerability. For that reason, the topic we turn to next is
an analysis of China’s ability to achieve tech self-reliance.

October 2022

Citi GPS: Global Perspectives & Solutions

Chapter 3. Can China Achieve Tech
Self-Reliance?
Developing competence in semiconductors is the key to China’s pursuit of tech selfreliance, but the growing hostility in the US-China relationship means that it will be
much more difficult for China to develop a capability in advanced node chips. We
think China will eventually catch up in the semiconductor sector, but the obstacles
are considerable.
China is the world’s largest consumer of semiconductors, but its selfsufficiency in this realm is extremely low. IC Insights estimates that Chinese
domestic firms had a 6.6% self-sufficiency ratio in 2021.10 This degree of selfsufficiency rises to 16.7% when including foreign firms that have integrated circuit
(IC) wafer fabrication plants (fabs) located in China (i.e., TSMC, SK Hynix,
Samsung, Intel, UMC and others). By IC Insights forecasts, even including these
multinational subsidiaries in China, the country’s IC production in 2026 is only likely
to reach 6.6% of the global total. A forecast by VLSI and the Semiconductor Industry
Association (SIA) suggested China’s share of global semiconductor fabrication
capacity would reach 18% in 2025 and 19% in 2030, largely because of the export
controls on semiconductor fab equipment.11 In the fabless semiconductor sector,
China contributed 16% of the global market in 2020, but its share declined to only
9% in 2021 amid U.S.-escalated export bans (see Figure 14). As evident from this
brief paragraph, China has plenty of reasons to be willing to increase its IC output
(see Figure 15), but geopolitics is constraining its ability to do so.
Figure 14. China Owned Only 4% of Global Integrated Circuit (IC)
Market Share in 2021
(%)

Figure 15. The Gap Between China and Industry Leaders in Process
Technology Capabilities Remains Large

China

Market Share of Global Semiconductor Sector

80%
70%
60%

Logic

54%

50%

3D NAND

40%
30%

22%

20%
9%

10%

DRAM

12 nm

Industry Leader
10 nm

128 L
19 nm

7 nm
144 L

18 nm

17 nm

5 nm
176 L

16nm

14 nm

0%
U.S.

South
Korea

IDM Share

Note: Note including foundries
Source: IC Insights, Citi GPS

Taiwan

Europe

Fabless Share

Japan

China

Total IC Share

Note: Nodes in high volume manufacturing
Source: SIA Research, Citi GPS

10 Bill McClean, “Research Bulletin: China-Based IC Production to Represent 21.2% of
China IC Market in 2026,” IC Insights, May 18, 2022.
11 Semiconductor Industry Association, SIA Whitepaper: Taking Stock of China’s
Semiconductor Industry, July 2021.

Citi GPS: Global Perspectives & Solutions

October 2022

Breakthroughs in the semiconductor sector could be difficult for China. It is a
capital-intensive sector, requiring high research and development (R&D)
expenditures and long investment cycles. Semiconductor development was not a
top priority until 2014, when Beijing released the National IC Promotion Guidelines
and established the National IC Development Investment Fund with RMB139 billion
($19.5bn) in its first round and over RMB200 billion in 2019 in the second. Later in
2015, the Made in China 2025 plan set an ambitious 70% self-sufficiency target by
2025 (Figure 16), which given current progress, has no chance of being achieved.
For now, at least, China’s dependence on the economies that supply it with
semiconductors — Taiwan, South Korea, Malaysia, and Japan especially — will
remain intact.
Figure 16. Made in China 2025: Integrated Circuit (IC) Development Guidelines Targets Appear Difficult to Achieve

•
•
•
•
•
•

2015 Target
Achieve significant progress in semiconductor
industry development. Build a funding platform
and policy environment that is compatible with
industry development
IC industry revenue aggregate exceeds
RMB350 billion
IC design capability in key applications such as
smart devices and communications to reach an
advanced level globally
32 nm and 28 nm mass production
Revenue from mid-high-end packaging and
testing exceeds 30%
Key equipment and 12″ wafer be used in
46 nm and 65 nm production process

•
•
•
•
•
•
•

2020 Target
Narrow the gap with global leaders and
strengthen business sustainability
Industry revenue compound annual growth
rate (CAGR) >20%
World class IC design technology in smart
devices, communication, cloud computing,
Internet-of-Things, and big data
Mass production in 14 nm and 16 nm node
Packaging and testing technology achieve
world leading level
Penetrating into international material and
equipment supply chain and establish an
advanced and reliable ecosystem
40% self-sufficiency rate

•
•
•

2025 Target
World-class IC industry value chain
A set of leading companies considered
tier-1 players in the global
semiconductor market
70% self-sufficiency rate

Note: See Global Semiconductor: U.S. Ban Could Reshape Sector.
Source: Citi GPS

Partly due to the sector’s capital intensity, the gap between Chinese firms and
global leaders in the semiconductor sector is significant. In the first place,
China lags in terms of foundry technologies (Figure 17); Taiwan’s TSMC, the
industry leader, leads China’s domestic foundry leader in technology by at least five
years. TSMC started mass production of 16 nanometer (nm) chips in 2016, while
China’s leading foundry started 14 nm mass production only in late 2019 (note:
smaller node sizes in semiconductors produce smaller transistors that are both
faster and more power-efficient) and its 14 nm production line is highly dependent
on U.S.-made equipment and software. The gap in lithography is even larger.
China’s leading lithography equipment can only be applied to 90 nm chips and a
China-made immersion type lithography tool capable for 28 nm chips is not
expected until end of 2022.12 The U.S. has prohibited the primary extreme
ultraviolet (EUV) lithography manufacturer from selling machines to China —
relevant for the production of 7 nm chips and lower — and in July 2002 pushed the
manufacturer to also stop selling deep ultraviolet (DUV) lithography machines,
relevant for 7 nm chips and above.13 The potential expansion of the export bans on
lithography may significantly curb China’s capacity to foster its semiconductor
sector. It could be up to 20 years for China to catch up, according to the CTO of
ASML.

Prabir Purkayastha, “U.S.-China Chip War Continues,” Peoples Democracy, August 7,
2022.
13 Jillian Deutsch et al., “U.S. Wants Dutch Supplier to Stop Selling Chipmaking Gear to
China,” Bloomberg, July 6, 2022.

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Citi GPS: Global Perspectives & Solutions

Figure 17. Key Foundry/Integrated Device Manufacturer (IDMs) Technology Roadmaps
TSMC

2010
40/45 nm

Intel

32 nm HKMG

Samsung

45 nm

Global Foundry

40/45 nm

UMC

40 nm

China

65 nm

2011

2012
28nm

22 nm
Tri-gate

2013

2014
20 nm

2015
16 nm

2016

2017
10 nm

2018
7 nm

2019
7 nm+

14 nm

32/28 nm

28/32 nm

20 nm

2021
5 nm+
4 nm

2022
3 nm
FinFet

14 nm
FinFET

10 nm

7 nm

14 nm
FinFET

28 nm

7 nm+ 5 nm

4 nm

3 nm
GAA

Paused advanced node development

14 nm
FinFET
28 nm Poly SiON

2023

7 nm

10 nm

20/22 nm

40 nm

2020
5 nm
6 nm

Paused advanced node development

28 nm 20 nm
HKMG

14 nm
FinFET

Will continue to develop advanced nodes

Source: Company data, Citi GPS

In addition to China’s lack of advanced foundry technology, it also relies
heavily on imported chips and components. China’s National Silicon Industry
Group’s (NSIG’s) 12-inch silicon wafers for 14 nm chips have entered the mass
production stage, but its capacity at 300,000 units per month can hardly satisfy the
demand, not to mention the visible gaps vis-a-vis industry leaders when it comes to
price and quality. In addition, China does not have the intellectual property for
electronic design automation (EDA) software, which is critical for designing cuttingedge logic chips. In the short run, the U.S. export bans will significantly slow China’s
R&D progress in 10 nm-and-below chip technologies.
China’s restricted ability to make progress in these technologies remains,
despite evidence that U.S. export controls and sanctions are not having much
bite. The Wall Street Journal reported in August 2022 that U.S. technology exports
to China have been remarkably robust in the years since the passage of the 2018
Export Control Reform Act, which was intended to restrict tech exports to China.14
According to the article, some 88% of applications for technology imports to China
were approved by the U.S. Commerce Department in 2021. Conceivably this
statistic reflects a form of self-screening by firms: U.S. firms might have a strong
awareness of the kinds of goods that are unlikely to be approved, and so they do
not seek approval, which boosts the approval ratio. In spite of this, however, it is
also clear that semiconductor manufacturing equipment exports from the U.S. to
China have risen steadily — reaching $6.9 billion in 2021 compared to just over $4
billion in 2019.

Kate O’Keefe, “U.S. Approves Nearly All Tech Exports to China, Data Shows,” Wall
Street Journal, August 16, 2022.

Citi GPS: Global Perspectives & Solutions

October 2022

Figure 18. The Measures to Limit China’s Semiconductor Sector Since the Start of the Trump Administration
Measure Type
Export bans

Detailed Measures Against China’s Semiconductor Sector
The U.S. banned ZTE (Apr 2018), Fujian Jinhua Integrated Circuit (Oct 2018), Huawei (May 2019), five Chinese supercomputing
companies (Jun 2019), eight Chinese tech companies related to video surveillance and artificial intelligence technology (Oct 2019)
from purchasing of U.S. products by adding them to the Entity List.
In May 2020, the U.S. Department of Commerce’s Bureau of Industry and Security (BIS) additionally amended the foreign-direct
product rule and the Entity List to restrict Huawei’s ability to use U.S. technology to manufacture its semiconductors via foreign
foundries. In August 2020, the BIS closed the “off-the-shelf” semiconductor loophole and changed the word “foundry” to “plant” to
broaden the manufacturers subject to the restrictions.
In December 2020, BIS announced the designation of 60 additional Chinese companies to its Entity List, including China’s largest
semiconductor manufacturer.
In December 2021, BIS added 34 more Chinese entities to the Entity List, including Shanghai AisinoChip Electronics Technology
Co., Ltd. (a manufacturer of security control chips) and Shaanxi Reactor Microelectronics Co., Ltd. (a designer of high-speed power
semiconductors).

Prohibition of foreign investment
transactions

Presidential actions officially blocked five foreign investment transactions based on Committee on Foreign Investment in the U.S.
(CFIUS) recommendations in 1990-2019 — most related to China or the semiconductor industry. Many Chinese-led foreign
investment transactions have collapsed before reaching the final stage in the CFIUS’s review process.

CHIPS Act

Any entity that utilizes CHIPS Act funding is prohibited from “engaging in any significant transaction involving the material
expansion of semiconductor manufacturing capacity in China” with exceptions being allowed for legacy technologies.

Source: Congressional Research Service, PIIE, Citi GPS

U.S. sanctions and export controls are very likely to remain in place, and one
should expect their effect to tighten over time. Since the eruption of the trade
war in June 2018, over 200 Chinese firms and institutions have been added to the
U.S. Entity List (Figure 18). The U.S. further issued a rule in May 2020 to restrict
any foreign companies that use U.S.-made machinery and software to produce and
design chips for Huawei. Under the administration of President Joe Biden, more
Chinese firms with perceived military connections have been added into the
sanction list. Reuters reported on August 1, 2022, that the U.S. government is
mulling limiting shipments of U.S. semiconductor equipment to China’s memory
makers, including NAND maker Yangtze Memory Technologies Co (YMTC).15 If
imposed, the measure is expected to ban exports of U.S. equipment to memory
fabs in China that produce advanced NAND chips above 128 layers.
The enactment of the CHIPS Act of 2022 in August 2022 adds to sanctions
against China amid a government-led international chip race. The main goal of
the CHIPS Act is to fund $52 billion in manufacturing grants and research
investment and to provide a 25% investment tax credit to chip producers in the
U.S.16 In particular, any entity that utilizes CHIPS Act funding is prohibited from
“engaging in any significant transaction involving the material expansion of
semiconductor manufacturing capacity in China,” with exceptions being allowed for
legacy technologies. U.S., Taiwanese, and South Korean chip makers operating
semiconductor fabs in the U.S. will likely become beneficiaries of the CHIPS Act.
China’s trade associations and Foreign Ministry criticized the CHIPS Act for
hindering innovation and all in all, the frosty state of relations is likely to increasingly
inhibit technology transfer to China.17

Alexandra Alper and Karen Freifeld, “U.S. Considers Crackdown on Memory Chip
Makers in China,” Reuters, August 1, 2022.
16 Semiconductor Industry Association, “Pass the CHIPS Act of 2022,” PDF, July 2022.
17 Takashi Kawakami, “China Trade Groups Blast U.S. CHIPS Act as Hindering
Innovation,” Nikkei Asia, August 11, 2022.

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Citi GPS: Global Perspectives & Solutions

Given broadening sanctions, China’s foundry sector may focus on an
expansion of relatively mature nodes (i.e., above 14-28 nm). The U.S.
Commerce Department is reportedly considering a ban of semiconductor
manufacturing equipment for 14 nm or below nodes and the U.S. government has
continued to block shipment of EUV machines to China.18 Taiwan is highly likely to
keep its technological supremacy in the foundry sector as global foundry capacity is
dominated by Taiwan, particularity in advanced nodes below 10 nm.
Figure 19. Government-Led International Chip Race
Main Initiative

Subsidy Size

U.S.

CHIPS Act, FABS Act

$52 billion federal investments; Investment tax credits

European Chips Act

$46 billion

Japan

Specified Advanced Information & Communication Technology
Utilization and other initiatives

$4.42 billion; Subsidies of up to 50% of setup costs

India

India Semiconductor Mission

$30 billion on chip and tech supply chain; Support of up to 50% of
project costs

China

The China Integrated Circuit Industry Investment Fund

$20.7 billion for Big Fund phase one $30.47 billion for phase two

South Korea

K-Semiconductor Belt Strategy

Up to 50% tax credits for R&D investments; 20% tax credits for
manufacturing investments

Taiwan

Invest Taiwan Initiative

Tax credits at 20%; 15% of R&D tax credit; secure supply of
land/water/electricity

Source: Citi GPS, Nikkei Asia19

In the memory chip sector, the potential for U.S. semiconductor equipment
export bans to China could limit capacity addition of both China’s indigenous
memory chip makers as well as foreign company-owned memory chip fabs in
China. The U.S. government is reportedly considering an export ban of
semiconductor manufacturing equipment for NAND memory chips with more than
128 layers.20 In the long term, such a ban will likely create a bottleneck in memory
capacity addition beyond 2023E as two South Korean NAND chip makers are
producing 30%-40% of their NAND chips from mainland China. Thus, headwinds
against China’s biggest NAND company and foreign company-owned memory chip
fabs in the mainland of China could incentivize foreign memory chip makers to
expand new fabs outside of China.
China may gradually expand chip manufacturing capacity towards 2030
despite potential hurdles. China’s government may place a higher priority on selfsufficiency ratio regardless of the high learning cost. IC Insights expects that Chinalocated chip production could increase to 21.2% of China’s demand by 2026 from
16.7% in 2021.

Alexandra Alper, Karen Freifeld, and Stephen Nellis, “U.S. Mulls Fresh Bid to Restrict
Chipmaking Tools for China’s SMIC,” Reuters, July 8, 2022; Stu Woo, “China Wants a
Chip Machine from the Dutch. The U.S. Said No.,” Wall Street Journal, July 17, 2021.
19 Cheng Ting-Fang and Lauly Li, “The Resilience Myth: Fatal Flaws in the Push to
Secure Chip Supply Chains,” Nikkei Asia, July 27, 2022.
20 Alexander Alper and Karen Freifeld, “U.S. Considers Crackdown on Memory Chip
Makers in China,” Reuters, August 1, 2022.

Citi GPS: Global Perspectives & Solutions

October 2022

Boston Consulting Group (BCG) and the Semiconductor Industry Association (SIA)
project that China’s share of global chip manufacturing capacity could expand to
24% in 2030 from 15% in 2020, although that forecast was published in September
2020 before the U.S. government’s 2021-22 bans and the passage of the CHIPS
Act of 2022 in the U.S.21
Notably, efforts to restrict exports to China have serious implications for the
U.S. tech sector too. In 2021, China imported $433 billion equivalent of
semiconductors out of the $556 billion worldwide market. The U.S. semiconductor
sector used to depend on a self-strengthening loop to maintain its technological
lead: It channeled the high profits generated from business to R&D spending to
ensure a comfortable lead ahead of rivals and dominance in the high-end segment
of value chains. A study by BCG predicts that a complete ban of U.S. semiconductor
sales to China would cost U.S. companies 18 percentage points of global market
share and 37% of their revenue in the long term.22 Another joint report by BCG and
SIA estimates that fully self-sufficient local supply chains would require at least $1
trillion in incremental upfront investment, incur $45 billion to $125 billion in
incremental annual operational costs for the entire industry, and result in a 35%65% overall increase in chip prices.23 This state of affairs might help explain why
U.S. firms seem relatively unwilling to restrict their tech exports to China, which may
give China some breathing space in its pursuit of self-sufficiency.
Figure 20. Progress on China’s Catch Up on 10-14nm Technologies
Segment

Equipment

Material

Component

Details

Lithography

NAURA inductively couple plasma (ICP) etching machine for 14 nm process has entered the mainstream production line.
AMEC’s capacitively couple plasma (CCP) etching machine has covered 65 nm to 5 nm, and is developing below 5 nm.
Yitang Semiconductor has the second largest market share in the world for rapid annealing products, and largest in dry degumming
equipment.
SMEE lithography machine’s application level is 90 nm, and the 28 nm immersion DUV lithography machine is expected to be
delivered in 2022. However, to produce below 7 nm chip, ASML’s EUV machine is necessary.

Polishing fluid

Anjitek’s through-silicon-via (TSV) polishing fluid has achieved mass production at the 14 nm node.

Etching machine

Silicon wafers
Foundry

NSIG’s 12-inch silicon wafers (for 14 nm process) can be mass produced — current capacity is 300,000 units per month, which is
expected to double in 2024. However, its price and quality still has some gap with industry leader.
China’s leading foudry’s 14 nm chip entered into mass production stage in late 2019.

Source: Media reports, Citi GPS

China’s ability to absorb the shock of the tech-related export controls and
sanctions that it faces will depend on a number of factors. The Chinese
government is now more than motivated to redouble its efforts in the semiconductor
sector, partly reacting to the U.S. tech bans or embargoes. The “new whole-nation
system” has been put in place to engage in semiconductor R&D. Given China has
the market, is well endowed with financial resources, and could also attract
engineering talents, it could be only a matter of time for the country to advance its
semiconductor technologies. Meanwhile, we believe the sanctions will push
Chinese firms to cut their reliance on foreign technologies. They could reorient their
supply chains, step up their innovation efforts and eventually narrow the technology
gaps.

Antonio Varas et al., Government Incentives and U.S. Competitiveness in
Semiconductor Manufacturing, Boston Consulting Group (BCG) and the Semiconductor
Industry Association (SIA), September 2020.
22 Antonio Varas and Raj Varadarajan, How Restrictions to Trade With China Could End
US Leadership in Semiconductors, BCG, March 2020.
23 Antonio Varas et al., Strengthening the Global Semiconductor Supply Chain in an
Uncertain Era, BCG and SIA, April 2021.

October 2022

Citi GPS: Global Perspectives & Solutions

The bottom-up efforts from firms could generate synergies with the top-down push
from the government. In addition, China also has the potential to be a disruptor to
the sector should it catch up with the global semiconductor leaders. In the areas
where China could engage in mass production, it is likely supply gluts would take
place. In short, we tend to think China would eventually catch up in the
semiconductor sector but it would take hard work. One key question is China’s
capacity for innovation, a topic we return to in Chapter 6.
In addition to technology, we think another key area in which China seeks a form of
inward-looking decoupling is in agriculture, where the pursuit of a greater degree of
food self-sufficiency has emerged as an important policy goal. It is that to which we
now turn.

Citi GPS: Global Perspectives & Solutions

October 2022

Chapter 4. Can China Achieve Food
Security?
China is far from being on the brink of any food crisis, but food security concerns
dominate policymakers’ thinking nonetheless. The weak links in China’s food supply
system are in reality a feedstock problem, rather than anything to do with staple
grains. Government measures on high-quality food supply will come through, and
the key is rural revitalization.
China has stepped up its focus on food security under Dual Circulation
Economics. As the geopolitical landscape changes and the Chinese economy
grows larger, the security of primary products becomes a more central element of
China’s sustainable development than ever before. Food security is probably the
number one priority of the 14th Five-Year Plan (2021-25). In August 2020, President
Xi highlighted in an unusual way “the need to maintain a sense of crisis regarding
food security, especially amid the fallout of the COVID-19 pandemic.” He
characterized food waste as “shocking and distressing,” notably making the
comment when China had been having years of good harvests. He urged the
authorities to take immediate measures to strengthen legislation, supervision, and
long-term mechanisms to stop the food waste. The “Clean Plate Campaign” has
gained steam since his comments, with more and more canteens and restaurants
now displaying anti-food waste posters and banners. In April 2021, the National
People’s Congress voted to adopt an anti-food waste law. Amid the prolonged
lockdown in March-April 2022 in Jilin province, a major grain producer in China, the
government made special arrangements to ensure the spring sowing.
China is far from being on the brink of any food crisis, but food security
concerns dominate policymakers’ thinking nonetheless. Since the great famine
of 1958-61, food security has long been an obsession of Chinese policymakers. As
the world’s largest agricultural producer, China is responsible for about a quarter of
the world’s total output. Partly due to the improvement of irrigation facilities and the
wide use of fertilizers and pesticides, yields of grain production have improved
steadily (Figure 21). China is now basically self-sufficient in grain supply and has
developed greater food reserve capacity. And there is certainly no question that
nutrition for Chinese residents has improved materially, with more choices for
meals. China is not facing an immediate or a long-term threat of food shortages. Yet
its net food import bill has been rising sharply, to some extent driven by feed grains
(Figure 22).

October 2022

Citi GPS: Global Perspectives & Solutions

Figure 21. China’s Total Food Output Grew to 682 Million Tons in 2021,
Despite the Recent Slowdown…
(ton mn)

Figure 22. … And Yet China’s Net Food Import Bill Has Risen Sharply in
Recent Years
($bn)

Total Food Output in China

700

China’s Net Agricultural Imports

140

600

120

500

100

400

300

200

100

0
1950

1960

Source: NBS, Citi GPS

1970

1980

1990

2000

2010

2020

2011

2012

2013

2014

2015

2016

2017

2018

2019

2020

2021

Source: Government reports, Citi GPS

Food security concerns have been activated by the U.S.-China trade war, the
COVID-19 pandemic, and African Swine Fever (ASF). The painful tariff war once
generated a significant gap in China’s soybean supply. As the pandemic penetrated
more deeply into global supply chains, prices for key staples soared in some parts
of the world. Some countries moved to secure domestic supply by restricting
exports, adding to the pressure. The agricultural commodities shock from the
Russia-Ukraine conflict further underscored the importance of food security. The
ASF outbreak led to a super food inflation cycle in China, starting from 2019 (Figure
23). These episodes show that even small problems in food supply can generate
significant economic and social consequences in a country of 1.4 billion people.
In general, China’s dependency on imports is low for rice, wheat, and corn,
but much higher for soybean. The COVID-19 disruptions and the U.S.-China
trade deal pushed up China’s import dependency for wheat (6.6% in 2021) and corn
(9.2%), but it remains to be seen whether this is transitory or not. For grains, as well
as rice, risks mainly come from plant pests and diseases and even panic stockpiling
by consumers. Trade partners’ export bans are less worrying given China is mostly
self-sufficient. The major uncertainty comes from soybean, for which China’s foreign
dependency ratio was as high as 79% in 2021 (Figure 24). This was already down
from 89% in 2019 with the policy push on domestic production. The U.S. has been a
major source for China’s imports of soybean, wheat, and corn (Figure 25). Notably,
over 90% of corn imports were from the U.S. in 2010-13, but in recent years, they
were mainly from other countries, including Ukraine.
The overall situation, then, is that China can almost secure the supply of
staple grains, while its food security issue is in reality a feedstock problem. In
other words, China is short of capacity to produce enough feed grains (such as
soybean) to support its large and rapidly growing livestock industry. As
demonstrated by the Russia-Ukraine conflict, the international market for feed
grains can be complicated by geopolitical tensions and suffer from huge price
volatilities. For human consumption, the grain supply has been remarkably safe and
sufficient for China. Reflected in prices, the direct contribution of grain price growth
to China’s headline inflation has been minimal in the past decade (Figure 26).

Citi GPS: Global Perspectives & Solutions

Figure 23. The African Swine Fever Outbreak Led to a Super Food
Inflation Cycle in the Past Two Years in China
(% YoY)

Food Price vs. Pork Price

October 2022

Figure 24. China’s Dependency on Imports Is Very Low for Rice, Wheat
and Corn but High for Soybean

(% YoY)

(%)

180

100

140

100

-20

-5
-60
2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022
Food
Pork (RHS)

-20

Main Grains: Net Imports As % of Domestic Consumption

95 97
Rice

03 05
Wheat

09 11
Corn

17 19 21
Soybean

Source: NBS, Citi GPS

Source: Wind-Economic Database, Citi GPS

Figure 25. The U.S. Has Been One Major Source for China’s Imports of
Soybean, Wheat, and Corn

Figure 26. The Direct Contribution of Grain Price Growth to Headline
Inflation Has Been Small in the Past Decade

(%)

Main Grains: U.S. Imports as % of Total Imports

100

(% YoY)

Grain Price vs. CPI Inflation

(ppt)
0.5

14
80

12
10

0.4
0.3

8
40

6
4

0.2
0.1

2
0
2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021
Wheat
Corn
Soybean

Source: Wind-Economic Database, Citi GPS

0
0
2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022
Grain Contribution to CPI (RHS)
Grain Price Growth

Source: NBS, Citi GPS

But in keeping with a “Dual Circulation” ethos, food security has recently
assumed a growing importance. The clearest expression of this was the No. 1
policy document of 2021, which followed on from China’s declaration of victory
against poverty in December 2020, and stated: “To revitalize the nation, rural areas
must be revitalized.” Rural revitalization has therefore come onto the front burner of
concerns among Chinese policymakers, signaling renewed policy efforts for rural
vitalization and agricultural modernization. Altogether, we see four issues in this:
 Tackling Bottlenecks in Agricultural Technologies. The government has

drawn a blueprint for the homegrown crop and animal breeding system.
Protection, development, and utilization of agricultural germplasm resources will
be strengthened and the implementation of major scientific and technological
projects in agricultural biological breeding will accelerate. Efforts will also be
made to strengthen support for modern agriculture, ranging from investment in
science, technology and equipment; to the establishment of agricultural
modernization demonstration zones, with the total number to reach about 500 by
2025; and the advancement of green development of agriculture. Indeed, China
successfully improved agricultural productivity through market-based reforms in
the 1980s and by intensive use of fertilizers and pesticides thereafter.

October 2022

Citi GPS: Global Perspectives & Solutions

However, the impact of these reforms on productivity seems to have reached its
limits, and the extensive use of chemical inputs has caused water and soil
pollution. The government now looks for the next breakthrough in productivity
from innovations of agricultural technologies, especially seed technology.
 Investing in Rural Infrastructure. The government is vigorously promoting rural

infrastructure construction (such as road systems, power grids, clean energy,
optical fiber networks, 5G mobile communications, and mobile Internet of
Things), public services, rural demand, integration of rural and urban
developments, budgetary support for priority projects, and agricultural reforms.
Water supply facilities, logistics, and the power grid and transport infrastructure
will be upgraded; and rural public education, hospitals, and cultural services will
be enhanced. The government will continue to improve supporting infrastructure
in resettlement areas, including public service facilities, industrial parks, and
community governance capabilities. Relatedly, more will be done to improve rural
industries — such as the agricultural product processing industry — to create
more jobs in rural regions.
 Strengthening Farmland Protection. The government vows to hold the “red

line” of 1.8 billion mu (120mn hectares) of arable land; strictly implement land use
control; and build 100 million mu of high-standard farmland to ensure harvests,
high yields, and stable production in 2022. The government will improve the
subsidy system to incentivize the production of grain, pork, and others.
 Solidifying Poverty Alleviation Outcomes. The first step to support agriculture

is to support farmers. China officially announced its victory against poverty in
February 2021, declaring that all the rural poor have been lifted out of extreme
poverty under the current standard and nearly 100 million impoverished people
have shaken off poverty. China has also removed all impoverished counties from
the poverty list. The next step is to solidify the achievements in rural
development. For example, the government will strengthen assistance for lowincome rural residents on a regular basis. It will also focus on large and mediumsized resettlement areas, and provide employment assistance to people who
move there.
We see land reform as a key element of rural vitalization, and the 14th FYP will
make realistic breakthroughs in the marketization of rural housing plots
(Figure 27). The latest amendment to Land Management Law, which became
effective in 2020, introduced some important changes. It extended farmland use
contracts for another 30 years upon expiry and allowed collectively-owned rural
construction land to enter the market. Rural-urban migrants can exit their housing
plots on a voluntary and compensated basis, but the transfer of the use rights to
housing plots can only happen within the collective. Importantly, the No.1 document
pledged to push forward housing plot reform and “explore effective forms for the
realization of the separation of ownership, entitlement and use rights of housing
plots,” a prerequisite for the plots’ marketization. The next foreseeable development
is to partly dismantle restrictions on housing plot transactions that constrain the
realization of the value of farmers’ use rights.

Citi GPS: Global Perspectives & Solutions

October 2022

Land reform would support rural consumption and development. Based on a
set of “shadow prices,” we estimate China’s rural land wealth at around RMB150
trillion ($21.1tn), with rural construction land worth RMB22 trillion and housing plots
worth RMB73 trillion (Figure 28). The wealth effect of the construction land
liberalization will be gradually unlocked in coming years. Rural households would
also benefit from the enhanced use rights to farmland and housing plots. By
unlocking the land value, the reform would increase farmers’ wealth and property
income and support their demand for automobiles, consumer electronics and other
durables, as well as services. With an enhanced exit mechanism for housing plots,
migrants may be more inclined to cash in their land wealth and settle down in cities
than before, facilitating rural-urban migration. In the meantime, the extended tenure
and strengthened protection should make farmers’ use rights to farmland more
tradeable. It should open the door for large-scale farming by agricultural enterprises
and cooperatives.
Figure 27. Rural Land Consists of Farmland, Commercial Construction
Land and Housing Plots

Figure 28. We Estimate That China’s Rural Land Wealth Could Total
RMB150tn, With Housing Plots Worth About RMB73tn
Area

Rural Land

sqm bn

Farmland

Unutilized Land

Construction Land

Housing Plot
Construction Land

Housing Plots
Commercial Collective
Construction

Farmland
Total

Price

Wealth

mu mn RMB/sqm RMB/mu

RMB bn

USD bn

113

170

648

431,774

73,402

11,088

648

431,774

21,589

3,261

1,280

1,920

28,806

55,308

8,355

150,299

22,704

Non-Commercial
Collective Construction

Source: Citi GPS

In addition to a renewed focus in Beijing on technological self-sufficiency and food
security, we also see China’s strategy regarding green energy as part of a broader
effort to double down on self-reliance and limit China’s dependence on imported
fossil fuels.

October 2022

Citi GPS: Global Perspectives & Solutions

Chapter 5. Can China Limit Its
Dependence on Imported Energy?
Energy security is not an immediate concern for China. However, China’s rising
dependency on imported energy amid its decarbonization push raises the
importance of energy security in the medium and long term. New energy and new
infrastructure will benefit from China’s energy transition.
Energy security is understood by China’s leadership as part of a broader
concept of national security. As early as June 2014 in the 6th Central Committee
for Financial and Economic Affairs CFEA meeting chaired by President Xi Jinping,
the Communist Party of China (CPC) leadership outlined China’s energy security
strategy. The Action Plan to Achieve Peak Carbon Emissions by 2030, released in
October 2021, also set energy security as a bottom line. The 14th Five-Year Plan
(2021-25) provided concrete guidelines on promoting energy security and
establishing a modern energy system.
To be sure, energy security is not, from an economic point of view, an
immediate concern for China. The country’s domestic energy production has
been rising steadily since the supply-side reform in 2016 and can meet over 70% of
domestic demand as of 2019 (latest available data). This is because coal still
accounts for 56% of China’s energy mix in 2021, and China is largely self-sufficient
on that front.
However, China’s dependency on imported energy is rising quickly as
demand growth constantly outpaces domestic production. The dependency
rose from the low single digits in the late 1990s to 24% in 2019 (see Figure 29). Oil
and natural gas, which accounted for 27.4% of China’s energy mix in 2021,
contributed most to the increase (Figure 30). China’s import dependency stood at
72% for oil in 2021, and rose quickly to 44% for natural gas from merely 1%-2% in
2007. The country’s natural gas imports increased by 37 times between 2007 and
2021 under the push for clean energy. The price volatility of natural gas in the
international market amid the pandemic and geopolitical risks could increasingly be
a source of concern for China.
Figure 29. China’s Energy Production Has Been Expanding Resiliently
and Its Import Dependency Has Been Rising
(bn tons coal
equivalent) China: Energy Production and Import Dependency

(%)

Figure 30. China’s Reliance on Imported Oil and Natural Gas Has Been
Rising Rapidly
(%)

Fossil Fuels: Net Imports as % of Domestic Consumption

4.8

4.0

3.2

2.4

1.6

0.8

-20

-40

0.0
90

China Domestic Energy Production

Source: NBS, Citi GPS

Import Dependency (RHS)

60
40

03
Coal

09
Oil

Natural gas

Source: China Customs, NBS, Wind-Economic Database, Citi GPS

Citi GPS: Global Perspectives & Solutions

October 2022

The decarbonization push is another factor behind China’s call for energy
security. China aims to hit peak emissions before 2030 and carbon neutrality by
2060, as announced by President Xi at the UN General Assembly in 2020. The
government has since been pushing forward with a series of actions (Figure 31),
including urging local governments to set decarbonization goals, initiating carbon
emission trading, further cutting steel capacity, and establishing credit facilities to
firms for engaging in decarbonization. Notably, the Action Plan unveiled in October
2021 pledged to achieve the nationally determined contribution (NDC) target for
climate change by 2030, and to reduce energy consumption and carbon dioxide
emissions per unit of GDP by 13.5% and 18% within five years. These all suggest a
strong determination to achieve the decarbonization goal (Figure 32).
During this move towards energy transition, a power crunch in the second
half of 2022 revealed the weak links in China’s energy system. Over 20
provinces rolled out electricity-rationing measures during August-October 2021. This
was the result of an export-led industry boom during the post-pandemic recovery
coinciding with the government’s “dual energy control” policy to curb carbon
emissions. Even for coal, for which China is mostly self-sufficient, the balance
between supply and demand showed it could tighten quickly, with thermal coal price
surging to the peak of RMB2,592 per ton in October 2021 from the bottom of
RMB568 per ton in February 2021. With the painful power crunch episode in mind,
the government has toned down the environmental push for the National People’s
Congress in 2022 and has not set an explicit target for energy consumption intensity
as it had in past years.

October 2022

Citi GPS: Global Perspectives & Solutions

Figure 31. Government Policy Actions on Decarbonization
Date

Department

Details

10.23.2020

CERC

Sets carbon peak and carbon neutral as the key task for 2021 and pledge to intensify the financial support to green development.

12.18.2020

NDRC

Pushes forward the treatment of plastic pollution and enhance the control of energy consumption and intensity of energy consumption.

12.22.2020

NEA

The national energy meeting calls to enhance the energy supply and accelerate the development of wind, solar, water, nuclear power,
and usage efficiency of coal.

12.28.2020

MIT

Calls for industrial low carbon activity and green manufacturing and pledges to reduce the output of crude steel to ensure a YoY
decline in crude steel output.

01.05.2021

MEE

Unveils the management rule for carbon emission trading (ETS) and clarifies the first ETS contact cycle to initiate from January 1st.

01.13.2021

MEE

03.19.2021

Tanghshan Gov’t

03.29.2021

MEE

03.23.2021

14th FYP

06.10.2021

PBoC

Release assessment plan for banking sector’s green finance effort.

07.08.2021

MEE

After the approval from the executive meeting of the State Council, the national carbon emission trading market for the power
generation industry launched for online trading in July. The next step is to steadily expand the coverage of the industry and use market
mechanisms to control and reduce greenhouse gas emissions.

10.26.2021

State Council

Unveils action plan to achieve carbon peak in 2030.

11.08.2021

PBoC

PBoC launches new monetary policy facility to support decarbonization.

11.09.2021

NDRC

Unveils 14 FYP’s national clean production plan.

Calls for local governments to put forward clear peak attainment goals based on actual conditions, formulate carbon peak
implementation plans and supporting measures, and encourage the key sectors (steel, construction, ferrous metals, chemical, coal,
electricity) to provide concrete carbon peak target and implementation plan.
Tangshan releases plans for steel production cuts in 2021. Out of the 25 steel mills in Tangshan, seven are required to cut production
by 50% during March 20-June 30 and 30% in the first half of 2021; 16 are required to cut production by 30% throughout the year.
Unveils the notice to enhance the management of corporate carbon emission report to improve the information transparency of key
sectors.
14th Five Year Plan unveils the concrete steps to reach carbon neutrality by 2060. It aims to achieve the Nationally Determined
Contribution target for climate change by 2030 and will reduce energy consumption and carbon dioxide emissions per unit of GDP by
13.5% and 18% within five years.

CEWC = Central Economic Work Conference, NDRC = National Development Reform Commission, NEA = New Energy Administration, MIIT = Ministry of Industry and
Information Technology, MEE = Ministry of Ecology and Environment, PBoC = People’s Bank of China
Source: Government report, Citi GPS

The political will to meet its environmental targets remains strong in China,
both for geopolitical reasons and for purely ecological reasons. At the UN
General Assembly in September, 2020 President Xi pledged that China will reach
peak carbon emissions by 2030 and carbon neutrality by 2060. Climate change is
one of the biggest common challenges for all humankind. As the largest developing
country and the largest emitter, China’s commitment matters to itself and the world.
Meanwhile, climate is also one of the areas in which the U.S. and China can
cooperate regardless of rising tensions between the two countries.
The CPC leadership is well aware of the cost that comes with its fast development.
China’s total carbon dioxide emissions remain on an upward trend (Figure 33),
despite its emissions per GDP declining notably from around two kilograms (kg) per
GDP in terms of PPP (purchase price parity) dollars to 0.5 kg in the past 30 years.
Its CO2 emissions exceeded those of the U.S. in 2007, making it the largest emitter
in the world. As the largest consumer of fossil energy, China accounts for more than
30% of global carbon emissions (Figure 34). Its environmental quality is significantly
lower than implied by its income level (Figure 35). In addition, “Ecological
Civilization” is an essential element of “Xi Jinping Thought.” China’s commitment to
peak carbon emission and carbon neutrality is by President Xi himself. He also sees
ecological civilization as a prerequisite for economic development and higher-quality
growth.

Citi GPS: Global Perspectives & Solutions

October 2022

Figure 32. The Completion of 13th FYP Targets vs. 14th FYP Targets on Environmental
Protection
13th FYP
Target
15
15
18
>80
>70
23

Reduction in energy consumption per unit of GDP (%)
Non-fossil energy (% of primary energy consumption)
Reductions in CO2 emissions per unit of GDP (%)
Air quality: Good days in prefectural + cities (% of year)
Surface water quality: Grade III or better (%)
Forest coverage (%)
Note: * means completion until 2019
Source: Government reports, Citi GPS

Source: Wind-Economic Database, Citi GPS

10
5
Italy

Poland

U.K.

Mexico

Australia

Brazil

Turkey

Canada

South Africa

Indonesia

Korea

0
Saudi Arabia

China’s CO2 emission
China’s emission share as of the world (%, rhs)
Growth of China’s emissions (%YoY, rhs)

Iran

67 70 73 76 79 82 85 88 91 94 97 00 03 06 09 12 15 18 21

Germany

Japan

3,000

Russia

6,000

9,000

Share of Global Carbon Emission by Countries in 2021

(%)

India

(%)
35
30
25
20
15
10
5
0
-5
-10

12,000

U.S.

China’s CO2 Emission

(mn ton)

Figure 34. China Accounted for Over 30% of Global Carbon Emissions

China

Figure 33. China’s Total CO2 Emissions Remain on an Upward Trend

14th FYP
Target
13.5
20
18
87.5
85
24.1

Completion
14.0
15.3*
18.2*
87
83.4
23.2*

Source: Wind-Economic Database, Citi GPS

However, China has a long way to go to build a low-carbon economy, and the
country’s promotion of coal reflects political objectives above all. At the center
of China’s environmental push is the transition of the energy structure. How to
manage energy security while pushing forward the energy transition is the biggest
challenge for China’s energy policy. Fossil fuels still accounted for 84% of China
energy mix in 2020, and the share of coal reached 56% (Figure 36). Note that the
relatively high level of CO2 emissions from unit coal, which is almost double that of
natural gas, made it the single most important emission source (Figure 37).
However, coal will remain the most important part in China’s energy mix in the
coming years. Due to the recent painful experience from the power crunch, it is less
likely that the government would step up capacity control on coal production. It
would likely resort to cleaner usage of coal instead. China’s National Development
and Reform Commission issued nationwide standards on coal usage in May 2022.
The People’s Bank of China set up a special lending facility of RMB200 billion to
support clean usage of coal in November 2021 and added another RMB100 billion
in May 2022. The concern with natural gas, however, is that China needs to rely on
imports. China has been the biggest natural gas importer since 2018, with the
imports accounting for 37.7% of domestic consumption in 2021. That year, 39% of
China’s liquefied natural gas (LNG) imports came from Australia and 11% from the
U.S.

October 2022

Citi GPS: Global Perspectives & Solutions

Figure 35. China’s Environment Quality Is Significantly Lower Than That Implied by Its Income
Level
EPI Score

Environmental Performance Index 2022

Denmark

80
70

Japan

Germany

U.S.

40
30

China

India

10
2.0

2.5

3.0

3.5

4.0

4.5

5.0

5.5

log(GDP/capita in US$)

Note: GDP/capita data as of 2021
Source: Yale University, World Bank, Citi GPS

Wind power has been growing especially fast in recent years, and new energy
(hydro, solar, wind and nuclear) as a whole is growing visibly. China’s new
energy is on the rise. Its share in the energy mix rose from 5%-6% in the late 1990s
to 16% in 2020. China’s wind power industry (Figure 38) and photovoltaic power
industry have been growing rapidly (Figure 39) in recent years. New energy will be
another card in China’s energy transition deck. The government is also pushing
hard on this front. The Action Plan and the 14th FYP both vowed to increase the
capacity of hydro, wind, and solar power generation. Despite all of the merits of new
energy, stability remains the top concern. Sluggish hydro power generation was one
of the factors behind the power crunch in 2021, and the droughts of 2022 may also
have the effect of reducing reliance on hydro power. In any case, new infrastructure
(i.e., in areas like smart cities and intelligent energy networks) compatible with new
energy will need to be built to facilitate the transition.
Figure 36. China’s Energy Consumption Consisted of 56% of Coal,
18.5% of Oil, 8.9% of Natural Gas and 16.6% of Renewables in 2021
(%)

China’s Energy Consumption Structure

100

Figure 37. The CO2 Emissions From Unit Coal Is Higher Compared With
Natural Gas
(lbs)

CO2 Emitted per Million BTU Unit of Energy

250

90
200

80
70

150

60
100

50
40

Source: NBS, Citi GPS

Source: U.S. Energy Information Administration, Citi GPS

Coal
(Anthracite)

Coal
(Bituminous)

Coal
(Lignite)

Coal
(Subituminous)

90 92 94 96 98 00 02 04 06 08 10 12 14 16 18 20
Coal
Oil
Gas
Renewables (+Nuclear)

Diesel Fuel &
Heating Oil

Gasoline
(w/o Ethanol)

Natural
Gas

Propane

Citi GPS: Global Perspectives & Solutions

October 2022

New infrastructure will be vital to ensure that China has the capacity to store
new sources of energy. Storage and transmission are two key pillars in this
respect. Bloomberg reported in June 2022 that 12% of power generated by wind
turbines in Inner Mongolia and 10% of solar power in Qinghai has been wasted
because the grid could not digest it.24 The Action Plan and the 14th FYP set an
ambitious target for non-pumped hydro energy storage to reach 30 gigawatts (GW)
by 2025. Ultra-high-voltage (UHV) electricity transmission is an example for
transmission. China faces a huge mismatch geographically in energy supply and
use: Coal, hydro, wind, and solar resources are very concentrated in the inland
areas of the west, while the heaviest energy demand is along the urbanized east
coast. China initiated UHV projects in 2006 and planned 25 alternating current (AC)
lines and 14 direct current (DC) lines in the 14th FYP, with >30,000 kilometers of
line length and a RMB380 billion investment in total versus 13 AC and 12 DC lines
established during the 13th FYP (2016-20). Through 2030, the government expects
electricity transmitted via UHV lines to hit 37 billion kilowatt hours (kWh) compared
to 24 billion kWh recently.
Figure 38. China’s Wind Power Industry Has Been Developing Swiftly…
(kWth)

Capacity of Power Generating via Wind

(kWth)

Figure 39. …So Has Its Photovoltaic Power Industry
(kWth)

Power Generating by Solar Photovoltaic

(kWth)

350,000

80,000

350,000

60,000

300,000

70,000

300,000

50,000

60,000

250,000

50,000

200,000

250,000

40,000

200,000
30,000

40,000
150,000

150,000

30,000

100,000

20,000

50,000

10,000

0
2007

2009

2011

Accumulative

2013

2015

2017

2019

Newly Installed (RHS)

Note kWth = kilowatt thermal
Source: CEIC, Citi GPS

2021

20,000

100,000

10,000

50,000
0

0
2009

2011

2013

Accumulated

2015

2017

2019

2021

Newly Installed (rhs)

Note kWth = kilowatt thermal
Source: CEIC, Citi GPS

China’s energy transition will have profound economic and investment
implications on multiple fronts. First, Beijing will likely make further policy
adjustments to engineer a low-carbon trajectory. Indeed, the government may have
to curb capacity expansion in traditional materials sectors and heavy industries. The
market may also discourage capital expenditure investment in sensitive sectors via
improved pricing of potential environmental risks. Second, eco-friendly sectors like
advanced manufacturing and modern services, as well as clean energy
technologies, are set to attract more policy support and financial resources. In
particular, services made up 53% of China’s GDP in 2021 amid the pandemic
shock. We expect the share to further rise to around 60% by 2025.

Bloomberg, “China’s Renewable Energy Fleet is Growing Too Fast for Its Grid,” June
5, 2022.

October 2022

Citi GPS: Global Perspectives & Solutions

China has an incentive to green its vehicle fleet since rail and water transport
are so much less important than roads. China has become the world’s largest
auto market since 2009. Its freight traffic also dominantly depends on road networks
(75% in 2021), much more than on railway (9%) and water (15%) (Figure 41). There
is no question that China will move to contain pollutant emissions from new motor
vehicles, a major source of air pollution, by continuously upgrading emission
standards, and continue its green overhaul to address issues like overloading and
dust-raising by trucks. Further, new energy vehicles (NEVs, mainly electric vehicles)
will remain a priority in order to combat pollution and reduce reliance on imported
oil. Finally, the government has been taking measures to shift freight from roads to
rail and waterway networks. In addition to high-speed rail, China is set to expand its
investment to raise its rail freight capacity.
For the time being, greening China’s road vehicle fleet will remain a major objective
and, as the following chapter shows, China has a particular advantage in electric
vehicles.
Figure 40. Heavy Industries Accounted for a Large Share of China’s
Carbon Emissions
China Carbon Emission by Sector in 2019
Petroleum Agriculture
Processing
1%
2%
Chemicals
2%

Figure 41. China’s Freight Traffic Is Dominated by Road (75.1% In 2021),
Compared With Railway (9.1%) and Water (15.8%)
China Freight Transportation Structure

(%)
100

Others
11%

Tranport &
Postal
Services
7%
Nonmetal
Mineral
Products
11%

Electricity &
Utility
Production
47%
Ferrous
Metals
19%

0
00

Source: Wind-Economic Database, Citi GPS

02
04
Road

08
Rail

Source: NBS, Wind-Economic Database, Citi GPS

14
Water

18
20
Other

Citi GPS: Global Perspectives & Solutions

October 2022

Chapter 6. Is China Sufficiently
Innovative to Meet Its Goals?
China’s tech-decoupling from the U.S. means a paradigm shift in its innovation
model — switching from relying on foreign companies for leading core technologies
to self-reliance under a “new whole-nation system.” At the national-strategy level,
decoupling could be China’s Sputnik moment — an external trigger for an era of
fast-track technological progress.
It immediately follows from the Dual Circulation Strategy that China will have
to become more innovative in response to external challenges. The 14th FiveYear Plan (2021-25) has elevated innovation to “core status” in China’s
modernization, positioning core technologies as a matter of national security. In a
continually changing geopolitical setting, however, China’s innovation model may
need to shift more towards self-reliance.
Innovation in China used to take a bottom-up and market-driven approach
based on its comparative advantage and international division of labor. The
early progress in innovation was mostly facilitated by globalization, with technology
transfers and skill enhancement from foreign direct investment originating from
developed markets, and more recently by the rapid spread of new technologies at
lower costs, especially on the back of IT developments. This “bottom-up” and
market-based pattern of technology catch-up followed the international division of
labor based on China’s comparative advantage. This model appeared to have
served China well. The Global Innovation Index, published by the World Intellectual
Property Organization, ranked China as the 12th-most innovative country globally
among 129 economies in 2021 (Figure 43). The present momentum will likely
catapult China to the fifth-most innovative country by 2030. While this model has
allowed China to catch up quickly in certain sectors, such as artificial intelligence
and 5G, it remains a distinct laggard in sectors such as semiconductors and
aerospace engineering, sectors that require large investment in basic research. The
lack of “core technologies” will likely make the country vulnerable to the external
environment, in particular China’s relations with the West and the U.S.
Figure 42. We Expect R&D Expenditure as a Share of GDP to Reach
3.1% in 2025E and 3.8% in 2030E

Figure 43. China’s Innovation Performance Is Better Than Implied by Its
Development Level, and Is Expected to Improve Further

(%)
4.5

70
2030E:
3.8%

4.0

Innovation Index

60
CHN

3.5
3.0

2.0

$bn

1000

1.5

354

1.0

0
U.S. China China
2020 2020 2025
R&D Scale

0.5
0.0
1991

1995 1999 2003 2007
China R&D as % of GDP

Source: CEIC, Haver, Citi GPS

2011

2015 2019 2023
US R&D as % of GDP

2027

RUS

IND

941

708

500

CHE

2025E:
3.1%

2.5

U.K.U.S.
DEU
JPN

30
PAK
NGA

BRA
IDN

10
2.0

2.5

3.0

3.5

4.0

4.5
5.0
Log (GDP/capita in US$)

Source: Global Innovation Index (GII), World Bank, Citi GPS, Bubble chart data as of
2021, Circle Size = Population

October 2022

Citi GPS: Global Perspectives & Solutions

The 2015 release of the Made in China 2025 initiative was a watershed event,
as it represented a major deviation from China’s previous approach. Tight
timelines and ambitious targets were set for the 10 important sectors the
government identified. They include robotics, new energy vehicles (NEVs, mainly
electric vehicles), biotechnology, aerospace, high-end shipping, advanced rail
equipment, electric power equipment, new materials, new generation IT and
software (including integrated circuits and telecom devices), as well as agricultural
machinery. The plan unsettled both the U.S. and European governments and their
multinational corporations. China has toned down the Made in China rhetoric since
its trade negotiations with the U.S., strengthened intellectual property (IP)
protection, and abandoned the practice of offering market access in exchange for
technologies. However, technology dominance has still emerged as a key
dimension in the strategic rivalry between the U.S. and China. The Trump
administration heightened its sanctions on Chinese firms and barred non-U.S.
companies that use U.S.-made machinery and software from supplying key
components like chips to China. The broad trend of U.S.-China technology
decoupling continues under the Biden administration.
The tech-decoupling could serve as China’s Sputnik moment in innovation,
forcing it to take a top-down and self-reliant approach. Beijing quickly
recalibrated its technology and innovation policy during the Communist Party of
China’s 5th Plenum in November 2020. Self-reliance via a “new whole-nation
system” appears to be a key feature of China’s innovation going forward. While
foreign partnerships are still crucial (for hedging supply chain risks), China will have
to rely more on its domestic companies and talents to drive innovation in the future.
More efforts are going to be devoted to developing backbone technologies,
investing in new infrastructure, and maintaining a competitive advanced
manufacturing sector. The state will prioritize its resources to engage in
technological breakthroughs in areas subject to export bans or relying exclusively
on imports. The Chinese Academy of Sciences identified the top 35 sectors that rely
most heavily on imports as priorities for indigenous breakthroughs (Figure 44). Selfreliance is far from a guarantee of successful innovations, but it may be a defining
feature of policy in a decoupling world.

Citi GPS: Global Perspectives & Solutions

October 2022

Figure 44. Top 35 Technology Sectors in Which China Relies Excessively on Foreign Imports
#

Sector/Product Name

Lithography

High-pressure plunger pump (hydraulic equipment component)

Chip

Design software for aviation

Operation system

Photoresist (for chip production)
High-pressure common-rail system (core for diesel engine)

Aircraft engine nacelle

Tactile sensor (for industrial robot)

Transmissive capacitor (core component for life sciences frozen capacitor)

Road-header’s main bearing

Microspheres (key material for panel production)

Vacuum evaporation machine (display panel production tool)
Cellphone radio-frequency device (conversion component from digital signal to
electromagnetic wave)
iCLIP tech (key tech for brand-name drug’s R&D)

Underwater connector (undersea observation network)

Heavy-duty gas turbines (component for ships, trains, large-scale power station)

Key material for fuel battery

Lidar (automatic driving system)

High-end welding power

Airworthiness Standard (assessment for aircraft engine)

Lithium battery separator

High-end resistor capacitor

Medical imaging equipment component

Core industrial software, e.g., EDA tool for chip manufacturing

Ultra-precision polishing process (basic tech for manufacturing )

Indium tin oxide material (for the production of monitors)

Epoxy resins (key material for carbon fiber)

Core algorithm for robots

High-strength stainless steel (key material for rocket engine)

Aviation steel (e.g. for big plane landing gear)

Database management system

Special steel knife (core component to maintain high-speed train)

Scanning electron microscope (high-end electron optics)

High-end bearing steel ( e.g., for airplane, high-speed train)

Source: Science and Technology Daily, Citi GPS

Decoupling will certainly slow China’s technological advances, but there is no
need to be overly pessimistic about the intrinsic ability of Chinese firms to
innovate. Sanctions on technology like semiconductor chips have slowed China’s
5G ambitions and even put some companies’ survival in question. However, the
government is now devoting more resources to basic research and lifting R&D
spending on core technologies. Despite the inevitable short-term pain this involves,
there could be large long-term gains as well. After all, China has a number of
advantages: a high savings rate, deep capital markets, a very large domestic
market, and plenty of talented scientists and engineers. These points are illustrated
in Figure 45 through Figure 48 below. In addition, China has rich experience in
engaging industrial policies. That said, we believe it is equally important to
overcome disadvantages like information blockages and inadequate IP protection.
Figure 45. China Has the Second Largest Stock Market
($ tn)

Figure 46. China Ranks 2nd in Terms of Bond Market Size

Stock Market Capitalization by Country

(%)

250
51.1

($ tn)
40

(%)

Bond Markets Outstanding by Country

250

36.0

210

40
170

210

30
25

20.6

30
130
20
10.2
10

5.9

90
3.9

2.8

50
U.S.

China
Market Cap

Japan

U.K.
France Germany
Market Cap/GDP Ratio (RHS)

Source: Bloomberg, Citi GPS, as of July 26, 2022

11.3

130
4.0

2.2

170

4.5

4.8

90
U.S.

China
Outstanding

Japan

U.K.
France Germany
Oustanding/GDP Ratio (RHS)

Source: Bloomberg, Citi GPS, as of July 26, 2022

October 2022

Citi GPS: Global Perspectives & Solutions

Figure 47. China Has the Second Largest Consumption Market
($ tn)

Figure 48. China Has the Largest Amount of R&D Staff
(‘000 people)

GDP for Final Consumption Expenditure in 2021

18
16
14
12
10
8
6
4
2
0

(people)

R&D Staff by Country

2500

16
14

2000

12
10

1500

8
1000

6
4

500

Source: World Bank, Citi GPS

R&D Staff

Canada

U.K.

France

Russia

Germany

Korea

Japan

U.S.

0
China

Brazil

Canada

Italy

India

France

U.K.

Germany

Japan

China

U.S.

R&D Researchers (per mn people, RHS)

Source: World Bank, Citi GPS, latest observation for each country

While the objectives and agenda are clear, China may also need to perfect the
“art” of policy implementation in driving innovation. First, the case for optimism
about China’s technological future will be clearer the more the private sector is
encouraged to innovate. As discussed, the state’s role in leading-edge industries
not only risks damaging China’s external relations but also could be a drag on
efficiency. Market competition has been a driver of technological progress and
global reach for an increasing number of Chinese companies and should remain so.
By finessing the incentive system and leveling the playing field while supporting
fundamental research, China can achieve its innovation ambitions not only through
top-down policy but also via free-market dynamics. Second, government support for
China-based innovation will need to be equally accessible by private and foreign
companies, as outlined in the 14th FYP. An open approach to encouraging industrial
upgrading would help grow the pie so that multinational corporations would also
benefit.
In any case, tech-decoupling should be undesirable not only for China but
also for the world. Tech sanctions, export controls, and general containment by the
U.S. will certainly make it more difficult for China to innovate and grow. It is also
worth noting the possibility that the U.S.’s broad actions could backfire, with
considerable costs to American industries. For example, under the U.S. export
controls, multinational corporations could avoid setting up semiconductor, software,
or toolmaking facilities in the U.S. if China remains an important market for them.
Even firms currently manufacturing in the U.S. might explore moving production and
activities offshore. Companies outside the U.S. and China may have new incentives
to “design out” and avoid purchasing American equipment, lest such purchases get
targeted and disrupted in the future. Some other major foreign consumers of U.S.
tech products may look for alternatives if they are concerned their supplies will get
cut off. Targeted export controls with exceptions decided on a case-by-case basis
would also create concerns over cronyism, non-transparency, and discrimination in
the U.S. In short, some degree of tech-decoupling between the U.S. and China
appears unavoidable, either for national security or strategic rivalry, but it is entirely
possible for this process to be managed in a way that avoids inflicting unnecessary
harm on all parties involved, directly and indirectly.

Citi GPS: Global Perspectives & Solutions

October 2022

Over time, as China focuses on innovation and technology upgrading, it will
increasingly become a competitor to industrialized economies. While R&D
intensity in economies such as South Korea, Taiwan, Japan, and the U.S. is
outpacing that of China’s, the absolute U.S. dollar value of spending in China
continues to trump every other nation outside of the U.S. Whether China’s R&D
spending is productive, especially given the role of the government in allocating
resources, remains to be seen. According to work by a non-government think-tank
(CSET), China has become the global leader in robotics patents, accounting for
35% of global robotic patents granted between 2005 and 2019 — three times the
amount granted to the U.S.25 China is also making significant inroads in artificial
intelligence (AI) and led the world in the number of AI patent filings in 2021 — three
times the pace of the U.S. — but still significantly lags in terms of the number of AI
patents granted (about 15% that of the U.S., though the gap is narrowing).26
The regulatory crackdown on China’s big tech firms in recent years could
jeopardize the pace of innovation. The tech regulations are motivated by different
things — anti-competition, data security and data privacy laws, financial stability, or
whether technology runs afoul with social objectives such as boosting family sizes
or achieving “common prosperity.” There is risk that such regulatory uncertainties
could make it harder for private sector-driven tech firms to mobilize capital and
dampen animal spirits needed to foster innovation. However, there are growing
signs from the earlier Political Bureau meetings and the recent Mid-Year Politburo
Meeting that we may now be approaching a more normalized regulatory regime for
platform companies, as the government recognizes the economic risks involved. All
that said, innovation in China has clearly not been totally stymied, as the electric
vehicle (EV) sector’s experience shows.

Case Study: The Rise of China’s EV Sector
China now has a strong position in the electric vehicle (EV) industry, which
appears to be a successful example of the country’s innovation drive. The
policy push for EV development dates back to 2009. The Global Financial Crisis
(GFC) and the subsequent oil price rally underscored the importance of energy
security and prompted China’s move to develop new energy vehicles (NEVs),
mainly EVs. In 2009, the State Council unveiled a “revitalization” plan for the auto
industry, which set an ambitious goal for the NEV segment: 5% of total passenger
vehicle sales by 2012. In the same year, the authority launched the “Ten Cities,
Thousand Vehicles” plan — namely, 10 selected cities were required to add 1,000
NEVs units that year. The plan greatly popularized EVs for public use (e.g., for taxis
and buses), before expanding to 25 cities in 2010 and 88 cities in 2015 (Figure 49).

Margarita Konaev and Sara M. Abdulla, Trends in Robotics Patents: A Global
Overview and an Assessment of Russia, Center for Security and Emerging Technology,
October 2021
26 Stanford Institute for Human-Centered AI, The Artificial Intelligence Index Report
2022, March 2022.

October 2022

Citi GPS: Global Perspectives & Solutions

Supportive fiscal policy has also been a key underpinning of China’s EV
development. After listing NEVs as one of the seven strategic emerging industries
for China in 2010, the government started to provide subsidies for private NEV
purchases (to carmakers), first in five cities and then nationwide. The Ministry of
Finance also exempted the auto purchase tax for NEVs from September 2014 to
December 2017 and subsequently extended the exemption to the end of 2022. After
10 years of development, the NEV market share rose to 4.5% by 2018, leading the
authorities gradually to withdraw their support. For example, the standard fiscal
subsidy in 2019-20 was some 40% lower than in 2018 and was reduced by a further
20% in 2021 and 30% in 2022. Without a renewed extension, both fiscal subsidies
and tax exemption will expire by the end of 2022, paving the way for a more marketoriented EV market ahead.
Figure 49. Lists of NEV-Related Policies in 2019-Present
Stage
Early Development Stage
(2009-13)

Date
2009

Key Events
State Council unveiled an adjustment and revitalization plan for the auto industry, with goals of achieveing 500k unit
production capacity for hybrid and plug-in hybrid vehicles by 2012 and 5% market share of New Electric Vehicle (NEV) in
total passenger vehicle (PV) sales.

2009-10

“Ten Cities, Thousand Vehicles” NEV plan launched with selected pilot cities required to increase NEV units by 1,000 in the
first year. A total of 25 cities were involved in this plan.
State Council listed NEVs as one of seven key strategic emerging industries for China
The fiscal subsidy pilot for private NEV purchases started in five cities: Shanghai, Changchun, Shenzhen, Hangzhou, and
Hefei. After that, local governments began to unveil fiscal subsidy policies for NEV purchases.
The vehicle and vessel tax on NEVs and the purchase tax on NEV buses were exempted.
State Council unveiled the 2012-20 development plan for energy savings and NEVs, which aimed to lift plug-in hybrid EV
production capacity to 500k in 2015 and 2 million in 2020. The MoF provided a RMB4 billion special fund to support this
plan, focusing on new car models and key auto parts.
The MoF announced an exemption on the purchase tax for NEVs from Sep 2014 to Dec 2017.
Ten Cities, One Thousand Vehicles NEV plan was extended to 88 cities from the original 25.
In the “Made-in-China 2025” initiative, the State Council set a strategic goal to establish a complete industrial and innovation
system for both key auto parts and complete vehicles and to promote the development of self-owned NEV brands that are
competitive with global peers.
The exemption of the NEV purchase tax was extended to the end of 2020.

2010

2012

Fast Growing Stage
(2014-18)

2014
2014-15
2015

2017
Adjustment Stage
(2019-Present)

2019-20

The 2019-20 fiscal subsidy standard fell by 40% from the 2018 level and the 2021 standard fell a further 20% from the 2020
level.

2020

State Council unveiled the 2021-35 NEV development plan which aimed for NEV sales to reach 20% of new car purchases
in 2025, battery electric vehicles (BEVs) to be the mainstream for auto sales by 2035, and all public cars to be EVs by 2035.

2021

MoF and MIIT announced the 2022 fiscal subsidy standard will fall another 30% from 2021 levels and the subsidy policy will
expire by the end 2022.

Source: Government reports, Citi GPS

Citi GPS: Global Perspectives & Solutions

October 2022

China’s EV brands emerge strongly as the domestic market expands. EV sales
in China soared from 12,800 in 2012 to 3.5 million in 2021 (Figure 50). The EV
share of auto sales rose to 13.5% in 2021 and further to 21.5% in the first half of
2022, compared with 0.1% a decade ago (Figure 51). This figure was much higher
than the global average at 8.3% in 2021. To some extent, the government achieved
its target for a 20% EV market share by 2025 three years in advance. Globally,
China accounted for more than half of the world’s EV sales from 2015 to 2021
(outside of 2020, Figure 52). In the meantime, domestic brands have risen quickly.
China contributed to six out of the top 10 EV models sold in 2021 (Figure 54),
accounting for 13% global sales in total. Naturally, homegrown brands dominate the
domestic market, representing almost 80% of EV sales in June 2022.27
Figure 50. China’s EV Sales Climbed Up Swiftly in Past Decade
(‘000 unit)

China’s EV Sales and Global Market Share

Figure 51. EV Market Share in China Reached 21.5% in 22H1, Much
Higher Than the Global Average
(%)

(%)

4000

3500

EV Market Share of Total Auto Sales

3000

2500

2000
30

1500

1000

500
0

5
0

2012 2013 2014 2015 2016 2017 2018 2019 2020 2021
China’s EV Sales
Global Share (RHS)

2012

2014

2016

2018

2020
China

World

2022H1

Source: Wind-Economic Database, EV volumes, Citi GPS

Figure 52. China Owns the Largest EV Market in 2021

Figure 53. BEV Is Expected to Occupy Over 50% Market Share in
China’s Auto Market and 39% Globally

Global EV Sales Breakdown by Countries
Sweden
Norway Italy 2%
2%
2%
France
5% U.K.
5%

Others
14%

(%)
100

Prediction of Auto Sales Breakdown
World

China

20
80

U.S.
10%

Germany
10%

China
50%

0
2021
Gasoline

Source: EV volumes, Citi GPS

2025

2030

Diesel

MHEV

2021
HEV

PHEV

2025
BEV

2030
FCEV

Source: BCG Forecast, Citi GPS

Daisuke Wakabayashi and Claire Fu, “For China’s Auto Market, Electric Isn’t the
Future. It’s the Present,’ New York Times,” September 25, 2022.

October 2022

Citi GPS: Global Perspectives & Solutions

Figure 54. Amongst Top 10 EV Models Sold in 2021, 6 are From China
(%)

Market Share of EV Sales for Top 10 Models

Changan Benni BEV

from China

Renault Zoe BEV
BYD Song Pro PHEV
BYD Han BEV
Li Xiang One EREV
BYD Qin Plus PHEV
VW ID.4/X/Crozz
Tesla Model Y
Wuling Mini EV
Tesla Model 3
0

Source: EV volumes, Citi GPS

In addition to industrial policy, China has three big advantages that form a
basis for optimism in the EV sector. The first is a huge and still growing domestic
market. China accounts for more than half of global EV sales. BCG forecasts that
the market share of fully-electric, battery electric vehicles (BEVs) in China could rise
from 11% in 2021 to 52% in 2030 (Figure 53), outpacing the global average.28 The
second advantage is China’s dominance of the EV battery industry. China is one of
the major players in EV battery manufacturing, and four Chinese companies were
among the global top 10 EV battery sellers, accounting for almost half of the global
market in 2021 (Figure 55). China’s technological advantage is also evident through
patent applications, where it is responsible for over 90% of global lithium battery
applications.29 A third advantage is China’s rapidly expanding infrastructure for EV
battery charging. There were 11.5 million EV chargers in China as of 2021,
equivalent to 65% of the global stock. The expansion of EV infrastructure has been
rapid, with the number of charging piles (EV charging stations fixed on the ground)
now 20 times of that in 2015 (Figure 56). However, the infrastructure is still lagging
behind the demand — around a half of EV car owners are still unable to install
charging piles in their communities.
Figure 55. Top 10 EV Battery Companies

Figure 56. China Owns Over 60% of Global EV Chargers
(‘000s)

Market Share of Top EV Battery Companies

Number of EV Chargers Stock by Country

(%)
70

2000

35%
Chinese company

30%

65
1600

25%
20%

60
55

1200

15%
800

10%
5%

45
40

400

SVOLT

AESC

Gotion

CALB

Samsung

SK On

Panasonic

LG Energy

CATL

0%
0

30
2015
China

Source: electrek.co, Citi GPS

2016
U.S.

2017
Europe

2018

2019
Others

2020

2021

China’s Share (rhs)

Source: IEA, Citi GPS

Nathan Niese et al., Electric Cars Are Finding Their Next Gear, BCG, June 9, 2022.
Appleyard Lees, Inside Green Innovation: Progress Report, Accessed September 28,
2022.
29

Citi GPS: Global Perspectives & Solutions

October 2022

Although these factors support the optimistic case, China will need to step up
its push for auto chip innovation. In addition to batteries, auto chips are another
core component in auto production. The semiconductor chip shortage led to an auto
production cut in 2021 of over 10 million units and over three million additional cuts
in the first half of 2022.30 IC Insights estimates the self-sufficiency ratio for China’s
auto chips was less than 5% in 2021 or 10% including contributions from
multinational corporations.31 China has a long way to go to secure its EV supply
chains. In other words, the overall constraints to China becoming a fast-growing and
self-reliant economy are still considerable.
Having said that, Citi Research forecasts that China will eventually overtake
Europe in EV sales, with almost 50% market share by the end of the decade.
Looking at the current leading EV automakers, China is in a strong position, with the
largest global market share in 2021 spread over nine companies (Figure 58). Japan
looks particularly weak vis-à-vis its more dominant role in internal combustion
engine vehicles, and risks losing further market share gains as China embraces the
EV shift over the coming decade.
Figure 57. Chinese Automakers Gains Market Share in China at the
Expense of Foreign Automakers
(% Share)

Figure 58. Top Plug-In Electric Vehicle Automakers in the World, by
Volume of Sales in 2021

Market Share of Auto in China, byAutomaker Nationality

100%
23

80%
16

60%

FR/NL
5%

KR
7%

U.S.
22%

40%

20%

JP
2%

CN
43%

DE
21%

0%
2012
China

2014

2016
Germany

2018
Japan

2020

Source: CEIC, Citi GPS

1H2022
Others

Source: Cleantechnica.com, Citi GPS

China’s dominance of the EV market is a significant reminder that a more selfreliant China will continue to have large impacts on the rest of the world economy,
either because of its growing technological sophistication or because of its
continuing need for a variety of imports, or both. It is the international spillovers of
China’s self-reliance strategy to which we now turn.

Hans Greimel, “Toyota Cuts Production Plan Again on Chip Shortage,” Automotive
News Europe, accessed September 22, 2022.
31 Hana Zijian, “The Localization Rate of Chinese Car Companies’ Chips Is Only 5% and
the Former Minister of Industry and Information Technology Is Angry,” (Chinese
language), Sina Technology, March 31, 2022.

October 2022

Citi GPS: Global Perspectives & Solutions

Chapter 7. International Spillovers of
Dual Circulation and Tech
Nationalism
Though China’s import demand for food and consumer goods will continue to
deliver positive spillovers to other countries, China’s industrial upgrading also has
important implications: We have seen a sharp acceleration of robot installations in
China in recent years. This is a boon to major industrial robot producers, largely
concentrated in Japan, Germany/Switzerland, and the U.S., but a more
technologically self-sufficient China is likely to have largely unwelcome implications
for its trading partners.
Although the bulk of this report focuses on self-reliance becoming the
mainstay of Dual Circulation, “international circulation” remains important.
When either global goods demand is strong or China’s domestic demand faces
challenges, China demonstrates no qualms about having exports fill the gap.
Perhaps one could argue that while China wants to reduce its dependence on
critical foreign inputs for its own security interests, it seems more than willing to
make the world more dependent on Chinese goods, both as a byproduct of its own
industrial competitiveness and as a deterrent against risk of hostile economic or
financial sanctions.
Despite China’s willingness to engage with the rest of the world, net direct
investment flows to the country are probably in structural decline. Despite the
escalation of U.S.-China trade tensions from 2018 and the COVID-19 shock starting
in 2020, average annual foreign direct investment (FDI) into China in 2019-21
ended up being 15% higher than the 2016-18 average, outperforming the rest of the
world where FDI inflows were down 24% in the same period (Figure 59). This
resilience highlights the importance of China’s domestic market, the
competitiveness of its production networks, and the stickiness of multinational
corporation investment. However, aggregate FDI flows conceal a plateauing of FDI
in China’s manufacturing sector (at levels about 20% below the 2011 peak) and
declining greenfield investments. We think manufacturing FDI may weaken as
companies seek to diversify supply chains away from China due to shifting cost
structure, resiliency concerns, and the rise in geopolitical risks.
Meanwhile, China has become an increasing source of regional FDI flows,
with East Asia taking the largest share of China’s Outward Direct Investment
(ODI). This is illustrated in Figure 60. The effects on economies, particularly in Asia,
of China’s shifting growth paradigm will depend on the extent to which a country’s
value-added contribution acts as a complement — rather than as a substitute or as
a competitor — to China’s evolving industrial strategy.

Citi GPS: Global Perspectives & Solutions

Figure 59. FDI Inflows Into China Have Rebounded as China’s ODI Has
Come Off, Leading to Higher Net FDI

Figure 60. The Share of China’s ODI Into Asia Has Been on the Rise
China’s ODI excluding HK and Tax Havens

China FDI Flows

(% of GDP)

October 2022

100%

5
4

Oceania

80%

N. America

60%

LatAm ex Tax
Havens

3
2
1

40%

20%

Europe
Africa
Mideast, South
& Central Asia

-1
19

Net FDI (BoP data)

Source: UN World Investment Report, Haver Analytics, CEIC, Citi GPS

2020

2018

2016

FDI Outflows

2014

2012

2010

FDI Inflows

2008

2006

2004

East Asia (ex
HK)

Source: CEIC, Citi GPS

The most fundamental relationship China will continue to have with other
countries is around food. Although we have argued that China is pursuing a
greater degree of food self-sufficiency and is investing in agricultural productivity, it
remains the case that China’s overall food demand will still likely sustain current
levels of imports from a number of countries that have grown to rely heavily on it as
an agricultural importer, as Figure 61 shows. As China’s food self-reliance is mainly
in grains, countries with a large proportion of grain exports could potentially be at
risk. Whether China can successfully displace import reliance — or instead, lean on
those countries as a diversification strategy away from the U.S. — remains to be
seen. As China seeks to support higher household incomes, the demand for meat,
fish, dairy products, and fruits will inevitably grow strongly, and countries that supply
those non-staples — New Zealand for dairy; Argentina, Australia, and Spain for
meats; Vietnam for aquatic products; and Thailand for fruits — will likely continue to
benefit from China’s more affluent dietary demands.
Figure 61. Winners and Losers of China’s Food Self-Sufficiency vs. Diet Upgrading in 2021
($ bn)

China Major Food Imports by Country

(% of GDP)

2.5

2.0

Cereals
Soybean
Meats

32
1.5

Dairy Produce

24
1.0
16

Fruit & Nuts
0.5

0.0

BR
US
NZ
ID
TH
AR
AU
CA
UA
ES
RU
CL
FR
MY
UY
VN
EC
IN
DK

Note: Grain imports referenced the exporting country’s GDP
Source: UN Comtrade, Haver, Citi GPS

Aquatic Products

Animal/Vegetable
Fats, Oils
Grain Imports (% of
GDP, RHS)

October 2022

Citi GPS: Global Perspectives & Solutions

China’s demand for quality consumer imports will remain, although China’s
consumer electronics and household appliances are increasingly competitive.
According to Bain & Co., China’s luxury goods market has experienced remarkable
growth, nearly doubling in the last two years, as a drop in international travel caused
a surge in domestic luxury spending, including via e-commerce platforms and dutyfree shopping in Hainan (Figure 62).32 At present, Europe, most especially France,
reigns supreme as a purveyor of luxury personal goods (clothing, leather goods,
cosmetics, and jewelry), and outside of jewelry brands from China and Hong Kong,
much of these luxury consumer goods are largely imported.
Figure 62. Demand for Personal Luxury Items Has Risen Very Sharply
in Recent Years…
(RMB bn)

Figure 63. …Spurred in Part by a COVID-Related Fall in Travel
Expenditure

Mainland China Personal Luxury Sales

500

100%

400

80%

300

Sales Share of Top 100 Luxury Companies
1.5%
1.0%
2.3%
4.3%
1.7%
3.3%
4.0%
4.6%
9.0%
11.3%
2.7%
9.2%
16.5%

10.9%

14.8%

12.8%

60%

200
40%

20.5%

100

2021

2020

2019

2018

2017

2016

2015

2014

2013

2012

2011

2010

2009

2008

2007

Source: Bain & Co., Citi GPS

Germany
Japan
Others
China
U.K.

18.4%

Italy
Swiss

20%

Spain

23.2%

28.6%

FY2013

FY2020

U.S.
France

Source: Deloitte & Touche Global Powers of Luxury Goods, Citi GPS

There is also opportunity to export tradeable services to China as its per
capita income rises, though regulatory hurdles remain onerous. We think
China’s regulatory regime for services trade is far more restrictive than for goods
trade. Within services, the trend has diverged somewhat. On the one hand, China
has made inroads in liberalizing the financial sector, for example in insurance
services and opening up access to capital markets. On the other hand, a
Cybersecurity Law introduced in 2017 — which tightened data transfers abroad and
imposed a regulatory crackdown on tech companies, including restricting user data
more tightly and targeting those that run afoul with social objectives — will likely
constrain foreign investment in Chinese tech giants, let alone foreign competition in
local markets.
Perhaps one visible fall-out from the COVID-19 pandemic that may have some
lasting effect lies in the nexus between tourism and retail imports. While some
of these negative outcomes will correct when borders open, we think lower import
duties, improved enforcement against counterfeit goods, deepened adoption of ecommerce (skewed towards Chinese online platforms), and low-tax shopping
opportunities domestically — e.g., Hainan or Shenzhen’s plans for a duty-free
shopping area — could structurally shift value-added retail services domestically, at
the margin. The most vulnerable economies (based on pre-COVID-19 patterns)
could be Macau, Cambodia, Hong Kong, Vietnam and Thailand (Figure 65).

Bain & Co, China Luxury Report 2021, January 2022.

Citi GPS: Global Perspectives & Solutions

Figure 64. OECD Service Restrictiveness Index — China Far More
Restrictive in 2021 — China Versus the OECD Average

Figure 65. Estimated Tourism Revenues From China in Pre-Pandemic
Period in 2019

Services Trade Restrictiveness Index

Index
1.0

China

October 2022

(% of GDP)
12

OECD Ave

0.8

Tourism Revenue from Chinese Tourists (% of GDP))

48.5

0.6
8

0.4

6.6
6

0.2

Courier

Accounting

Telecom

Broadcasting

Legal

Motion Pictures

Sound recording

Insurance

Air transport

Maritime

Comm. Bnking

Computer

Logistics

Road & Rail

Architecture

Construction

Architecture

Engineering

0.0

4
2

5.5
3.2 3.1
1.0 0.8
0.6 0.6 0.6 0.5 0.5 0.4 0.4
0.2 0.0 0.0

0
MO KH HK VN TH MY SG AU NZ KR TW PH JP LK ID US IN

Note: Tourism revenue from Chinese tourists in KH, IN, ID, PH, KR, TW, JP, VN, LK,
MO are estimated using share of Chinese visitor arrivals.
Source: OECD, Citi GPS

Source: CEIC, Haver Analytics, Citi GPS

In addition to food and consumer goods, spillovers from China to other
countries will remain positive. But China’s industrial upgrading also has
important implications. We have seen a sharp acceleration of robot installations in
China during the pandemic (arguably boosted by the pandemic itself), and this trend
will likely persist as capabilities improve with technological advances, such as in
sensors, artificial intelligence, digitally-networked production lines, and China’s rapid
5G adoption rates that facilitate Industry 4.0. This will likely be a boon to major
industrial robot producers, largely concentrated in Japan, Germany, Switzerland,
and the U.S.33
Figure 66. Rising Robot Installations and Robot Density in China Have
Important Implications for Those Supplying This Technology…
(‘000 units)

Installed Industrial Robots in China

Figure 67. …In which Japan Is the Dominant Supplier by a Long Way

(Units)
300

180
246
150

Units Installed (LHS)

120

Robots per 10k Employees

Germany
22%

250
187

200

Swiss (ABB)
6%

140
90

150
97

100

68
25

Japan
61%

China (Midea)
8%
U.S.
3%

0
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020

Source: International Federation of Robotics, Citi GPS

Source: Yahoo Finance, Citi GPS

China’s entry into the top ranking robotic companies in recent years was made
possible by the hostile takeover of Germany’s Kuka by Chinese appliance giant Midea in
2016, but we expect greater regulatory scrutiny from these type of deals in the future.

October 2022

Citi GPS: Global Perspectives & Solutions

In addition, other economies can benefit as labor-intensive manufacturing
increasingly finds locations other than China. Beyond rising wage costs over the
last decade, a regulatory push to strengthen worker protection as well as to
decarbonize industries could lead to eroding cost competitiveness in China that will
hurt low-margin and low value-added businesses. Up until 2020, China has been
progressively losing export market share in clothing/apparel to others, though this
reversed sharply in 2020-21 (Figure 68), likely distorted by strong demand of
personal protective equipment (PPE) categories of garments as well as COVID-19induced production disruptions in major garment exporters like Bangladesh and
Vietnam. We expect these forces will eventually abate and reverse assuming China
is able to depart from its zero-COVID approach and refocus its policies towards
boosting household income. A broader look at labor-intensive manufacturing exports
suggests that if China were to shift away from these industries towards higher
value-added ones, the country would indirectly provide opportunities for some lower
income South and Southeast Asian economies (e.g., Cambodia, Vietnam,
Bangladesh, Myanmar, and Sri Lanka) and other emerging markets (e.g.,
Nicaragua, Tunisia, Slovakia, the Czech Republic, Portugal, and Estonia). In
general, economies more likely to benefit from supply chain shifts as China’s cost
base rises will be those with higher degrees of export similarity (based on similar
net export values in the same industries) with China, as they would already have
existing supply chains in place (Figure 69). Among major emerging market
economies, the most likely biggest beneficiaries could be: Vietnam, India, Malaysia,
Thailand, and Indonesia in Asia; Turkey and Poland in Eastern Europe; and Mexico
in the Americas.
Figure 68. China’s Share of Clothing Exports Came Off Over the Years,
Despite a PPE-Related Rebound in 2020…
(%)

(%)

Market Share of Global Clothing Exports

0
2003

2006

CN (LHS)
Other ASEAN (RHS)
PK+LK (RHS)

2009

2012
EU28 (LHS)
TR+EG (RHS)

2015

2018

Figure 69. …and Vietnam Is Probably the Country Best Placed to Gain
From This

2002
2004
2006
2010
2013
2015
2018
2021

VN
22
34
31
30
46
47
47
45

TR
28
38
38
41
44
43
42
44

IT
35
34
35
32
44
42
42
41

PL
9
23
24
23
30
30
34
39

IN
31
41
41
34
40
36
32
34

TW TH
49 48
43 55
36 47
33 42
33 38
32 32
31 30
30 28

MX
33
36
27
28
25
27
26
28

ID
50
54
51
34
32
33
26
28

MY
41
50
48
38
36
35
31
27

HU
38
36
36
33
29
25
27
26

GE
17
14
17
17
19
19
21
23

JP
16
13
17
17
17
18
18
20

PK
20
28
26
26
27
22
20
19

PH
23
39
40
32
30
26
21
19

KR
44
32
31
29
32
32
21
17

LK
26
23
21
20
16
17
15
12

BR
18
16
16
14
11
15
11
11

SG
24
29
30
15
14
21
16
9

2021

BD+VN (RHS)
IN (RHS)

BD = Bangladesh, CN = China, EG = Egypt, IN = India, PK = Pakistan, LK = Sri
Lanka, TR = Turkey, VN = Vietnam
Source: UN Comtrade, Citi GPS

Note: We use a modified export similarity index based on economies that have
similarly positive net export values with China in the same industry, based on threedigit level breakdown of SITC code 7 & 8 as well as two-digit level breakdown of SITC
code 6. KR, TH, VN & SG using 2020 data
Source: UN Comtrade, Citi GPS

We think shifting supply chains are already altering the nature of Chinese
ODI. East Asia and Europe have seen a larger amount of Chinese ODI in recent
years, and much of that increase has been in the manufacturing sector, as Chinese
companies themselves start diversifying their own supply chains. To service the
rapid growing Asian demand (including from China), supply chain relocation may be
skewed towards ASEAN neighbors not only due to proximity but also to harness
regional trade agreements, most recently the simplification of rules of origin under
the Regional Comprehensive Economic Partnership (RCEP).

Citi GPS: Global Perspectives & Solutions

October 2022

Yet China will continue to pursue industrial upgrading that requires more
investment in intangible capital, like IT and software services. For these
reasons, the share of China’s ODI in this sector has increased in more developed
regions (like the EU and U.S.) in recent years, though geopolitical rivalry with the
West — including the indefinite delay of the EU-China Comprehensive Agreement
on Investment (CAI) and curbs on technology transfers — highlights the challenges
to China’s strategy of technology transfer through acquisitions. Thus, we think
China’s innovation strategy is shifting: Instead of piggy-backing on foreign
companies, and dangling market access for technology transfers, China now wants
to focus on self-reliance and a “new whole nation system” to mobilize resources for
innovation and achieve breakthroughs in core technologies.34
Figure 70. China’s Outward-Bound Foreign Direct Investment Has
Increasingly Shifted Towards Manufacturing Activity…

Figure 71. …While Inflows of FDI Are Focused on High-Tech
Manufacturing and Services
($bn)

Composition of China’s ODI by Major Sectors

Utilized FDI in China in Manufacturing and Services

125%

120

75%

100%

100

60%

75%

45%

50%

25%

30%

0%
-25%
2010

2020

2010

ASEAN

2020
EU

2010

2020
U.S.

2010

2020
AU

15%

20
0

0%
2015 2016 2017 2018 2019 2015 2016 2017 2018 2019
Manufacturing

Manufacturing

Mining

Utilities/Construct’n/RealEst

Wholesale/Retail

IT/Software/Science Research

Others

Source: CEIC, Citi GPS

High-Tech (LHS)

Other Sectors (LHS)

Services
% of High Tech to Total (RHS)

Source: Ministry of Commerce, Citi GPS

We still think China will welcome FDI, as it views multinationals having an
important role in promoting China’s high-tech industry. This is illustrated in
Figure 71 and as described in a report by the think tank under the Ministry of
Commerce.35 China will likely continue to provide policy support and incentives for
multinational corporations to pursue R&D and scientific and technological innovation
in China (e.g., Tesla setting up a technology innovation center in Beijing). Chinese
experts also cited value for multinational corporations in the services sector, for
example, in improving China’s distribution network, and in developing new and
marketable high quality products. They see this as helping upgrade domestic
demand, something we have seen in the automobile sector.

Citi Research, China’s Race to the New Tech Frontier: Innovation to Create
Investment Opportunities, June 15, 2021.
35 China Academy of International Trade and Economic Cooperation, Multinationals in
China: New Opportunities Arising From a New Paradigm, July 2021.

October 2022

Citi GPS: Global Perspectives & Solutions

For now, the track record of China’s industrial upgrading, in terms of rising
skill intensity and rising domestic value added of China’s exports, is
undeniable. This is clear from Figure 72. Other noteworthy inroads China has
made and even surpassed developed economies in are AI, telecommunications
technology (i.e., 5G), in EV battery supply chains, wind and solar power, and highspeed rail infrastructure. China will continue to be supportive of strategic industries
relating to new emerging technologies like AI, quantum computing, Internet of
Things applications, life sciences, and agricultural biological breeding, and while
authorities have de-emphasized this publicly, the 10 major industries outlined in the
Made in China 2025 program seven years ago are still relevant areas of focus.36
We assess economies that are vulnerable to competitive challenges from
China by looking at who is the largest source of Chinese imports of goods in
the critical industries outlined in Made in China 2025. The results are illustrated
in Figure 73. We find that if China succeeds in boosting domestic market share, this
could pose challenges to Germany and Japan (in vehicles, machine tools, and
robotics), South Korea and Taiwan (especially in semiconductors and other
computer equipment), and to the U.S. (in agriculture machinery, aerospace, EVs,
and biotech). China’s attempts to develop its own indigenous semiconductor
industry will be of particular focus given the industry’s importance in modern
electronic machineries and due to China’s lingering technology gaps and
vulnerabilities revealed from the export controls imposed during the U.S.-China
trade tensions as well as ongoing pandemic-exacerbated chip shortages.

70
1995

2000

2005

Share of High Skilled Exports

2010

2015

2020

Share of Domestic Value Added

Source: UNCTAD, OECD, Citi GPS

Source: UN Comtrade, Citi GPS

Citi Research, China’s Race to the New Tech Frontier: Innovation to Create
Investment Opportunities, June 15, 2021.

Shipbuilding

Railway Equip.

Biotech

Communication

Power Equip.

NEVs

Agricultural
Mach.

Medical Devices

(% of Total) China’s Dual Circulation Focus Sector Imports by Country
100
TW
KR
MY
VN
JP
90
DE
IT
US
FR
MX
80
70
60
50
40
30
20
10
0

Industrial Robot

(%)

Integrated
Circuit

China Share of High Skilled Exports & Share of Domestic
Value Added to Gross Exports

Machine Tools

(%)

Figure 73. …While China’s Imports Are Increasingly Shaped by the
Needs of Dual Circulation Economics

Aerospace
Equip.

Figure 72. Chinese Exports Are Characterized by Increasing Levels of
Skill-Intensity…

Citi GPS: Global Perspectives & Solutions

October 2022

China’s higher self-sufficiency ratio in semiconductors would eventually hurt
regional chip exporters’ economic growth in the long run. In 2021, around 50%
of Asia’s chip exports were shipped to China and Hong Kong. (Most chip imports
are re-exported to the mainland from Hong Kong.) By exporters, chip exports from
South Korea (64% of its chip exports), Taiwan (62%), and Vietnam (59%) were
more dependent on import demand from China and Hong Kong in 2020 (Figure 74).
An important related point is that the GDP growth of Taiwan, South Korea,
Singapore, and Malaysia would be more sensitive to import substitution by China,
as illustrated in Figure 75. We use two proxies to estimate the chip industry’s
exposure to China in terms of GDP. First, we calculated the domestic value-added
portion of chip exports to China (i.e., percentage of GDP) using the OECD TiVA’s
domestic value added share of gross exports for the industry. The latest domestic
value added share of gross exports for the “computer, electronic and optical
products” industry was applied. Second, we calculated another proxy with the chip
industry weight of industrial production, manufacturing industry share of GDP, and
China’s share of chip exports.
Figure 74. Chip Exports From South Korea (64%), Taiwan (62%) and
Vietnam (59%) Were More Dependent on China and Hong Kong in
2020…

Destination
China+HK
Taiwan
Singapore
Vietnam
South Korea
Malaysia
U.S.
Japan
Philippines
Thailand
Netherlands
Germany
India
Brazil
Mexico
France

KR
100
64
7
3
13
0
1
3
1
3
1
0
0
1
1
0
0

TW
100
62
0
11
1
7
4
1
7
2
1
0
1
0
0
0
0

VN
100
59
7
2
0
2
1
22
2
0
0
2
0
1
0
0
0

Semiconductor Exporter
PH
JP
MY
100
100
100
43
40
38
5
20
7
13
4
21
2
6
3
3
7
4
3
6
0
8
4
8
7
0
3
0
2
1
2
5
4
4
1
2
5
2
3
0
0
0
0
0
0
1
0
1
1
0
1

Figure 75. …And We Think GDP in Taiwan, South Korea, Singapore, and
Malaysia Is Most Sensitive to China’s Imports Substitution
(%)

CN
100
38
11
4
11
12
5
1
2
1
1
2
1
2
1
1
0

SG
100
720
479
0
25
72
332
89
31
35
47
13
13
18
2
18
12

Source: UNComtrade, Citi GPS; Note: HS code 8541 and 8542 are grouped as
semiconductor. SG’s exports refer domestic export of STIC code 776

TH
100
31
6
9
5
3
5
16
9
4
0
2
4
1
0
1
0

Estimated Chip Industry Exposure to China
(% of GDP)

10
9
8
7
6
5
4
3
2
1
0
TW

Domestic Value-Added Share of Chip Exports to CN/HK (% of GDP)
Chip Industry Exposure to China using IP/GDP Mfg/Trade Data (% of GDP)

Source: UNComtrade, OECD TiVA 2018 edition, Haver, CEIC, Citi GPS

The negative impact of China’s imports substitution to the rest of the region
should be mitigated by five factors. First, the U.S.’s additional technology
sanctions could substantially moderate the speed with which China can catch up to
other chip peers in terms of both technology and volume. Second, the substantial
share of China-located chip production may still be driven in this decade by foreign
companies originating from Taiwan and South Korea. Third, the supply chain shift
out of China to the ASEAN region and Taiwan may continue. Regional chip
exporters may benefit more from chip exports to ASEAN, not China. Fourth, for both
economic and geopolitical reasons, major chip makers in Taiwan and South Korea
should build additional chip production capacity in the U.S. and Europe to meet
local demand for stable chip supply conditions due to both economic and
geopolitical reasons. Fifth, “Chip 4” — the U.S.-led chip alliance — could strengthen
overall chip supply chains amongst the U.S., Japan, South Korea, and Taiwan,
although the scope and agenda of the alliance remain uncertain.

October 2022

Citi GPS: Global Perspectives & Solutions

Chapter 8. Conclusion: Pessimistic
or Optimistic?
The two decades since China’s inclusion in the World Trade Organization
have seen its economic integration with the rest of the world benefit many
countries, as well as China itself. That is at risk now. It seems inevitable that a
more inward-looking China is one whose economic spillovers to the rest of the world
will diminish. This is particularly true for developing countries, which benefited
disproportionately from the China-led commodities boom between 2001 and 2011
and from China’s investment-led stimulus policies since then. That rather
pessimistic conclusion will be even more true to the extent that geopolitics, rather
than pure economic policy choices, drives China’s inward tilt. One should not adopt
too simplistic a view, however: China will obviously remain engaged with the world
and will continue to trade with the world. Even in a more geopolitically-charged
world China needs allies, and even the most cynical analysis would conclude that
China must maintain trade relationships in an effort to preserve those alliances. But
the level of trade and the level of engagement, particularly with countries that might
hold more hostile trade policies towards China in the future, will likely be
increasingly constrained. A more inward-looking China seems to be an irreversible
trend in policymaking now.
If maximizing growth ceases to be Chinese policymakers’ main economic
goal, then it follows that growth is unlikely to be maximized. Security
considerations are coming to the fore in shaping economic policy choices, not just in
China but in many other countries. This approach is often described as the pursuit
of “supply chain resilience.” Policymakers’ security considerations for this goal do
not always primarily involve geopolitics. In a world where transportation bottlenecks
might occur more frequently, the requirements of operational security suggest that
“just-in-time” production processes must more closely consider geography.
Regarding China, we have argued in this report that the case for expecting a more
self-reliant China is not just geopolitical, but is also partly the result of a more
explicit ideological bias in Chinese policymaking. As the state becomes a more
important actor in the economy, efficiency is likely to decline. Nicholas R. Lardy’s
book, The State Strikes Back (Peterson Institute, 2019) amply demonstrates that
the return on assets for state-owned Chinese firms is persistently inferior to that of
privately-owned firms.
Although geopolitics is likely to constrain the performance of China’s
economy as it turns inwards, the news is not all bad. China is certainly
experiencing increasing restrictions surrounding foreign firms’ ability to do business
in the country, as well as waning willingness of the world’s consumers to source
goods from China. The Uyghur Forced Labor Prevention Act, for example, and
Europe’s Corporate Sustainability Reporting Directive, both indicate that goals other
than profit and efficiency are creeping into the world’s economic relations with
China. Companies face increasing pressure regarding the transparency of their
supply chains, and operational and compliance risks could rise in China if
geopolitical tensions with the U.S. or its Western allies continue to worsen. At the
same time, the Asian region, in particular, remains clearly oriented towards trade.
China’s engagement with the Regional Comprehensive Economic Partnership is a
sign that even if the world is experiencing deglobalization, a growing regionalization
might end up being the most likely replacement for the kind of globalization that now
seems anachronistic. All in all, China faces a number of challenges in this new
world, but the country’s global relevance will only keep growing. Therefore, the
world will continue to pay attention to China despite its inward turn.

Citi Global Perspectives & Solutions (Citi GPS) is designed to help our clients
navigate the global economy’s most demanding challenges, identify future themes and
trends, and help our clients profit in a fast-changing and interconnected world. Citi GPS
accesses the best elements of our global conversation and harvests the thought
leadership of a wide range of senior professionals across the firm.
All Citi GPS reports are available on our website www.citi.com/citigps
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Reinventing Giving in
Challenging Times
October 2022

Food and Climate Change
Sustainable Foods Systems
for a Net Zero Future
July 2022

Home of the Future 2
PropTech – Towards a
Frictionless Housing Market?
June 2022

Global Supply Chains
The Complexities Multiply
June 2022

Space
The Dawn of a New Age
May 2022

Investing for Outcomes
Why Impact Is Relevant
Beyond Impact Investing
April 2022

Metaverse and Money
Decrypting the Future
March 2022

Global Art Market
Disruptions
Pushing Boundaries
March 2022

Women Entrepreneurs
Catalyzing Growth,
Innovation, and Equity
March 2022

Eliminating Poverty
The Importance of a
Multidimensional Approach
February 2022

Global Supply Chains
The Complicated Road Back
to “Normal”
December 2021

Philanthropy and the Global
Economy
Opportunities in a World of
Transition
November 2021

Education: Learning for Life
Why L&D is the Next Frontier
in Global Education
November 2021

Home of the Future
Building for Net Zero

Global Carbon Markets
Solving the Emissions Crisis
Before Time Runs Out
October 2021

Disruptive Innovations VIII
Ten More Things to Stop and
Think About
October 2021

October 2021

Holistic Digital Policy
Nation States Must Lead in
Building Equitable HumanCentric Digital Economies
October 2021

Biodiversity
The Ecosystem at the Heart of
Business
July 2021

Natural Gas
Powering Up the Energy
Transition
July 2021

Technology at Work v6.0
The Coming of the PostProduction Society
June 2021

Hard to Abate Sectors &
Emissions
The Toughest Nuts to Crack
May 2021

Future of Money
Crypto, CBDCs and 21st
Century Cash
April 2021

Systemic Risk
Systemic Solutions for an
Interconnected World
April 2021

The Global Art Market and
COVID-19
Innovating and Adapting
December 2020

Bitcoin
At the Tipping Point
March 2021

Financing a Greener Planet
Volume 1
Volume 2
February 2021

Electric Vehicle Transition

Investment Themes in 2021

February 2021

January 2021

Education: Fast Forward to
the Future

The Holistic Case for
Investment in Girls

October 2020

Closing the Racial
Inequality Gaps

Negative Interest Rates
Where Is the Real Limit to
Cheap Money?
July 2020

September 2020
ePrivacy & Data Protection
Data Privacy & its Influence
on AI Ethics, Competition &
Tech Evolution
July 2020

Technology at Work v5.0
The New Normal of Remote
Work
June 2020

5G and Mobile Operators
Is Virtual Becoming Real?
April 2020

Closing the Loop on Global
Recycling
Finding a Global Solution to
the Patchwork of Recycling
February 2020

Citi GPS: Global Perspectives & Solutions

October 2022

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October 2022

Citi GPS: Global Perspectives & Solutions

NOW / NEXT
Key Insights regarding the future of China’s Economy

INNOVATION

Innovation in China used to take a bottom-up and market-driven approach based on
its comparative advantage and international division of labor. / The tech decoupling
could serve as China’s Sputnik moment in innovation, forcing it to take a top-down
and self-reliance approach, especially in semiconductors.

INFRASTRUCTURE

China’s dependency on imported energy is rising quickly, as demand growth
constantly outpaces domestic production. / Although energy security is not an
immediate concern for China, new energy and new infrastructure will benefit from
China’s energy transition.

POLICY

The Chinese economy has relied on external demand, or ‘‘international circulation’’
as a stimulus to growth by making use of its huge surplus labor to plug the economy
into the international manufacturing process. / Dual circulation economics should
drive a refocus on the domestic economy, with security placing higher on China’s
priority list.

Tags : China China's Inward Turn Trade Dependency

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