For this episode, we spoke with Victor Shih, Professor at UC San Diego’s School of Global Policy and Strategy. Dr. Shih is a leading expert on Chinese finance, political economy, and elite politics. In our conversation, we discussed China’s vision for international economic governance and the how Washington and Beijing are approaching the trade war today.

Richard Gray

Welcome to this episode of Pacific Polarity. Today we're speaking with Dr. Victor Schur, who's a professor at UC San Diego School of Global Policy and Strategy, where he is the Director of the 21st Century China Center and the Ho Miu Lam Chair in China and Pacific Relations. He's the author of two books : Factions and Finance in China: Elite Conflict and Inflation and, secondly, Coalitions of the Weak: Elite Politics in China from Mao’s Stratagem to the Rise of Xi.

Dr. Shih is an expert on Chinese finance, political economy, and elite politics. He received his PhD from Harvard University.

Dr. Shih, pleasure speaking with you.

Victor Shih

Great to be here. Thanks for having me.

Richard Gray

To start, we want to focus on the report you wrote with the Atlantic Council in 2022, how China would like to reshape international economic institutions. And in this report, you write that China's goal is to consolidate influence in global governance institutions from more nascent structures like BRICS to more incumbent ones like the G20, APEC, and the UN. This, in your view, would require mobilizing capital from Chinese development, banks, a higher utilization of the renminbi globally, and having China play a leadership role in new governments domains like AI and others.

Since then, a lot has changed for Chinese economy, global politics, and domestically within the United States. In the years since, or from 2022 to 2025, in your view, how has Beijing's thinking changed on global economic governance? Has this view evolved due to changing global environments, internal dynamics, or a combination of both?

Victor Shih

I think it certainly has been modified, there are some minor adjustments. And more recently, of course, there's the big shock of US protectionism, which I think will change some things in a very major way. But we have yet to see totally systematic response from Beijing on the issue of global governance. Obviously, the response right now is just trade negotiations and counter tariffs, so on and so forth.

The slower moving parts is, I think Beijing is probably a little bit less optimistic about renminbi internationalization today compared to a few years ago, just because the Chinese economy has slowed quite dramatically in the wake of the COVID lockdown, in the wake of the unnecessary crackdown in the real estate sector. As a result, the People's Bank of China has had to cut interest rates very aggressively, lower reserve requirement ratios very aggressively, which heightens the risk of capital outflows, which is something that Beijing is really afraid of. As such, renminbi internationalization, which by definition requires capital outflow, is probably not something that Beijing is going to pursue aggressively. Beijing was already very cautious about it, you know, back in 2022, 2021, but today probably even more so.

In terms of Belt and Road investment, I think China's model has changed over time to focus less on infrastructure investment and more on subsidizing Chinese companies, both private sector firms and also SOEs, to invest in industrial production capacities overseas. That was already changing back in 2022. But I think it has accelerated in the wake of the first round of Trump tariffs, when a lot of Chinese companies voluntarily started to produce overseas in order to avoid the tariff. And obviously, with the latest round of tariff, Chinese companies are going to be really incentivized to set up production overseas.

Although, no one can hide from U.S. protectionism, because now we have 10% tariff on every country on earth. But the danger, I think that the big power play that we potentially could see in the near future is a new global trading regime that is centered around China because of U.S. protectionism. and we can sort of talk about what that looks like.

Jersey Lee

Fundamentally, do you think that the U.S. and the West more broadly is able to compete with China through industrial policies or is implementing industrial policies something for which a system like China has natural advantages?

Victor Shih

China certainly has a lot of advantages when it comes to industrial policies. The primary advantage is that it controls the financial system. The government controls the financial system. That's made possible by capital control and state ownership of the banks. And as such, they control the flow of financing pretty much 100%. There is some kind of private sector capital flows in China, but as a ratio is quite low. So that's the biggest advantage.

But the way that China allocates money is not very efficient. It's a lot more efficient in the US and outside of China in the capitalist countries, both in Asia and in Europe and other parts of the world. But the problem is that, because of protectionist policies of the US, it is now impossible for advanced capitalist countries, including Europe, Japan, Korea, and the United States to act in concert in any kind of sort of industrial or trade policies, certainly in trade policies, because according to the administration right now, once all the trade deals are signed and sealed, then no problem; I just don't think, I mean, I think so much ill will has been created that these other countries, even if they sign a trade deal with the US, there will still be a baseline 10% tariff, which is already like 10 times more than the tariff rates previously, because we had lived in this tariff free world, which some people find problematic.

But still, a lot of ill will has been created. And so, whatever kind of coordinated industrial or competitive policies we will try to pursue with the other countries, because we live in a world of quid pro quo created by the current administration, our partners, our counterparties will ask for something in return back from us. Then everything becomes this very protracted negotiations item by item, policy by policy, even product by product.

If you look at the trade deal with the United Kingdom that was that was revealed today, it's ridiculous. It's like planned economies, where the first hundred thousand cars has [10%] tariff. It's just insane, this is like the 1930s or whatever.

In this world filled with trade friction, because in essence, that is what Donald Trump and his advisors would like to see, it will be incredibly costly to coordinate with other countries to pursue any kind of policies.

Richard Gray

Looking at some of the US responses to some of these shifts, particularly as we think about the rise of China and what that means for the macro global economy, there have been two efforts that have been brought forwards.

One is one of the things that you mentioned in your report, the blockages of mid or senior Chinese leadership in places like the Bretton Woods institutions. The second is a shift away from multilateral trade to plurilateral institutions; it's a transition away from things like the WTO to the Trans-Pacific Partnership, now we're going from plurilateral to bilateral, and in some cases just insulating within the United States. It's sort of siphoning of trade from multilateral to all of these different phases, in combination with blocking China out of, at least previously, the multilateral institutions.

How do you see those two things in combination with each other? As you think about China potentially blocking out the United States from the global economy, or rather the flip of this, other economies reorienting themselves into Chinese supply chains, into Chinese investments, the role that the U.S. plays here on an institutional level, on a trade level, it seems to be quite diminishing, in some ways intentionally, but in some ways maybe not so much.

Victor Shih

The IMF should be kind of okay for a while, unless the U.S. goes ahead and does this crazy thing of withdrawing all additional help, financial subsidies to the IMF. Then we're just voluntarily withdrawing from that institution. But short of that, again, because of the limited scope of renminbi internationalization, institutions like the IMF and the Asian Development Bank will still primarily deal in U.S. dollars. Basically, money from Europe, from the United States, from Japan will still be crucial to these financial type institutions. And so I think the U.S. can continue to have a large say in these institutions.

But there’s for example the UN. Of course, we can debate about the efficacy of the UN when it comes to different types of issues. The US is sort of voluntarily withdrawing, by reducing funding and China stepping up at the same time; for things like the WHO and the UN, China's voice is going to be louder. For the WHO, it's basically okay. You do have this anomaly like, oh, the WHO is going to side with China when it comes to investigating about the origin of COVID and stuff like that. But for continuing global health efforts, what really matters is the continual flow of money instead of specific direction, just because there are so many health issues that are widely recognized to be necessary to address.

The AIIB, I think it's not in a very active period right now, just because initially there was this huge round of funding of various projects. The problem is the record has been a bit mixed, and in a world of higher interest rates, a lot of developing countries that borrowed not just from the AIIB, but also from other international financial institutions, are finding themselves incapable of repaying. Some of these countries like Argentina now needs big bailouts from the IMF, et cetera. So China is not going to expand too much in that either.

What's interesting about trade is that trade-related institutions, and I can see perhaps that the Belt and Road Initiative, which is currently just a conference, can turn into a more formal trade regime of some sort. The problem for all the countries that trade with China is that many of them are running trade deficits with China. And the reason is because China is so good at making so many different things. So either Chinese companies will have to relocate production massively to Belt and Road countries, some of which is of course happening, but it's not happening enough such that countries are beginning to run trade surpluses vis-a-vis China. That, as far as I know, is still relatively rare. There could be one or two exceptions. I'm not entirely sure.

Until that happens on a bigger scale, you have this conundrum where it's fine that China can export all this stuff to these countries. But then countries like Sri Lanka and Pakistan run into these big trade deficits, big budgetary deficits, and they go bankrupt. They can't repay. When they can't repay, the bailout comes from these U.S. and Europe-dominated financial institutions like the IMF and Asian Development Bank. So you still need the Westerners to come in to bail out. But I can see if the Chinese leadership in the medium term, they have a longer time horizon, they should encourage Chinese companies to massively invest production in these third-party developing countries such that it's sort of okay for China to run trade deficits with these countries. If we move toward that kind of world, then I can see China being the center of a trade network, which has very little to do with the United States.

What China can do is, in a sense, what Japan has done, but on a much larger scale, which is China can sell the high-tech stuff to these developing countries, but overallChina still runs like a small trade deficit with these other countries as it imports all the labor-intensive goods, like shoes and clothing and furniture, et cetera, from these other countries. That would be a very self-sustaining and beneficial global trading order for China. And it would be quite bad for the United States, because essentially that trading system can completely cut off the U.S., and [China] will do basically fine; it may not have the fastest smartphones or whatever, but it will basically have everything else.

Richard Gray

As an extension of this, as we think about some of this coalition building, of different supply chain integrations, one of the really interesting questions is to follow the Indonesia ascension into BRICS, and sort of juxtapose that with their attempt to join the OECD. This is demonstrative of the different ways in which the US and China have viewed some of this institution building.

On the Chinese side, it's very low barrier to entry, very quick motion, and then deal with whatever problems or deliverables you want to have on the back end. Whereas on the US side, it seems to focus very much on the front-end entry requirements. Once different countries join, then there's a slow ascension.

How do you think about that play, especially when it comes to elite politics in different countries where, say if you're the Cambodians, your focus in some ways isn't necessarily to get the deliverable project, even though that's something you probably do care about, but also to have the domestic clout of saying that you are a member, not a participant or an observer or a guest, but a full-fledged member of an institution that these perceived other large countries are part of. And so, is there an asymmetry in how the United States is approaching some of these coalition buildings and what elite politicians actually care about?

Victor Shih

Yeah, there's definitely very different styles. I'm by no means the biggest expert in international institutions. But my observation is that the Western originated institutions, they were basically formed by a bunch of lawyers. And lawyers, of course, they're very obsessed with drawing up documents that will think of differentcontingencies in the future and have the ability to deal with different contingencies in the future. The barriers to entry is quite high because countries that want to join these institutions will have to be comfortable with sometimes a thousand page long documents, which mentions a whole long list of contingencies, and will constrain countries’ ability to act in these different scenarios. But of course, once you join, thenyou will get all these benefits and so on and so forth.

Whereas for China, I think it comes back to the fact that China increasingly is amanufacturing powerhouse, but it's increasingly also a technology powerhouse so that, as long as China knows that it has a way of introducing pain to countries that act against their interests in the future, they're okay with having very low barriers and say, just come in, join the club, no problem. But if you do act against China, we will punish you in some sense. And the punishment can be, as we've seen with a lot of different countries, not buying raw material and agricultural export from certain countries anymore.

Australia, of course, has been punished several times by China in that manner. It could be not allowing Chinese companies to invest in these countries; increasingly as Chinese technology companies run the telecom and IT infrastructure of some of these countries, the Chinese government can even go as far as just shutting down all telephone service, all internet service from countries. And I think for China, as long as it has that ability to impose pain, why should they drop a thousand-page long document and have people sign on a piece of paper? That's just not necessary from the perspective of the Chinese government.

Jersey Lee

A quick follow up on that. Part of Trump's approach is to the American leverage, in this case the American consumer, to get concessions from other countries. What you just described is how China has traditionally been able to play this game of perhaps more subtle leveraging of its investments or its various capabilities. So generally, how do you view the way Trump and China are playing the politics of using their leverages?

Victor Shih

The import restrictions, which China tried to do, it didn't really work well for China either. You have this funny phenomenon where China is like, I will not buy any more Australian lobsters. And then suddenly Australian lobster export to Hong Kong goes up 500% or something like that. You had these people who would rent these speed boats to smuggle lobsters into mainland China from Hong Kong. For commodities, it doesn't work. Just like today, even though China has imposed these very high tariffs…so soybean tariff rates came down a little bit, it's no longer 125%, but it's still quite a bit higher than previously. What I hear from my channel check is that basically American soybeans are still being sold to Asia, just not China. It's all going to Singapore, Vietnam. And guess what? In Singapore and Vietnam, these clever people are mixing up the soybeans from different countries and shipping it to China and calling it whatever country of origin. Stuff like that will ultimately defeat this kind of stuff.

I think a more powerful tool of the Chinese government is cutting off loans, cutting off investment. And to the extent that Huawei and other Chinese IT companies have installed critical infrastructure in these countries, just shutting down telephone service, internet service, those are real tools that are very difficult for countries to circumvent. I think China increasingly has the ability to impose that kind of pain on more and more countries.

Richard Gray

We're recording this on May 8th, two days before Bessent and Greer are going to be meeting with Chinese Vice Premier He Lifeng in Switzerland. In thinking about this, I guess there are two pieces of this that are somewhat interesting.

The first is the negotiations themselves. There's been a lot of talk about the asymmetry between Washington and Beijing, that Trump wants to do things top down, whereas in Beijing, it's more consensus based, doing it within the bureaucracy and then going from the bottom up; as Trump and Xi would eventually meet, it’s with a deliverable already produced.

The second end of this is just the mechanisms of what concessions might be produced. It seems like the idea of what the off ramp would be is kind of unclear. It seems like the Chinese probably want to remove some of these export controls,especially the AI Diffusion Act. It seems like the Trump administration probably won't do that. It seems like one of the things that the Chinese could do that's very easy is to just buy more American products, which would be pretty painless for them, but not exactly what the Trump administration is looking for. I guess in terms of the physical deliverables, these are very small concessions that would be put forward in a way that mirrors the situation that you mentioned, between the US-UK trade relationship, but stacked on top of it, like bureaucratic difference and politicization of the relationship. I guess as you think about these factors compounding on top of each other, what are they going to talk about? Will any of it be successful? And is this just the start of nothing, or how do you view it?

Victor Shih

First of all, I don't know what the U.S. government is thinking, but my observation is that they don't have a completely clear idea of exactly what it is that they want to get out of it. Of course, in a very abstract sense, Peter Navarro and people like that are like, oh, we want to restore America as it was in 1950s. That just will never happen for a number of reasons. Even if China were to stop exporting to the U.S, basically these tariffs will make that a reality, it still isn't going to make the U.S. as it was in 1950s, mainly because people don't want to work in factories anymore. So then it's like, what is it that you want from China?

There's a vague sense of creating a more even playing field. One concrete thing that Ithink the US government should ask for, but I don't know if it is indeed on the radar screen, is that China right now has this very complicated regime of export tax rebates to industrial firms, and the net result is that industrial firms pay extremely low taxes.Their taxes paid relative to their sales is something like 3%. They're basically paying 3% tax on all the trillions of dollars of stuff that they make.

One thing that would be good for the Chinese government in the medium term—of course, the Chinese government doesn't think of it as a good thing, but I think in a medium term, it is a good thing because there's this big debt problem in China—is for them to eliminate a lot of these tax subsidies over time. And to the extent that the U.S.can track what these tax subsidies are, the U.S. should demand a timetable for the removal of export tax rebates. That is still going to end with a trade deficit on the part of the U.S. vis-a-vis China, but it's quite possible that the degree of trade deficit will be shrunken, this uneven playing field is largely eliminated.

Of course, China will never agree to a complete elimination of these export tax subsidies. For the strategic sectors, they will continue to get some kind of subsidies. But China has already shown that it is willing to remove tax subsidies from some sectors, like the highly polluting sectors. All we have to do is ask for them to, according to a relatively shorter timetable, remove the rest of the tax subsidies. That will generate more tax receipts for China, which will make its fiscal situation more sustainable. And it could potentially make the playing field a little bit more even for the U.S.

But if the US side asks China to buy a trillion dollars’ worth of US Treasury with 0% yield, that just will never work. The Chinese government will never, ever agree to that. And as you said, if what we ask is like, oh, you have to buy $100 billion worth of US oil and gas, China will agree to that easily. But that's not going to have any kind of long-term impact at all. We'll still at the end of the purchasing, will still run these huge trade deficits vis-a-vis China and other Asian countries. So I hope the process is a little bit more deliberate and more predictable so that China can consider these proposals and consider whether or not they will agree to them.

Jersey Lee

So this kind of gets into China's calculus for its approach towards what America is trying to do. Because obviously, we can kind of all see how Trump's thinking took place throughout his campaign and going back a few years. And the Trump administration's initial calculus, and what you can say was a miscalculation, was that they expected the Chinese to just roll over, because apparently the U.S. has huge leverage as the world's biggest consumer market. But the Chinese didn't, to the surprise of some in the current administration.

Lots of Western media reporting has generally said that China is not going to roll over, but hasn't gone into it too much. Based on your insights into Chinese domestic politics, what do you think pushed the Chinese leadership to adapt this kind of approach of standing up to America? Do you see the politics of this changing soon and what might cause it? We were talking about Scott Bessent and He Lifeng meeting very soon. From the Chinese side, what are the politics that might lead to them making some concessions and what type of concessions down the road?

Victor Shih

First of all, China was quite prepared for this in the first place. I know that after the first round of tariffs in 2018, China already studied very carefully the implications of nightmare scenarios, which actually came true, of extremely high tariff levels from the U.S., how that would impact the supply chains, and they identify these various bottlenecks, what they call 卡脖子, bottleneck product that China has to buy from the West, and that the U.S. can impose export restrictions on. And the Chinese government systematically tried to overcome these bottlenecks.

We know that they're not successful in all cases. In the case of semiconductor, is Chinese government is maybe 30% successful, 70% not that successful. But in a lot of other technologies and parts and so on and so forth, China has been very successful in having domestic produced parts, replacing Western parts and equipment.

The other thing the Chinese government tried to do was to encourage Chinese companies to invest overseas, to evade the tariffs. I think the US, especially people like Peter Navarro, probably anticipated it, and therefore there's this global universal tariff rates on everybody. But one thing I think people don't realize, the reason why China is standing so firm, is that because of the tax rebates and the tax subsidies, the Chinese government does not depend on industrial firms' taxes to survive. The Chinese government collects a lot of taxes, but mainly from individuals, from service sector firms like real estate, like restaurants and so on and so forth. They don't collect a lot of taxes from industrial firms, so even if 10,000 companies go bankrupt, it's not going to be a big hit on Chinese tax revenue. They'll still collect the same amount of taxes as they did before.

The other factor is that unemployment insurance payment in China is extremely low, something like $200 a month per worker; even if you have 5 million people unemployed, it's a few billion renminbi, it's not a big deal for the Chinese budget. And they actually anticipated it to a large extent, by announcing even before Liberation Day that deficit spending this year is gonna be 2% as a share of GDP, higher than last year. So the fiscal impact, basically China's signaling that, well, we can just not do anything, not make any concessions for months. Let's see how you deal with it.

And the thing that China really want—again, the US first has to make clear what it wants before China can think about what concessions it is willing to make—I think things like relaxing some of this technology restrictions against China on AI chips and other things will facilitate the process. But what we ask for also has to be reasonable and clearly articulated. If we don't even know what we want, or it’s something that’s just silly and impossible, like buying a trillion dollars’ worth of 0% bonds, that just will never work.

But if we want some kind of timetable for the systematic removal of export tax subsidies, I think that's something that's very transparent. China, of course, will not agree immediately. There will still be a very prolonged process of negotiation. But at least we have a path toward some kind of resolution.

I just don't know how much of a plan the US has, but I can tell you that China has thought about a lot of different kinds of contingencies. It probably already has multiple counter proposals, depending on what the US is asking from China. It seems that the Chinese side is much, much more prepared at this point.

Richard Gray

How do you think about the role of household spending here? Obviously, China, relative to OECD countries, has a pretty low share of household spending as a proportion of GDP. They've recognized this as a sort of long-term goal. The two sessions, there was a fiscal expansion. Some argued that it wasn't enough.

Others would say it was a starting point of a larger program. One of the reasons why China does have these trade deficits is because of that low household spending. Of course, there'll be a deficit if people aren't spending money and they're just manufacturing. How do you think about the political reality of a fiscal expansion, both in terms of Chinese balancing books, but also the politics in terms of potentially being an olive branch to the United States, which is not just buying more products from the top down, but building up that consumer confidence from the bottom up and whether or not that's even possible?

Victor Shih

There's a couple of policies that will, in the short-term, boost household consumption. There are subsidies where, if you have an old TV, and you want to buy a new TV, there's some subsidies for that. But I think that is very short-term policies. Because of the anticipated extra fiscal spending from the trade shock, the Chinese government is very conservative in terms of expanding welfare provision this year; if you look at the budget proposal for this year, anti-poverty spending has increased by two dollars per person per year, something like that; it's like, oh wow, that's great, that's really going to boost consumption, two bucks more. But that's because the Chinese government is digging in to prepare for a potentially prolonged trade conflict with the US.

In general, I think you're right, the Chinese government has a very production-oriented way of thinking, it's constantly thinking about how do we make Chinese products more competitive, in terms of technology, in terms of features, but also in terms of costs. But to keep costs down, you do have to have what sociologists call a labor repressive regime, which is you do everything you can to prevent wages from rising too fast. At the same time, you don't spend too much money on social welfare, because that is just going to encourage people to exit the job market, thereby raising wages. I don't think these fundamental policy orientations have changed. As a result, I'm not so optimistic about boosting domestic consumption in the near future.

Jersey Lee

Looking beyond the current trade war, from the Chinese elite standpoint, there are two clear major milestones or points of risk. Number one, there's the question of Taiwan. And number two, this may be before or after that, there's a question of leadership succession. So how do you see these issues developing in the context of Chinese domestic politics?

Victor Shih

Oh, God, if only I knew. Taiwan, I don't know, I'm not an expert. I think China is waiting for some certainty about what the U.S. would do. If it were to invade, if they can be very sure that the U.S. is not going to intervene, then there's some incentive to go for it. And by the way, I would say that the trade war doesn't help, because one of the big costs for China of invading Taiwan is that the U.S. would impose trade sanctions on China. But the tariff rates that we see today is a de facto trade sanction. So that part of the cost is already manifested. So China doesn't have to, in a sense, worry about that cost anymore because it has happened. That actually on the margin heightens China's incentives for invading Taiwan. And it's really not that helpful.

On the succession, I don't think it's going to be in the near horizon. I mean, Xi Jinping is pretty healthy. He clearly wants to be the ruler of China for life. There's going to be a 15 to 20 year long process potentially, but of course, as he gets older, his ability to make decisions, because he's a human being just like everyone else, is going to deteriorate. What Chairman Mao did, this is of course the subject of my book,Coalitions of the Weak, was to appoint people who politically so weak or compromised, that they can't possibly challenge his power. I do see signs that Xi Jinping is increasingly pursuing that. And even some signs that he might be relying more on family members, like bringing his daughter to Vietnam with him in a recent state visit. So we'll see how that plays out, but I think increasingly he will need to pursue some kind of strategy to make sure that no one tries to usurp his power as he gets older and as his health is not as good as it is today.

Richard Gray

Well, thank you so much, Dr. Shih. It's been lovely speaking with you, and thanks for your time.

Victor Shih

Great talking to you guys.

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