Inside China’s Economic Reset: Tariffs, Stimulus and AI

Today we would like to cover with you a few emerging market related topics. So we'll touch on the evolving trade landscape, which is obviously very current and quite fluid. We'll also talk about what this means for China, touch on some of the recent innovations related to AI, which are structural in nature, and then also what this means for the broader EM context.

Tariffs and Trade Relations with the US

So starting with the trade developments, Q1 this year was actually quite positive for emerging markets, where we saw emerging market equities outperform their developed market peers and even the US markets. But then very quickly, early in Q2, we saw the US announcing its reciprocal tariff framework. And that obviously announced significant tariffs on many emerging market countries, including Vietnam, China, and others as well, and it included also Europe. Obviously, since then, we've seen a pause in the implementation of those tariffs, with the exception of China. China also retaliated or responded by announcing reciprocal tariffs on US goods, and we've seen an escalation in rhetoric between the two countries. Now, obviously, this has been shaking markets, and we're seeing a fluid situation, but we want to touch on the context and what it means.

So compared to the first round of tariffs when the US, when the Trump administration came to power years ago, I would say that this time around Chinese companies were more prepared for the tariffs and China in general had spent the last few years diversifying away relatively speaking from the US. So, the overall US exports represent about 2.5% of Chinese GDP. Obviously, that's not insignificant, but it's also relatively contained compared to the historical levels that we've seen. The good news is it means that China can somewhat offset the impact of that, but it also means that there's no immediate urgency for China to come necessarily to the table and accept any deal terms. So we might be looking at a bumpy ride ahead.

But at the same time, what we think is this accelerates basically shifts that were structural in nature and already taking place even before these announcements. And that basically focuses on China really shifting its attention inwards and trying to focus its growth efforts on domestic consumption, private sector internally within China, stabilizing the economy and the real estate sector, and then also empowering the private sector and the technology innovation to basically achieve its growth targets.

And we had seen this policy pivot emerge late September of last year when China started announcing targeted but significant stimulus plans focusing on different areas of the domestic economy. Now we think with external pressure coming from the US on exports, and what that means in terms of external shock, China really has to accelerate the efforts to stimulate domestically. And so to the extent that we can focus on companies that stand to benefit from the domestic consumption recovery potential and the growth internally, we think there are some good opportunities there at pretty attractive valuations at the moment.

AI Innovations and Structural Changes in China

Another thing to touch on is basically the AI and tech innovation. Now we've seen already since the beginning of the year the announcement of an AI technology breakthrough with the DeepSeek moment as they call it, which basically has proven that China has been innovating on AI and has actually been able to achieve quite positive levels of large language models with a more efficient usage of power and technology.

So that really was a defining moment for China in the sense that now we see a phase of accelerated AI adoption and also companies that have unique user databases and a lot of data that helps them monetize AI application going forward will be beneficiaries. So that is structural in nature and it's quite positive for China and honestly, also positive potentially for emerging markets as the cost of adopting and rolling out AI becomes cheaper and more accessible.

So that in and of itself has also led the government to embrace the technology sector domestically, develop the ecosystem, and also present a more friendly approach to tech entrepreneurs in China to try and restore confidence and encourage innovation within the business and private sector in the country.

Selective EM Opportunities Amid Volatility

So overall, we do see an evolving situation with the trade tensions, and it's something that we're monitoring very closely. But at the same time, we think with stimulus efforts in China, the ability to basically ease on the monetary side and offer more fiscal stimulus and a more friendly approach towards the private sector and an entrepreneurial scene within the country, they can, somewhat, offset the negative impact of the tariffs.

And generally speaking across EM while we have seen multiple countries like India and countries in Europe as also being mentioned as basically targets of tariffs, even if they're now on pause, we think a place like India is a structural growth story that's very domestically oriented and now we can find opportunities there at better valuations.

And in the case of Europe, we are starting to see the EU coming together more forcefully and starting to coordinate fiscal expansion. So that in and of itself also offers longer term opportunities in the region.

And the Middle East, I was just there and we see a lot of opportunities there as well selectively. So in general, the way we think about emerging markets and our positioning there is to really continue to selectively focus on quality businesses that benefit from domestic growth and that are now being offered at more attractive valuations. So continue to monitor risks but at the same time selectively finding opportunities that we're excited about beyond the near-term volatility.