Yves here. I’ve been in touch with individuals who possess in-depth knowledge about China. Recently, I circulated an article from Asia Times titled “China’s 25-year tax reach will cost it more than it collects.” This initiative appears to be fundamentally misguided, especially the aspect concerning the 25-year timeframe, giving it an air of desperation. Here’s an excerpt from the article:
China is now pursuing decades-old unpaid taxes on wealth that its richest citizens moved abroad, with investigations stretching back as far as 25 years. This situation can best be described as a government deciding, post-factum, that wealth it previously allowed to exit the country is now fair game for recovery.
To be clear, taxing global income is not an unusual policy; the United States has been taxing its citizens’ worldwide earnings for over a century, and European nations have recently tightened similar regulations.
By closing an offshore-trust loophole that allowed public-market gains to escape income tax, China is aligning itself more closely with standard practices seen in major economies. Crediting Beijing for this shift is warranted.
However, the prospect of excavating tax liabilities from 25 years ago raises concerns. Such excavations often lack the consistent and transparent standards necessary to maintain public trust in the tax system.
Wealthy families are now pressured to settle gains stemming from timeframes chosen with little public rationale, while their accounts in China remain frozen until payment is made. This reflects a government taking a retroactive approach to address its financial needs by targeting those who still hold significant wealth.
In times like these, what affluent families dread is not so much the tax rates themselves. Rates can be negotiated and planned for well in advance. The true risk lies in a government exercising the authority to alter terms retroactively, which drives the instinct to exit rather than negotiate.
In my discussions, I posed a question to my contacts: “This action hints at a crisis within China, despite what the article states. After all, no one would have declared the U.S. to be in crisis in late 2007 either.”
Responses came through via email:
I hesitate to label the situation in China as a potential crisis because the government wields considerable control.
Nevertheless, there is undoubtedly something significant underway—numerous financial commentators in China are speaking out more openly than ever before. This trend could either suggest an impending policy shift or indicate that genuine panic is beginning to surface.
It’s well-known that the banking system is experiencing a shortage of dollars and is largely retreating from foreign investments. The Belt and Road Initiative has stalled at a moment when one might expect China to capitalize on perceived weaknesses in the U.S. (Brad Setser holds a different view; however, the intricacies of that debate fall outside my expertise. Still, it seems state banks may continue to lend outside China.) Many Chinese citizens abroad actively avoid Chinese banks for valid reasons.
The real challenge emerges at the provincial level. Local governments are now resorting to borrowing merely to cover interest payments—they are scraping the bottom of the barrel and are increasingly reliant on Beijing for financial rescue. Most investment decisions in China are made at this level, rather than dictated by Beijing. Insiders have begun to openly call for bailouts from the central government.
The domestic economy is facing significant challenges—truly severe challenges. Even economists closely tied to the government no longer pretend otherwise. Sometimes, I suspect the only individuals who believe China is thriving economically are Americans and certain Western commentators. While there has been remarkable growth in the tech sector and in exports, it falls far short of alleviating the burgeoning domestic financial crisis (as Pettis has often highlighted, Japan faced a major collapse despite its flourishing economy). Optimists estimate the property debt crisis sits in the trillions of dollars, not accounting for the liabilities incurred through extensive overinvestment.
What often gets overlooked is that for every successful Chinese corporation, there are countless others struggling under a heavy burden of debt and misallocation of resources. In the sector I monitor closely—energy policy—China has heavily invested in top-tier renewables, nuclear systems, and advanced coal plants, yet it is currently wasting more energy than what Germany consumes, purely due to grid mismatches (a problem that has long been recognized). Many facilities stand idle as a result of excessive overinvestment. However, instead of shutting down unproductive plants, the existing facilities are kept running due to local political considerations.
I cannot discount the possibility that a crisis could arise if Xi refuses, on ideological grounds, to support local governments. Contrary to popular belief, local officials are not directly accountable to Beijing; they often view themselves as equals to the central government, perceiving the Politburo as somewhat beholden to them. In some respects, the governance model in China is more reminiscent of the EU than that of the U.S. (this analogy may stretch the point, but many commentators tend to picture a hierarchical structure when, in reality, Chinese power dynamics resemble a complex web more closely). Compounding the issue, economically progressive regions might resist bailouts aimed at helping their weaker counterparts, particularly poorer, more indebted provinces in the north and west.
A blogger named Dragonometry (https://dragonometry.substack.com) presents a compelling scenario where China could spiral into a crisis. It would entail leaders of the most powerful provinces withdrawing financial support from Beijing if the latter felt compelled to assist weaker regions, viewing such aid as a threat to their interests. The ensuing impasse could precipitate a series of bank failures in regions unable to maintain liquidity, while economic hubs like Shanghai and Guangzhou attempt to insulate themselves, leaving Beijing powerless. This scenario draws parallels to the Soviet Union’s struggles in 1989 but is driven by financial rather than political or ethnic conflict.
I am not suggesting that China will disintegrate or collapse. However, the most optimistic outlook seems to be a prolonged—possibly decades-long—period of internal consolidation, similar to what Japan experienced in the three decades following 1989. Yet, it’s essential to note that China’s debt levels are significantly higher than Japan’s, and many regions in China still lag far behind in developmental terms compared to Japan in the 1980s (or late 1990s South Korea after its financial crisis, or even the U.S. following the Long Depression of the late 19th century). A crisis will only arise if these processes are mishandled. Unfortunately, I believe that the likelihood of poor decision-making is greater than many anticipate. Numerous indicators suggest that some senior officials (including possibly Xi himself) harbor a distorted perception of the challenges at hand, making it unlikely that even a technocratic response to localized financial crises will be adequately sensible. There exists a strong conviction among the CCP that personal sacrifice and physical resilience will carry China through any crisis, but it remains unclear whether the average Chinese citizen shares that sentiment.
