Keyu Jin: China's Economy, Tariffs, Trade, Trump, Communism & Capitalism | Lex Fridman Podcast #477

What is the single biggest misconception the West has about China’s economy today?

The biggest misunderstanding is somehow that a group of people, or even just one person, runs the entire Chinese economy. It is far from the reality. It is a very complex, large economy, and even if there is an extreme form of political centralization, the economy is totally decentralized.

The role that local mayors play in reforms, and also in driving the technological innovation that we’re seeing right now, is important. I call this the “mayor economy.” It is actually not run by just a handful of people. It’s more decentralized than the U.S. is. More broadly, I think a big misunderstanding is really the relationship between Chinese people and authority.

Can you elaborate on that?

People think that somehow there’s almost blind submission to authority in China. We have a very nuanced relationship with authority, whether it is between kids and parents, students and their teachers, with your bosses, or with the Chinese government. It’s kind of the same thing. There’s paternalism. They think that they’re responsible for you.

But deference—a certain amount of deference—to authority is not blind submission. It’s been written implicitly in our contract for thousands of years that, in exchange for some deference, we are given stability, security, and peace, and hopefully prosperity.

So there is some element that we have in the West of freedom of the individual, so that a little bit of the rebel is allowed, in balance with the deference to authority.

Yeah, absolutely. Without that, how can you have this radical, dynamic entrepreneurism you see in China if you don’t have a sense of self—a sense of the fact that you can find opportunities, you look for opportunities, you drive opportunities? It’s all self-motivated.

Is there still a young kid in China who’s able to dream of being the stereotypical Steve Jobs in a garage, starting a business and changing the world by doing so?

There are millions of young kids like that in China. They might not be thinking about changing the world, and this is where the Chinese approach to innovation is very different from the Silicon Valley one, I’d say.

But they see opportunity. They see a country with a billion consumers. They see scale. They see speed. They see that with their dreams and the team that you have in China, with engineers and the digital transformation, you can do so many things.

This generation of young people think about transforming their local economy. I think we’re going to get into this, but it’s no longer going to just be manufacturing. The young kids are entrepreneurs.

Well, let’s stay in the big picture for a bit. There’s a perception that China is a communist country. To what degree is China a capitalist country, and to what degree is it a communist country?

I’ve rarely seen a more capitalist society than China from the pure economic side. I’ve rarely seen companies that are as competitive as Chinese companies, or people as ambitious and obsessed with making money as Chinese people—kind of ruthless, actually.

Consumers shop. Firms invest. If you invest well financially, you’ll get great returns. What is not capitalistic about the Chinese economy?

At the same time, the social fabric is highly socialist. First of all, state-owned enterprises dominate in many of the sectors. The state banks control the financial system. We often talk about common prosperity, equal opportunity, and a just and fair society.

But even in daily life, take a walk in the park behind my parents’ apartment and you’re going to find at least 50 organized social groups on a daily basis—singing, dancing, exercising, doing whatever fantastic, idiosyncratic hobbies they have, and getting together every single day. There are three courses for the elderly and retired, right? That sense of communalism, that sense of belonging, that striving for harmony at the societal level is there.

So, just to go back to something you said, there is a value for competition culturally. On the business side, on the economic side, there is a cultural value of people competing in a meritocratic way.

Competition is ferocious in China, especially when it comes to Chinese companies, but also in education. I should be thankful that I wasn’t born later. I thought China was pretty competitive already, going to schools and studying for exams. It is a different level today.

Competition is not necessarily in the culture. I’d say it’s driven really by the changing economic and social circumstances of the day. Chinese companies are all hardworking. They’re all going after market share. They all want to do the same thing.

It’s not quite like in the U.S., where you open a coffee shop and, next door, I’m going to open a bagel shop, right? In China, if the coffee shop does well, everybody wants to open the same coffee shop.

I think there’s a lot of that kind of competition, which really drives the world crazy sometimes—the replication—but it’s because it’s not easy. It’s not easy to make money in the education system. There are not enough jobs for young people. So how do you get ahead?

How, if you’re part of a lower stratum of society, are you going to make sure that your children are going to have a better life than you? You invest in education. So everything is about competition in a country with 1.3 billion people. That’s somewhat to be expected.

Let’s go back to the roots of that. You described China’s economic model as being rooted in its history. Can we talk about Confucianism? Can you explain to what degree those roots go back to Confucianism, and in general to other parts of Chinese history?

Confucianism is more of a moral philosophy than, let’s say, a religion or a belief system. It prioritizes social harmony above anything else. It’s not about metaphysics, but more about ethics. At the individual level, the responsibilities and duties are all meant to preserve that social order.

So it’s filial piety, loyalty, and how to be a Chinese gentleman. Things like saving and frugality are part of the moral discipline. Education is part of the moral cultivation. There’s a very strong emphasis that, as a citizen, you have a responsibility to contribute to society as a whole.

On the education side, part of Confucianism is a value for meritocracy. How does that permeate the education system in China? You’ve already spoken to it a little bit—the value of competition and that it’s already getting more and more intense—but it would be very interesting to get your understanding of the education system, its history, and how it stands today.

If China has been relatively successful economically, a huge part of the reason is that, by and large, it’s been meritocratic. That is changing somewhat now, but the only way that so many poor people, especially a couple of decades back, could still be in harmony with society—seeing all these rich people make tons of money while they were still belonging to that lower stratum—was that they believed their children had a future through meritocracy.

Even though it’s imperfect—highly imperfect—standardized testing, all this competition, all of the hours, and the tutorials devoted to studying for standardized exams are a very realistic scenario in China because there are that many people. When I was growing up in school, we had 60 people per class, and there were 10 classes in one grade.

Now, imagine that many people applying for colleges in the American way. How many essays would have been written and need to be scrutinized? That also gives room for total corruption, if you know what I mean, because it’s based on connections.

Actually, the standardized exams, as imperfect as they are at selecting talent, are still by and large fair. That’s how that whole generation of entrepreneurs, bureaucrats, and government officials were selected.

If you look at the Chinese premiers and the presidents of the past, they all went to great schools. A lot of them were engineers, and the same thing was true for civil servants.

It has changed somewhat. The meritocracy, I think, is eroding in China. I’m worried about that because it’s fine that you get into a good university based on your own merit, but finding a job now becomes much less meritocratic. People with connections get jobs more easily than others.

Of course, this is not just a uniquely Chinese phenomenon. It’s actually everywhere. But I guess what I’m saying is that meritocracy, which was so fundamental to the ancient Chinese education system—by the way, civil servants were selected based on standardized exams in the past; that’s always been the case throughout Chinese history—and that relates to Confucianism.

Now, the opportunities—and coming back to the competition point—the opportunities are getting slimmer and slimmer. Again, this is not a unique Chinese phenomenon. Jobs—where are the jobs going to be? So meritocracy has become more of a problem.

Do you have any memories of your own experience in terms of competition, the good and the bad of it? Maybe from that, can you pull out the thread of the value of that kind of competition? Basically, I grew up in the Soviet Union, so there’s a kind of brutality to the competition. But I think it ultimately molds really interesting people.

There is a good and bad part of competition. I remember when I was going into middle school, every single midterm exam and final exam, you were ranked from number 1 to number 800 in your entire grade and publicly displayed.

Nice.

Nice, right?

Imagine the majority of people and how they feel.

But it does drive ambition in part, and you don’t take anything for granted. You work hard, and you keep the spirit up.

Going to the U.S., I finally realized that Americans are totally competitive. It’s just that they don’t display it. It’s not as apparent. I remember I went to a very competitive high school, but everyone was so chill: “Oh, I’m not studying.” They were studying. They were secretly studying. When I was doing my PhD at Harvard, people would say, “My parents say, ‘Don’t work too hard.’” People say, “Don’t say you worked.” They’re working hard, right? You just don’t show it.

In China, it’s kind of a noble thing to show that you’re working hard, that you’re number 1, or that you’re at the top of the class, and you want to display it. You want to let everybody know. But in the US, everybody is secretly doing it.

Yeah. Some of it is the signaling. The culture emphasizes the signaling: Is it better for everything to come easily, thereby showing that you’re a genius and that it comes naturally, or is it better to show that you worked extremely hard for the thing? The ultimate result is that there’s still competition, but I don’t know. When you’re visually displaying and explicitly stating that it’s good to be number 1 and it’s bad to be number 800, I think that permeates throughout the culture to where—

You understand, first of all, that hard work is the only way to improve, to succeed in life. Second of all, you create this framework of understanding early on what it means to live a good life. A part of that is to find the thing you’re damn good at and get even better at it, master it, and hopefully become the best person in the world at that thing. I don’t know. That’s an extremely important lesson for society to teach.

That’s, I would say, the right kind of competition. I feel that in the Chinese education system, it was not necessarily efficient because it kind of frames you and molds you to think in a certain way, based on what’s been taught to you. You don’t have the bandwidth or the time or creative freedom to be more creative and to think outside the box. There, it’s just the box. You maximize the box, and that’s it. You don’t actually know what’s outside of the box, and you never actually go there. That’s the bad part of Chinese competition.

When I got to the US, high school teachers were asking us to question authority and to question texts. I was like, “Wow, really? You can do that?” So I started asking why.

All right. There has been this miracle in the Chinese economy after Mao, under Deng Xiaoping, where the Chinese economy got transformed and grew incredibly. Can you explain what happened—the different transformations and the different reforms that happened under Deng Xiaoping?

Deng Xiaoping was by far our most pragmatic leader, and I think everybody is grateful to Deng Xiaoping. My father’s generation would not have seen that amount of prosperity, peace, and opportunity without Deng Xiaoping.

It started in the late 1970s, when Deng Xiaoping came out with this reform and opening-up mandate, and it was very tough. Again, coming back to the big misunderstanding of China, it’s not as if one leader decides that that’s what we’re going to do, and then everybody follows orders and does that. No, there are tons of political barriers and tons of incentive-compatibility problems at the local level. In the end, you need the local provincial governors and the mayors to do the job. How many prefectures are there in China? A lot.

They have their own interests. We know this around the world: Politics is the most difficult thing to do. But somehow, Deng Xiaoping was able to break tradition, break convention, and come up with this completely new way of thinking about society, life, and the economy. It was so transformative.

I remember people of that generation telling me once that society was going to focus on the economy. “Really? Why would they do that? Wasn’t it politics? Wasn’t it all about politics and struggle and ideology?” For them, the idea that the whole country and the government were going to focus on the economy was just so shocking. Even though we take it for granted now, that shows you that breaking that mold was incredibly difficult.

Opening up was a really momentous thing that China did. It wasn’t just joining the WTO. They were doing a decade of work in preparation leading up to that. What’s called a special economic zone was really meant to turn Shenzhen from a fishing village into an export platform, and now it’s a Chinese-style Silicon Valley.

There were the agricultural reforms in the 1980s that meant farmers could decide what they were going to grow and keep the surplus, whereas it was a collective system before. You know that very well. Then, of course, the ultimate transformation was when China actually joined the WTO in 2001, and the rest was history. We’re still talking about the aftermath, but reform was the single biggest impetus to Chinese growth.

Every time there was a major reform, it was followed by a good decade-long growth period. Every time growth went down, there was a new series of major reforms rolled out, and then, oops, that led to another wave of good growth.

I’d say that the pace of reform has slowed in the last 15 years. But are there reforms to be done? Yeah, absolutely. Has China reached even close to its potential? Not at all. But again, it comes back to politics. Right now, it’s less about economics and more about national security. It’s more about politics, and I think that is probably the single biggest barrier to continued good economic growth.

Maybe you can speak to what it takes, in such a large system and, in many ways, such a successful economy, to do reform. You mentioned pragmatism. Deng Xiaoping famously said that it doesn’t matter whether the cat is black or white, as long as it catches mice. So there’s that pragmatism.

Yeah. As a contrast to the Soviet Union, as I mentioned, the Chinese economy was extremely decentralized. In the Soviet Union, the ministries were in charge. It was a central bureaucracy, but a lot of the power was given to these provincial governors, party secretaries, and mayors of different sorts, and they were incentivized. That’s the key: These mayors were incentivized to do a good job.

If I were successful on a radical reform, I’d be a national hero, and then that reform would be rolled out in every single city in the country over time. I would be promoted to a higher rung of the central government, and who knows? I might even become vice premier, premier, or president one day. That was how the individual was motivated to carry out these really tough reforms.

Now China has changed a bit. It’s not about being radical and radically successful. It’s about being safe. When you shift from basically an entrepreneurial state to a safe state, the objective function changes, and you see it in different economic outcomes.

So maybe you can speak to that. What are some important things to understand about the structure of the Chinese state?

Well, the central leadership is politically extremely powerful and very consolidated, but they hold a very crucial key to the local governments, which is that they decide their fate. Am I going to promote them? Am I going to put them in jail? Am I going to fire them? Am I going to reward them? Am I going to punish them? They hold that crucial key.

I think what was very surprising for most of the Western audience is that, when I mentioned the mayor economy, there’s a question: Why don’t our American mayors in each city do these very radical things and push for GDP growth, technology, and innovation? It’s quite different. I think this is where China is very unique in the world: political centralization, economic decentralization, and the yardstick for measuring local mayors’ competence, in the first stage, was GDP growth.

So I am a mayor of the city of Nanjing in Jiangsu Province. I’m going to peek at my neighboring mayor’s city’s GDP growth, and I’m going to be very competitive. By the way, I forgot to mention that competition is extremely intense among local government officials because you are competing with other mayors for a top job. You need to do better than them.

Whether that was an efficient structure or not, I cannot comment. But it certainly fueled this massive and rapid economic expansion. First, it was industrialization. Everybody wanted to export. Then they discovered, “Oh my gosh, we can have so much fiscal revenue coming from land”—selling land and real estate. “Let’s build real estate and let’s urbanize.”

The money kept coming into these local governments, and they could spend it on nurturing more companies, supporting real estate, or supporting investment, and they could do a better job.

So then it was geared toward real estate, and that's how the property cycle became the big thing. Everything was at double speed because of what the local government's incentives were designed to do. I say now that China's biggest challenge is consumption, right? It's not production. We know that China is very, very competitive in production and supply.

China needs to be a consuming country to be a rich country. Why don't you put consumption as part of the yardstick for measuring local governments? For a while, it was environmental protection. Guess what? Very few of them really wanted to do it seriously because it goes against the incentives of driving growth, right? They would suffer on GDP growth if they were very serious about environmental protection.

So for a couple of years, nothing happened in China on that front, and then the central government got really concerned, and even angry and frustrated. So they decided to put that as a penalizing factor, and then guess what happened? Environmental protection sped up, and within a short few years, I saw blue skies every day in Beijing. That's how it works.

So GDP is a measure of success in production. What's the measure, or what does it mean to be successful on the consumer side? You said it's important to improve that. What does it mean to be a successful consumer nation?

The metrics shouldn't be geared just toward growth alone—GDP growth alone. It was just singular GDP growth, and you could borrow heavily and spend on infrastructure. That's not a productive way to drive the economy. That's what the local governments were doing for a long period of time.

In the last few years, innovation unicorns have been an implicit yardstick for local governments. That's kind of how we've seen these great EV companies—80 cities doing EVs. I mean, do we really need 80 cities to do their own EVs? Solar panels, now DeepSeek has become a star. Semiconductor companies—each local government wants to have its own national champion.

So implicitly, technology was part of the yardstick competition as well. But if you can more accurately have a metric for consumption, measures that really focus on making sure that this GDP growth is coming from consumption rather than from investment or infrastructure, then I think that it might focus the government's objective a bit more on thinking about how to make people feel more secure so that they want to save more, for instance; creating more jobs, for instance; more spending on social security, on health care, and on elderly care.

Because for the longest period of time, this political economy model was brilliant at scaling up supply, but it was extremely weak at raising personal consumption because the incentive does not lie in consumption; it lies in production. So you shift the objectives a little bit, and maybe local governments will do more to stimulate consumption.

Okay. You mentioned the mayor economy. That seems like an incredibly powerful idea. You also mentioned that perhaps you're not sure exactly how perfectly efficient it is, and what efficiency means there. How good are you at quickly figuring out the best ideas? That's what an efficient market does.

There's a component to what you're saying where you're a little bit critical: Do you really need 80 EV companies? But maybe you do. It seems like an incredible thing to do, right? What are the pros and cons of this? Maybe you can speak to it a little bit more.

I think it depends on the timing. If you're starting something—starting a new emerging strategic sector like EVs, batteries, or solar panels—you need the local governments to be involved to mobilize, to make the big push to coordinate the supply chains. If you wait for the markets to develop over time, it's going to take a long time. Maybe they don't even want to do it, right? Look at the US. The US is very, very behind on some of these new strategic sectors.

But once you've reached a certain level of market competition, I think the state needs to withdraw or retreat because ultimately the state is not the best at allocating resources or picking winners. You want the private actors, whether it's the venture funds or market competition, to ultimately decide who gets the most resources.

But in the beginning, that big push is not really in any of the canonical models that I've studied in economics, in the Western school of thought. State push, state mobilization, state initiation—that's not there. But I think if you look at EVs, solar panels, or even just the idea of reforms in the first place, that initial state push was vitally important.

The other negative, although I think by and large it's a positive aspect, is that I don't think we need 80 cities to do their own EV brands. But to get started, maybe that's what it would have taken to drive that incentive, and ultimately it's up to the market to decide who the last 5 remaining EV companies are, through market mechanisms.

That's Chinese-style industrial policy. Industrial policy was heavily criticized, and again, if I talk to my Harvard professors, they will be very, very, very skeptical about the role of the state, especially in such a major way. But if you look at the Chinese experience, the evidence for success is all there. The cities that have pushed the most on supporting that particular sector ultimately did the best in terms of production, but also in terms of innovation, measured by patents. It's all in the data.

The downside is that a lot of the capital is wasted, and this is what I also discuss in my book: It is inefficient, although maybe it's necessary. The amount of investment plowed into these companies that will ultimately just go under, but also the misallocation of resources because it's led by the state, are some of the downsides.

But I guess on balance it's been positive, because look at China's internal-combustion-engine effort: nothing. Semiconductors, thanks to Biden, thanks to Trump, have improved dramatically. But all these things that they tried to do before, they couldn't do. When it's a new thing—something where there's no incumbent, no particular advantage in any country—China is really spearheading these sectors.

Can we linger a little more on this mayor economy? It just seems like such a powerful thing, where one mayor looks over to the next and looks even at a trivially simple number like GDP. Why don't we do that in the United States or in the West more? Just compete on GDP.

Well, you need to be elected and reelected, right? Is that what your electoral base cares about? In China, it's what the central government, your boss, cares about. If you ask the consumers, they'd rather you spend on social spending, on the things we talked about that stimulate consumption, on education, on health care, things that stimulate demand. So, yeah.

That's the political difference. It's a difference of political system. So maybe can you speak to that difference? Another difference is the long-term, multigenerational thinking that permeates Chinese culture. How does that differ from the West, the Western-style capitalism of quarterly-focused thinking?

The Chinese are both the most patient and the most short-termist economic actors I've met. The patient part I don't need to explain, because I think political continuity means that they can make plans for 2 decades ahead, even longer. The investment of Chinese parents in their children is a multidecade-long project, and Chinese people love to save because they think that they'll have even more money if they save that money rather than spend it on a ski vacation. I think that's patently obvious to most people around the world.

But I think most of them would not have known that there is a very popular motto in China called “short, flat, fast.” That's the impatient part of Chinese culture, especially with respect to the economy. “Short, flat, fast” was used to describe a winning volleyball strategy that eventually became adapted to describing society as a whole and economic decision-making.

If you're an investor, you only want to invest in things that you can quickly turn around, make a lot of money from, and don't need to do much work on. It also applies to marriages: a short courtship, a very flat emotional relationship, and a fast divorce. That's how you see these companies rise within a very short period of time.

Of course, investors are only interested in those companies that can turn around and exit in a very short period of time, making many, many multiples. In that sense, people are very, very impatient. I sit on some boards of these long-standing companies, and the values are just so different, even though a lot of these public companies are constrained by the quarterly results and so forth.

The values are about sustaining something—a company—for a long time, thinking about organic growth, thinking about investments for the future, and sustainability. Maybe it's that competition; maybe it's the speed that we're used to in China. People think about short-term things. This dichotomy is very, very interesting.

That's surprising to me.

Yeah, well.

It's a surprising idea, right? There is a kind of Western conception of Chinese culture and the Chinese economy that everything is, you say, 50, 100, or 200 years out. You have this long vision, but you're basically saying that there's a deep impatience about everything in the business sector.

That's a transitory phenomenon, I'd say. But if you look at the cheaper stuff and poor quality, that's a reflection of that. It's the same kind of mentality: just get ahead quickly. But again, that is all shifting. That is all shifting because China is now in a different stage of development.

If you ask the younger generation, they really care about quality. They care about values. These companies, very successful for 5 or 10 years, found themselves in a very difficult position after a longer period of time. So that short, flat, fast attitude, which was so popular especially before the pandemic, is actually somewhat disappearing.

In some sense, this economic downturn is not that bad for China because it made the Chinese realize that it's not always going to go up, and it made them look deeper into what they really should be focused on. There will be cycles; there will be ups and downs. This very short-termist thinking and opportunistic way of driving business will ultimately fail.

It's bad for China that we're having sustained economic softness, but I think it's also a very, very important lesson for the Chinese people to go through.

Let's go, if we can, a bit to the personal. So you grew up in China. What are some moments from childhood that were maybe defining to your understanding of Chinese culture and the Chinese economy?

You know, we look back at those moments when everybody in China was very poor with a bit of nostalgia. I remember no doors were locked. I was in Beijing, and I remember every day in the summer, everybody just went downstairs and chatted with everybody else.

It was very social. It was very community-based. The neighbors helped each other. We had very, very little: small apartments and very limited access to certain goods.

When I was born, even in Beijing, there were vouchers for how many eggs you could buy. Even in Beijing, there were typically 3 or 4 blackouts per week. There was a sense of community. There was a very strong bond between people and within the family because they were going after a common goal: making your life better, struggling and striving to make your life better.

I remember being on the back of my father's bike, getting up at 6:00 a.m. every day and going to nursery. That's the typical day. Not a lot of material goods, but people had a sense of purpose. That's radically different—it's completely different now in China.

Do you think that, if you go to the human condition, that nostalgia has some truth to it, or is it just nostalgia like any other? Is there some aspect of an intense, competitive, vibrant economy that loses some element—

Absolutely.

—of everybody being poor together?

Well, everybody having a common goal and a sense of community, right? That is what's missing in these extremely individual-based capitalist societies. I think what the Chinese government is striving to do with socialism with Chinese characteristics is to somehow try to preserve a bit of that socialist character while still relying on markets and market-based incentives.

But if you're an extremely individual-based society, I think you do lose a lot of that. Some of the backlash that we're seeing from society is a reflection of that, right? People being alone more and more, the deaths of despair in the U.S., addiction—you know, they're lonely, right?

Competition means that you kind of have to be somewhat badass, and you sometimes put aside values and forsake harmony in order to get ahead. That's certainly Chinese society now. That was not the case before.

Do you think that's a natural consequence of capitalism, almost always—that you become more individualized, you become lonelier, you feel lesser if you're not winning, and thereby somehow that breaks down society and community more and more?

I think it's a spectrum, right? Europe is somewhere in between, I'd say. Europe also is not as technologically innovative as the U.S., but on a social level, there is more social protection for the people. There is a stronger sense of community.

I'd argue it's not perfect. Ultimately, it is a choice, and this is what I think China has to decide, right? Do you want technological supremacy and radical breakthroughs? Well, yes. If you do, then you have to tolerate that there are going to be some people who are going to be uncomfortably rich, right?

Like in the United States, you can't say that you detest the financial system for its greed but then not accept the fact that it is what fuels innovation. Risky capital fuels uncertain investments, which allows countries like the United States to make these breakthroughs. That's what China wants.

But at the same time, China can't tolerate these extremely rich people and the power that is accrued to them. They want to be a leader in technology, but then the financial system is not liberalized. It's highly regulated, and there's also intervention.

Even if we look back at French civil law versus English common law, the former protects creditors and the latter is more friendly toward debtors, which gives them more breathing space to innovate, but also to fail and to innovate again. That makes a big difference.

So it's all about a spectrum, right? But you can't have it both ways. We don't often enough have that nationwide conversation about what we want to be as a country. There's just a group of people yelling, “We don't want billionaires,” and another group saying, “We don't want communists,” or whatever. It's a very trivialized kind of chanting.

But there is a balance. There's a spectrum, and you get to decide: do you like the nice things, the nice toys—

—and the power that the U.S. has—

—and the power, the geopolitical power, the military power, cultural power, and influence on the rest of the world. Yeah, you get to choose which you want.

So the first time you went to the U.S., what was that like? You mentioned Harvard. How did that change your understanding of the world?

Well, it's funny that we're talking about this now because I was able to go to the U.S. on a scholarship to an American high school because the U.S. at that time welcomed international students with open arms. They wanted to be the country that was going to educate the future leaders of the world, and their elite institutions like Harvard were really going to be the center of the world.

So they welcomed students like me and many others to study in the U.S. as exchange students. We thought, “Wow, we've never seen a more generous country.”

I was able to go to an American high school and live with an American family, which was a big change from China—not only because I was plucked from the Communist Youth League and then went straight to supporting their Democratic campaign, because the host family was running for state attorney general in New York.

So I was kind of going to these conventions, handing out flyers, and trying to get votes, I don't know, in Chinatown or something. It was so interesting to see how the system worked.

But in the course of doing that, I realized that people had a very simplistic understanding of China. Even when I was 14, I decided that one thing I wanted to do was dispel some of these deep myths about China.

The China that they knew—and again, it was all the 3 T's back in the late 1990s: Taiwan, Tibet, and Tiananmen Square. That's what they thought about China. And I was like, “Well, that's strange, because that's not how I'm feeling in China,” with all this bidding for the Olympics before 2000, all these buildings going up and down, all this excitement about joining the WTO, all these radical reforms that were taking place, and all this effervescence that you felt in the air.

It's not GDP growth as numbers; you actually see it. I said, “This is really...” They're describing China as if it were a place shrouded in white terror. So I thought, “This is interesting. There's a big gap of understanding.”

Even today, that many years later, people know China a little bit more, but the sentiment hasn't profoundly changed.

It's still the 3 T's, I feel like.

Eric Li

Some variation of that.

So what about the level of misunderstanding of Chinese people of the West? Is there a similar level of misunderstanding in the other direction as well?

I don't think to the same extent, because there's Hollywood, where you can see daily American life, although it might not be totally realistic. There was a huge amount of admiration for the U.S., its technology and innovation, but also the American dream.

I think our newspapers, even though there's bias everywhere, are not focused only on reporting the really bad stuff and portraying a negative side. I think these few years have been a little bit different, but so many students went to the U.S., right? So many people traveled to the U.S.

This is the interesting thing: I've rarely met an American who has been to China and who still goes on about how bad China is. I think that going to China makes all the difference.

I feel that's one of the big gaps in my life that I need to alleviate: to travel in a real way, for a long time, to really experience the people and the cultures. And China is a big place.

Go dig deep, and don't just go to Beijing and Shanghai.

Let's go back to the economics. Can you dig a little deeper on the relationship in China between the government and the companies in the private sector? How much freedom do companies have?

Another big misunderstanding, and a fundamental one, is that people somehow think that the state suppresses the private sector.

It's not at all as simple as that. For the most part, if we look at the local government's incentive system, they want to help the best private companies, which are the most promising, because it makes them look good. It adds to their GDP. It adds to jobs and investment. They are so helpful to these private companies.

Actually, I know many of these local government officials working tirelessly day and night, especially in bad times, to coordinate between debtors and creditors and to smooth out and define relationships with banks. They want to help these private companies because, again, their incentives are aligned.

DeepSeek is a private company, by the way. So it has done the country proud, and why would the state want to go and suppress these private companies, which ultimately represent a beacon of success for China?

Now, on how much freedom they have, it really ranges from too much freedom. That's part of the problem, where you have defense companies buying art auction houses, real estate companies like Evergrande buying soccer clubs, companies doing EVs, and companies investing in real estate that has nothing to do with their core business. That's how much latitude we're giving to private companies.

And there were consequences. They were not reined in. Then you go to the other extreme, where they're scolded, reprimanded, reined in, and kind of folded into submission. So that's the whole spectrum. You have the whole range.

But I guess what we're really getting at is that it is a country moving from no rule of law, or very little rule of law, and very immature markets to something that is being gradually established: bankruptcy laws, corruption laws, and rules and regulations on what's possible.

One interesting point is that in China, you ask the companies to innovate first and then regulate after, right? So that has led to things like P2P platforms. It's led to lots of financial innovations, some of which have actually been very helpful and good, and some of which have been disastrous. But the intention to regulate after the fact is to not slow down or hinder innovation.

This is a very different approach from Europe. You regulate first, and then companies have to work around that. So this is why the Chinese economy is so complex. You cannot reduce it to simply a statement saying the state is unhelpful for the private sector or something like that.

There are certain sectors where the SOEs dominate, right? When it comes to national security and energy. But let's not focus on these few sectors. By and large, most of the economy—if you actually admit to the fact that China is highly innovative and highly entrepreneurial—means that it must be the private sector that is driving the show.

Innovate first, regulate after. Really interesting. I also, in my mind, am contrasting it with the way the Soviet Union and Russia have operated since. That doesn't sound at all like this model.

It's interesting that countries that, at least on the surface, had similar cultural communist problems—the bureaucracies that form inside the communist state—it just seems that China broke away from that somehow. I don't understand exactly what happened.

In the West, they group these economies together as if they're the same thing. No, it's not the same at all. There are so many differences, so much more flexibility. You can have dynamic entrepreneurialism at the same time as socialist characteristics.

I think this is what China has been able to shape and mold: a unique model that balances between government and industry, between state coordination and market mechanisms, and between individualism and communalism. It's not necessarily black and white. You can have all these things at the same time.

So what are the pros and cons of being an entrepreneur in China versus the West? If you get a choice—you have a dream, you want to build epic things, and you get to choose where to start that business—what are the pros and cons of each path?

In China, the speed is just awe-inspiring. You have a good idea, you implement it, and you realize your dream very fast because there's also the support system. The infrastructure is there, the digital infrastructure is there, the engineers are there, and the talent is there—and they're cheap. The market competition is there to keep you going, and the consumers give you very fast feedback.

Look at Xiaomi. It was making phones, and now it makes one of the world's best EVs. It sold 270,000 cars in 1 day a few days ago with a new model. They were phone makers.

So, there's an advantage to that. Okay. But I would not feel safe—not because of the danger of expropriation or anything like that, but the bankruptcy laws are not there, right? It's not necessarily always fair competition, and things don't necessarily happen in an orderly manner.

If you have a competitor, you can have a very evil competitor, and evil competitors are everywhere. In China, they would call the police on you, put you in jail, spread false rumors about you. Maybe that happens also in the US, but it's a different level in China.

The moat you can have to protect yourself through IP protection is much weaker in China because the legal system is not very effective. You have a good idea, and you'll be copied. There's a lot of work. You have to wine and dine with the local governments—I mean, that's not allowed anymore, by the way—but figuratively speaking, you have to have a very good relationship with them. That's a different kind of work.

The wine and dine and the evil competitors are an interesting challenge that is, in some perhaps distant ways, akin to the problems of the Soviet Union. I think, I guess, in the United States there's less of that, and I don't even know if that's based on laws, because there are a lot of lawyers in the US who could technically do the same kind of evil competitor stuff.

That's true. The potential negative ramifications are there. But I think personal protection is a big difference. If you make a mistake, if your company is not run well, you go to jail. I think the US is much more tolerant of entrepreneurship, entrepreneurs, and failure.

Since we're talking about it, there was a lot of controversy around Jack Ma disappearing, quote unquote, and reappearing a bit later. There have been rumors of some tense relationships that he has with the Chinese government. What is important to understand about the whole situation? To what degree is it reflective of the issues entrepreneurs face in China?

In the US, capital controls politics, one could argue. In China, it has to be the other way around: capital must be reined in by politics. Not having the ambition to exceed the powers of the political class is really at the core of it. I'd say that's the biggest difference between the US and China.

There are important details that I think the West has not fully provided to the public. For instance, Ant Financial, as innovative as it was, was doing banking jobs without being regulated like a bank, right? So that obviously poses a host of financial stability questions, rules, regulations, and so forth.

The fact that the IPO was halted—you could say that there were strong economic and regulatory grounds for that. But more broadly speaking, if you're an entrepreneur, part of the capitalist class, keep your head down, make money, and that's fine. Do some philanthropy.

There are also many other billionaires who are just fine and are actually very much in favor of the political leadership, and they do their thing. Now, I'm not saying what's right or what's wrong. It's just a very, very different culture and a different country.

In the US, it's great to be colorful. You have a very colorful president. He would never have been able to make it in China. You have the likes of Elon Musk. It's great to be different. It's great to stand out. You do not want to stand out in China.

So the moral of the story is that the top leadership understands that it needs these top entrepreneurs, the likes of Jack Ma, and that they have done so many great things for the country, even for the world. But in China, garnering too much influence and power, even through social media, doesn't make you look that great. It's not a good thing for you personally.

There's a saying in China that you just don't want to be the tallest tree, right? The tallest tree gets the most wind. So I don't agree at all with the Western conclusion that this anecdote, this story, has meant that entrepreneurs don't want to be entrepreneurs anymore, or that young people don't aspire to be people like Jack Ma. That's not true at all. The incentives are still there. It's a different kind of rich elite class in China.

So on what dimensions do you think the height of the tree is measured? Is it more about just mouthing off in public? Can you still be the richest person in China and actually not clash with the state?

Absolutely. Don't be too outspoken. Don't try to get too much attention and too much influence. Again, it's a cultural thing, but just keep your head down, be humble, contribute to society, do philanthropy, work, collaborate with the government, and you're kind of okay.

So the signal the Jack Ma situation sends to the entrepreneurs in China is not “don't be an entrepreneur.” It's more like, “don't—”

Be too colorful.

Don't be too colorful. And colorful means you can be colorful about the technical details of your technology, but don't be colorful about Xi Jinping and politics. Just stay out.

Yeah. Stay out of politics. But I just want to say that Jack Ma was really an emblem of extreme success for China, and Chinese entrepreneurs look up to him. That’s really important. It was a signal that, unfortunately, was misconstrued by the Chinese side and also by the outside world. But it’s laid out a different path for what these entrepreneurs should be doing.

What do you think happened to him? So he’s now, I think, living in Japan.

That’s by choice.

By choice. No, look, he’s an extremely fascinating character. If he were in the US, he’d thrive: funny, witty, smart, wise, creative, and he loves a good life. I think it’s by choice that he’s roaming around the world, given that he has more free time.

Do you think he loves China?

All of them do. All of them do, because their lives, their destinies, were totally changed because of China, because of the government, because of Deng Xiaoping, because of everything.

I know a lot of people from the former Soviet Union, and there’s a deep resentment of broken promises and broken dreams. So that is not something you see?

That’s not how I would describe that generation and their feelings toward China. Of course, you always get exceptions, right? The ones who have moved to the US and who want a democracy. But by and large, people are deeply grateful to China, the Chinese government, the Communist Party, if you want to label it that way, because they’ve seen their lives be totally transformed.

Jack Ma went from being a schoolteacher to becoming one of the most powerful people in the world. If you didn’t have China, how could that have happened, right?

Can you speak to the thing you mentioned a few times, which is the difference in the American versus Chinese, or maybe Western versus Chinese, approach to entrepreneurship? The 0-to-1 versus 1-to-N. Can you explain that, and what it will take for China to become a consistent 0-to-1 innovator—for individual entrepreneurs to create totally new things, versus doing the things you mentioned about speed and scale?

The US will lead for some time on breakthroughs, on disruptive technologies, the 0-to-1 technologies that ultimately change the world. But innovation is a process. It goes from invention to production and commercialization and diffusion—diffusing technology throughout all parts of the economy.

On those two stages, I think that China has a unique advantage, even if it still can’t do the 0-to-1 breakthroughs, because in the end, how much this technology is adopted by countries and by various parts of the economy is fundamentally crucial to how much productivity will be unleashed.

China’s innovation—currently, DeepSeek is really one example—and I think it’s really the beginning of the scale-based, leading-edge-technology, cost-cutting-driven kind of innovation model, could be just as powerful, maybe even more effective and powerful, than the breakthroughs. It’s a very different approach to innovation.

Chinese companies focus on solutions and problem-solving. Again, that comes back to the education system, right? You’re given a problem: “I’m going to find the answer.” Chinese students can do it. You want them to write their own question, they can’t do it, right? I’m exaggerating a little bit, but it’s a little like that, right? They see a problem, they’re going to go after it, and they’re going to find the best solution.

That’s really useful, right? We don’t need—or developing countries especially don’t need—these frontier technologies that they can’t use. China currently has this AI Plus program, which is about pushing AI into every single plausible sector with the help of the state. Adoption and diffusion are very important.

Why can’t China do breakthroughs, or can’t do 0-to-1 technologies? I think at the root of it, there are some deeper reasons. We talked about the proximate reasons—the short, flat, fast, for instance, right? You don’t want to spend too much time investigating something that you don’t even know is commercially viable, so basic research is still weaker than in US universities.

But there’s also this kind of intrinsic motivation. It’s very different, right? In China, it’s driven by extrinsic motivation. You are rewarded by compensation, financial compensation—all these kinds of extrinsic motivations are what drive you.

But intrinsic motivation, the pursuit of knowledge for knowledge’s sake, right? That was deep in Confucian philosophies. But, of course, poverty has changed all that. The profound commitment to scholarship, to research, which we know is very much true in US universities, is starting. It’s starting, but it’s not there.

I think these two approaches are actually quite compatible with each other. I don’t know what all this fuss is about, right? China uses technology very well. It can scale up and reduce costs, and then spread it around, and the US has made the highest value added by inventing these technologies. But, again, diffusion matters.

Well, yeah, the things you mentioned—the scale, the manufacturing, the diffusion—from a sort of economics perspective, you wonder which is the more important skill to have. It seems like the cost-cutting, efficient, large-scale, fast manufacturing and the diffusion are much more important for the success and growth of the economy.

I think where it ultimately leads to an impact on the economy, that’s more important. It’s this persistent question we have: Why don’t we see the productivity in the numbers? We’re in AI. We had long periods of investment; you just hadn’t seen it in the numbers until maybe even recently, and it’s still very slow.

But China’s pushing that in the sectors—robotics, AI, cloud, the industrial Internet of Things. Even companies like Huawei, I think it’s gotten a little bit of a bad reputation in the US, but American engineers working for Huawei said that they’re so happy working for Huawei. The intense focus on innovation, but also on solution-driven innovations in Africa and in rural areas, really changes people’s lives. It doesn’t change the world, but it changes individuals’ lives.

What’s the feeling that Chinese entrepreneurs have about copying technology? I think one of the cultural things in the US is that copying is really not respected.

Yeah.

That’s seen as a big problem. Is there some degree to which in China that’s not?

No. Unfortunately, this is a big cultural difference. Our sense of property rights is actually quite different from that in the US. I think that will change over time, but absolutely, you’re right. They have no qualms about copying as long as it leads to success, right? That’s the difference in values.

As we mentioned in the beginning, you asked why the level of competition is so fierce. Well, they all do the same thing once they’ve seen one successful thing. Everybody does the same thing. You’d have no respect for doing that in the US, right? But in China, it’s all fine. I think that over time it will change. Just give it a little bit of time.

So do you fundamentally think it’s a bad thing?

In the end, if China is all about innovation and technology, you cannot not have very strict IP protection.

True.

Right. Ultimately, again, we’re still in the short, flat, fast stage, right? When we graduate from that stage, you’re going to have very different views about these things. Try to diversify and do different things. But, again, it’s a stage.

Chinese people were hungry. They’re still a little bit hungry. They’re not going to be as hungry in the future.

Can you describe the DeepSeek moment? DeepSeek represents what China is thinking about in the space of AI. Does China have a chance at outrunning the US in the AI race?

DeepSeek was a surprise to the world, but I don’t think it was that much of a surprise to the Chinese, to the same degree. Remember that DeepSeek happened in times of crisis and urgency, not in times of comfort.

A lot of these technological breakthroughs and instances of leapfrogging happen in times of crisis. This is called crisis innovation. You’ve got to thank the US for that, right? When the Chinese were comfortably importing chips from the US, the whole industry stalled for 20 years. Why would you pour in billions, tens of billions, and even more when you can just import the best, right? You don’t want to do your own innovation.

It’s because of these export controls and these sanctions on these companies that Chinese companies and the Chinese state felt an existential crisis a few years ago, being cut off from these critical components. And guess what happened in a short amount of time? The degree of domestic capacity ramping up and catch-up has been nothing short of remarkable, again, thanks to US controls on technology.

Now, I’m sure there are many aspects of hype and hyperbole related to DeepSeek, but it just shows you that the gap is much smaller between China and the US on leading-edge technologies than was expected. These export controls were not effective. They may have even backfired.

It shows you that China has this relentless focus on taking some of the existing technologies and using scale and other advantages to cut costs and diffuse them. This is just the beginning. I think it will happen in many other industries as well, including semiconductors. That’s the Chinese approach.

Now there’s an interesting dilemma here, which is that this is happening at a time of extreme economic softness and slowdown, amid uncertainty, trade wars, a lack of confidence, a slowdown in private investment and consumption, and a withdrawal of foreign investment from China, especially US venture funding.

Imagine what China would have been like if the economy was doing better, right? But you could also argue that it’s because people feel threatened that they make more leaps. I wish the world didn’t have to drive each other into the corners to do something great, but that is the reality.

I don’t think there’s an easy way to say who wins, because I think the winning idea is part of the old playbook, right? You’re all kind of part of a network. Different countries and different players have different choke points on each other. I don’t think it’s just about the U.S. and China.

What’s more, you use your leverage once, and that leverage has a half-life. It becomes a lot less effective the second time around, because other countries and other companies are going to try to substitute it away. If China uses rare-earth leverage, which I think it is now a little bit, there will be alternatives and substitutes. You’ve got to be very, very careful about what coercion and leverage mean.

The same thing with the U.S. I think this is all the old thinking of who wins and who dominates. I think we need a new playbook. So, to you, maybe when you refer to Biden and Trump, if you go back to Biden, it would be the CHIPS Act.

The export controls created an unintended, unexpected effect where they had the reverse geopolitical effect. It was unintentional; otherwise, you’d be questioning the level of intelligence of the U.S. administration. But I think that the things they laid out did the opposite of what was intended: they sped up domestic capacity and motivated the whole country to do this whole innovation program, to go after technologies.

It’s kind of like the way they go after the Olympics, right? Olympic gold medals. They wanted to maximize Olympic gold medals, and they put the whole nation to work, with all the resources. That’s what China did.

Huawei is another example. They were sanctioned, and guess what? They have come back to life stronger than ever before. This is not unique to this episode. If we look throughout history, these blockades don’t work. The Continental System actually indirectly led to the Industrial Revolution in the U.K. When the Spanish kind of blockaded the Portuguese, they came up with a very ferocious, forceful naval power.

You’re talking about China here. They just don’t lie down and lie flat and say, “Oh, we give up.” They’re more motivated than ever before.

So, the lesson is: don’t force people or nations into a corner.

Yeah. You make them have a very comfortable situation, and they tend to become complacent. They stagnate.

All right. Can you talk through the whole saga of Trump’s tariffs? It’s still going on, especially the tariffs on China, from your perspective as an economist. To what degree were they justified? To what degree were they effective? To what degree is it bad policy for the U.S., for the West, for the world, and also for China?

China has been preparing for this for the last 5 years, and for the return of Trump and Trump’s maniac trade policies. You’d think that Trump also had 5 years to prepare for this battle with China. It didn’t show.

You can say that the Chinese, at least this time around, have played their hand pretty well when dealing with Trump’s tariff threats and the trade war, with a level of calibrated assertiveness. They have really thought through everything very elaborately.

This is not good for either country. Let’s just be clear: it’s bad for the U.S. and China, and it’s bad for the world. Every country has a stake in the U.S.-China trade war, because whether you trade directly or indirectly with China, you’re going to be affected. They are one of the largest intermediate exporters in the world, and Chinese manufacturing goods anchor global manufacturing prices.

The cumulative tariff burdens, when you get to Canada, when you get to Mexico, when you get to any other final destination, will affect you. So, it’s clearly very, very bad for the world.

China’s core principles—and I think that this is not well understood by the rest of the world, especially in relation to the U.S.—are equivalence, reciprocity, and realism. China’s not going to lower tariffs unless the U.S. does, right? You can kind of stand up to Trump like a man. That’s the only way to deal with Trump, in its view.

The deal has to be realistic. The Phase One deal last time wasn’t realistic. China thinks, “Look, the U.S. is going to use this as leverage.” That’s not possible. This can’t be seen as a political concession. The deal has to be seen as mutual commerce.

So, where China can have room to negotiate is in opening up things like services. American banks and American financial institutions have a lot of business to do in China. They can buy a limited number of more goods. They can discuss transparency around rules and regulations on e-commerce and data. All that is fine, but don’t confound economic issues with political issues.

Hong Kong and Taiwan are not part of the deal, by the way, in case anyone was wondering. Trying to change China’s state-private hybrid model—don’t go there. Anything that challenges China’s technology security is not really part of the discussion.

I think that people have to be clear about what China thinks and wants, and the Chinese have to be clear about what Trump wants. Although I don’t know whether anybody, even Trump himself, knows exactly what he wants in order for these very complex negotiations to actually succeed.

Okay. So, China has a few red lines: don’t mention Hong Kong or Taiwan.

Don’t mix the political issues with the trade deal.

Right. Is there some degree, maybe you can speak to culturally, where stylistically there are red lines? Meaning, don’t bully China, language-wise? Or does that not matter? Because there’s a kind of way of speaking in the United States that—

You know, I feel like in diplomacy in general, neither side wants to be humiliated. In great deals, even when one side on paper wins, you want to make the other side—especially the side that gets the short end of the stick—feel like they’ve won, and show the rest of the world that they’re the winner. Well, that’s diplomacy.

We have an absence of diplomacy.

But you’re absolutely right. There needs to be respect. The Chinese, at least, really care about respect. I wish there were just a bit more cultural fluency. I think a lot of things would be so much easier between the 2 countries.

You can actually push China to do a lot of things, all within reason, that would work in favor of the U.S. But understand that respect is vitally important. Face-saving is very, very, very important.

To what degree does what Xi Jinping says, and what they’re putting out there in the world, represent the truth? He has a whole way of being of, “Let’s de-escalate. Let’s all make good deals together. Let’s be friends.” Modi has a similar way of being: “Let’s just all be nice together.”

The implied thing is, forgive the French, “If you fuck with us, we won’t be nice, but let’s just all be nice together.” Is he speaking the truth?

The thing is, he’s not Putin, right? There is a genuine desire on China’s part to de-escalate, again coming back to the level of pragmatism. Under economic strain in China, you don’t really want to be picking fights.

They don’t agree at all with Trump’s economic views and world vision. Let’s just put it simply. Understanding that a lot of this is also driven by American internal politics, which they are aware of, helps a bit.

But there’s a genuine desire to take the temperature down with the U.S., even if the weather doesn’t fundamentally change.

What does good diplomacy look like here for both sides? What is the best possible outcome for the world, strictly on the economics, on trade and tariffs?

I think that Trump can show American consumers that he has gotten some sort of a deal: that the Chinese have bought, or promised to buy, more American goods. American companies can come into China, and a lot of the previously restricted investment opportunities are no longer restricted. American banks can make money in China.

He can say that, and I think that could be part of a really realistic deal. Somehow, American companies will be better protected through IP protection, and again, that’s in China’s interest as well.

I don’t see a fundamental conflict here. At the same time, they lower the tariffs—not to the rates where they were before, but lower—and you don’t prohibit trade. For China, that would also be a success. You can actually have success for both places, but being realistic is part of the game.

As an economist, is the tariff a useful, effective tool for global trade?

No. I think that there is a real problem in the global trading system and globalization in general that is not going to be resolved by tariffs.

We do need to think about more harmony between countries, where, let’s say, not 1 country dominates. Here, I would push back on China and say, yes, you have amazing and competitive companies, but you just can’t dominate everything. That would not be good for global harmony. You need to give other countries an opportunity. You need to develop your own internal economy and rely on your consumers.

This kind of highly protectionist method is very distortionary, and it’s going to be bad for the U.S. I’d actually argue that both China and the U.S. have totally taken advantage of, and also enjoyed, the global economic realm under the U.S. liberal order.

I think that China quite likes it, actually. The U.S. kept the peace, and during these peaceful times, things were working very well economically and technologically. They kept the sea lanes open. They did their part to preserve peace to the extent that they could, I guess.

But China wants peace, right? Only with peace can they do what they can. And actually, the U.S., despite saying they've been victimized—look, they've had a very, very good time, right? The quality of life, standards of living, and technology have never risen as much as they did in the U.S. under its own liberal order. And, of course, it had an enormous amount of influence and power.

Yes, of course, you can blame the U.S. for lots of things that happened, but it actually had a really good time, and China did as well. So now they're going to take this apart. They think that they're going to be somehow better off, that American people and Chinese people are going to be better off under the more disorderly, fragmented rule of a jungle kind of world. That's an illusion. That's what politicians tell their people, but that's not the truth.

So, what are, if not tariffs, ways to incentivize countries like the United States to build internally? To build semiconductor chips internally, for example?

Well, exactly. Tariffs are a way to punish foreigners, but what you really want to do is strengthen your own domestic competitiveness. I want to draw an analogy to the U.S.-Japan competition in the 1980s. Japan actually took over in many parts of the semiconductor industry, even though the microchip was invented in the U.S.

But guess what happened? It actually drove more competition and more mobilization in the U.S., creating this innovation system and changing a few really critical laws that helped with U.S. innovation. The consumers benefited, and the U.S. took over again as the leader of the semiconductor industry.

There's no better way than to strengthen yourself to be competitive, because ultimately, tariffs have not done anything to help the U.S. The trade deficits have widened since Trump, right? They haven't closed the imbalance with China or with the rest of the world, because ultimately, the U.S. saves less than it invests, and that's a macro phenomenon. It's not a trade phenomenon.

But I fear that the U.S., by dropping off this global trading network and system, will lose more and more of its power. You have power when you're deeply engaged and embedded with a country. Once you've left it, you actually lose any sort of leverage.

So, there's got to be ways to incentivize industrial policy and build more stuff internally without tariffs, right? You just invest from a federal perspective. You invest in companies, maybe—more carrot than stick toward the domestic, versus stick toward the foreigner. All kinds of subsidies that are justified for the green transition, for innovation, and R&D support for the university system.

The U.S. is the world leader in terms of attracting talent. It has everything going for it, but it was a little bit complacent. By dropping off that global network, it's going to do itself more disservice. Tariffs don't quite make sense to me, but maybe I'm dumb. It just doesn't make sense.

It doesn't make sense to economists, either, and economists are not all dumb.

All right. You did mention immigration a little bit. You said that, in your own experience, the U.S. was much more open to immigration in the past. What do you think about this on the human side—the protectionism and the closing of the borders that the U.S. is doing? What are the pros and cons of that from an economics perspective?

On U.S. immigration? Well, you see, I understand both sides of the story, to be very honest. I also understand a bit of the protectionist streak, not only coming from the U.S., but also from Europe and various parts of the world, which is going to be a trend.

I understand that before you care about people in rural villages in Indonesia, you really care about the northern Brits in this country, and they have not fared well. I understand that your jobs may be under threat because of this uncontrolled influx of illegal immigrants.

From a purely economic and rational level, you'd say immigration is very important because it keeps prices down and keeps inflation down. It keeps up the supply, which is very important when you have that much demand. And look, the standards of living have also improved for many people who can afford it, right? Low-cost workers are able to sustain the service economy.

So I understand both sides of the story. I think that in the end, it is a balance, and I do believe—even as an economist—that social harmony, and I come back to this word “harmony” repeatedly, even though as an economist this thing doesn't even exist, is becoming ever more important.

Yeah.

As a nation, some kinds of skilled immigration are actually what makes the U.S. the most technologically advanced country in the world. At the same time, you do have to think about your own citizens, the ones that have had generations and have been around, and you have to think about their livelihoods.

Yeah. The puzzle of social harmony is a fascinating one because you spoke to the long history of China—

Yeah. That was Confucius.

Yeah, that's Confucius. And then there is a kind of social harmony, with a very different set of ideologies, in the United States and in the West broadly. It's all a puzzle, and you do want to have some cohesion, but in the United States, one of its beautiful aspects is the diversity of humans. The continued influx of diversity feeds the machine that makes America great, also, but too much breaks the fabric of that society.

It's such an interesting puzzle, and some of it is that we humans can't balance. You go to one extreme or the other; you just oscillate back and forth. And then politics, especially in the United States, has a red team and a blue team. When the red team is at the top, the blue team just pulls all the way in the other direction, and vice versa. We just kind of oscillate back and forth in this way and hopefully make progress over time.

But I want to come back to the point of choice, right? What makes America so great is that it tolerates instability. It tolerates clashes. It tolerates volatility. Think about the financial crisis—the financial volatility. Again, the U.S. dollar is where it is because of this deep, liquid financial system in the U.S. that no other country has managed to build.

There are clashes everywhere in society, but it is a very diverse country, with all the benefits that brings. It is a highly, highly unequal country, economically speaking. The CEO pay, the businessmen being able to be in top political positions—you kind of balk at that level of cronyism, if you will.

But the U.S. has technological leadership, and it is kind of able to stomach that volatility and clash without breaking apart. Other countries don't have the capacity, the institutions, or the culture to be able to tolerate that and still maintain and keep the society together. So I think it is very interesting, but, yeah, it's a puzzle.

So we talked about the economic side of tariffs, and you mentioned the other red line in the three T's. Can we talk about Taiwan? How important is Taiwan to the Chinese economy and the global economy?

Taiwan has, among other things, TSMC, which is vitally important for the global economy. It's also very important for the Chinese leadership and the Chinese people. You don't want to ask what I think; ask the young Chinese generation. They would one day like to see unification. It's part of the patriotic dream, if you will.

So it's a chip right between the U.S. and China. Everybody is watching Taiwan. But I'd say that this attention is not necessarily good for Taiwan, because all this uncertainty and political risk have meant that investment there has been dramatically curtailed. Mainland China is also a very, very important economic partner to the Taiwanese economy.

I don't have a lot of views about this, but I'd say this: I think there's more political wisdom on the Chinese government's side than we assume outside of China in that strategic ambiguity. Strategic patience, especially given China's economic situation currently, means that more likely than not, if China does really well economically and Taiwan is not doing as well economically, as we've seen over time, this is still the best strategy from China's point of view to resolve these differences.

I think any military action would actually be quite detrimental to China.

So, what's a way to avoid military conflict here? It seems like a red line. Unification is the red line for the United States, and it just feels like a very tense situation. Is there a path forward here that avoids any military conflict, where everybody's happy, from an economics perspective and from a semiconductor-manufacturer perspective also?

Well, first of all, you have to keep the communication channel open, right? There was a risk of that being shut off during the Biden administration, and that's highly, highly dangerous.

You mean U.S.-China communication?

Yeah. There's also something that I think people miss, which is that the soldiers in mainland China are part of the one-child-policy generation, right? There's only one son. Families have only one son.

I think to assume that the Chinese people desire and would be able to forsake that generation for unification purposes, or be able to tolerate lost lives for this, is also a bit of an exaggeration and a stretch.

And I think Chinese people also really care about peace and stability. Chaos is just not part of what they think is good for them. The role that TSMC plays is so critical, given the choke point they have on the rest of the world in the semiconductor industry, which we know is one of the most important industries sustaining the economy, not to mention things like AI and other technologies.

Look, the U.S. has been trying to build another TSMC outside of Taiwan. It's very, very, very slow, right? There is a lot of cumulative knowledge, experience, and skill involved. It's not that easy. The Chinese don't want to see a disruption of TSMC either, because, again, it's vitally important for everybody.

Whilst I don't think that this is necessarily a bargaining chip, because if you really see what the Chinese think about Taiwan, it goes beyond economics. It goes beyond the logical. It is about realizing a dream that even I tended not to place enough importance on. But when I talk to the young people in China, I realize that it's still their dream.

It's just unfortunate that this dream is mixed up in the fact that Taiwan, with TSMC, has been incredibly good at manufacturing. It's an interesting puzzle why it's so difficult to manufacture chips at low cost and at scale. It's just incredible that they were able to do it.

It's an interesting puzzle how China can do it domestically and how the U.S. can do it domestically. And it seems like there's increasing urgency around that. I think if we look out over the next 100 years, the urgency is good because it's probably good for each individual country to be manufacturing the majority of its chips, right? It's just less likely to lead to conflict.

Well, this is the trend: You need to manufacture things that are important for national security. It's not efficient, but it's so-called strategically safer.

You mentioned the one-child policy. Can we speak a little bit more to that? Broadly, what impact has it had on Chinese society and culture? You already mentioned some of the impact on the economics, the culture, and the demographics of China.

It's probably one of the most radical policies that China has enacted throughout its history. The enforcement was very strict. In my class, nobody had a sibling except my friend, who was a twin. Ninety-eight percent of urban households had only one child. The other 2% were twins, which you were allowed to keep, thank goodness.

If you had the good fortune of giving birth to twins, you could keep both. The policy had lots of unintended consequences on the economy and society as well. Maybe on the good side, it's actually a golden age for Chinese women, because Chinese girls never had as much investment in education afforded to them as they had after becoming the only child in the family. You raised a daughter like a son.

And if we look at all the skill gaps, the education gaps, and the returns to education, actually girls fared better, apart from the top, top, top leadership in the Chinese political class. You look at the CEOs of the major companies, in the ministries, and among civil servants—there are a lot of Chinese women.

And actually, recently, if you look at the surveys, Chinese families would prefer to have a daughter than a son because they've seen how much bargaining power you, as a Chinese woman and as a rare bride—or a scarce supply of brides—have. You have raised your bargaining power, and you can command high amounts of dowry. That was the unintended thing about the one-child policy.

And, to the opposite, with the recent relaxation of the one-child policy, women are now encouraged to have as many kids as they possibly can. The flip side of the one-child policy has not necessarily been good for women in the job market, because they think, “Oh, well, you've only had one child. Oh, guess what? You can have another child.” So that's not necessarily good for long-term employability.

It's very, very expensive to have a child. If you have more children—

You spend more, but maybe people don't want to have more children because the cost of having a child is so high. And this is driven by the competition. Why is there so much competition? Because there's a one-child-policy generation, right? You want your child to be the dragon or the phoenix, and you put everything into that one child.

That makes the child more anxious, makes the whole environment more competitive, and in the end, these one-child-policy children don't want to have a lot of kids because they don't want them to suffer what they have suffered. So there are all these unexpected consequences, but also changes to the social fabric.

I'd like to say that it broke the hierarchy of the family, where the parents had the dominant role. Now the kids are the boss. They boss everybody around. They boss the grandparents around.

Yeah.

It relates to the housing puzzle. How is it possible that the Chinese youth can afford this really expensive real estate with their meager income? Well, one common saying is that they have 6 wallets, right? You and your spouse, together with the parents and maybe even the grandparents, would chip in.

So there's this kind of intergenerational family dynamic that makes our models, focused on individual consumption, just completely inappropriate to describe these dynamics. But the demographic side is the other challenge: They were so strict about the one-child policy, and they kept it in place for too long.

Once they decided to loosen it and decided that fertility rates were way too low to sustain the Chinese economy and its future, it was already too late. And now they're finding all kinds of creative ways to make people have more kids. This is not something that they can demand and command in the ways that they can demand and command emerging strategic sectors, right?

So there are all these really interesting social anecdotes where they're encouraging even single women in a highly conservative society to raise children. There's nothing to be afraid of about that. There are lots of support systems going on. I mean, they're radically changing the whole thinking around these kinds of issues.

Well, it seems like even the West—a lot of the developed countries—has a demographics problem. It seems like a lot of countries are not having enough babies.

South Korea has a very, very, very low fertility rate. It's just that, for China's stage of development, it should be having more babies than it is currently having. So the one-child policy accelerated that demographic transition, right? It really squeezed many, many decades into 2 decades.

But my view about the demographic aspects for the economy is not as pessimistic as most people because, meanwhile, we're talking about aging, there are also high rates of unemployment, right? When we're talking about whether there are enough people to do the jobs, we have things like AI and not enough jobs, and these kinds of questions are first-order.

We haven't even figured out the relationship between labor-force productivity—what are the factors of production that will be most important for the future economy?—and so we shouldn't be terrified that there's a looming aging problem. I think the more important question is that skill gap: What kind of skills do we actually need in the economy? What kind of education system should we design in the economy to better suit the country to an ever-evolving and transformative technological society?

Because if that's successful, then we'll be able to respond to whatever puzzle the demographic situation creates.

Yeah. If you look at the most recent evidence on this issue, they found that post-1990 aging economies became richer, not the other way around, which was true for the pre-1990 sample. And the reason is that these aging societies much more rapidly adopted new technologies and automation that actually helped the entire economy.

So should we be panicking about this now, when we're actually also panicking about the fact that there are not enough jobs around? There are other issues that are more relevant for the Chinese economy today.

There are constant predictions of China's economy collapsing. You have pushed against that narrative, but you've also spoken about some of the challenges it's going through. What's the GDP going to look like? Is the Chinese economy going to collapse? Is it going to flourish? What do you think?

Collapse is such a strong word, and the West has been using this word repeatedly, if I remember correctly—maybe 4 to 5 times, maybe even 6 times since the 1980s, during the period of China's fastest growth.

I tend not to think that the Chinese economy will collapse, but will the slowdown continue? Will it be able to lift up again? Will it be able to come out of this cycle soon? I think that's more relevant, and the Chinese economy has a lot of potential because the fundamentals are still there.

All right, when we talk about the fundamentals, it's the skills, it's the human capital, it's the physical capital, it's the macroeconomic stability, and political stability. That's a lot going for a country if you look around the world right now, right? And this is why the entrepreneurialism is still there, because the fundamentals are there.

Even though the economy is weak, consumers are not confident, and private investment is insufficient, the fundamentals are there. Is China where it should be? Far, far, far from it, because China's potential based on the fundamentals is at a much higher level of per capita income than where it is currently. It's currently in a $10,000 bracket. This is also a puzzle because you're a $10,000-per-capita-income country that can actually do leading-edge technology and can be neck and neck with U.S. companies in high tech. That's the first time in history.

Even the Soviet Union, which was very technologically advanced, did not have the extent of commercializable civilian technology and the technologies that were pervasive throughout the economy. Fundamentally, we have to understand how much this real estate crisis has impeded the economy and explains the persistent slowdown.

Can you explain the real estate crisis?

A few years ago, there was a crackdown on the real estate sector. Again, it comes back to a lot of the social issues we were discussing. Why aren't people having kids? Maybe it's because housing is too expensive. Maybe it's because the education system is too competitive. The speculative bubbles in real estate are making housing unaffordable, and that's not part of the Chinese social characteristics, right?

When they decided that property investors were going to be reined in and that housing was to be lived in, not speculated on, it really brought down the whole sector in terms of investment and financing. Ultimately, it made such a massive dent in the economy because it embodied the 2 fundamental pillars of the economy: the fiscal system and the financial system.

Coming back to our local mayor economy, where did you think the local mayors get their funds? Through real estate. They sold land. Real estate developers came in. They could develop the entire local economy because the services would come in, the jobs would come in, and, by the way, you're an equity owner of the entire city. So you want these property developers around.

Many countries throughout history have had this property transition, right? You need to wean the economy off property. In a good situation, it takes 3 to 5 years. In a bad situation, it can take 10 years. I don't know where China belongs currently.

The real estate collapse also meant that local finances, local government finances, shrank dramatically. Real estate was a really important part of the financial industry, and that brought it down. Together, it really had a major impact on the economy.

But also, from the consumer side, their wealth was primarily tied to real estate—not the stock market or other kinds of investment opportunities. It was real estate, so they felt poor and consumed less.

So, in the spirit of understanding China better, maybe to get a bit of your advice, if I were to visit China, what's the right way to visit? To experience it, to see the people, to talk to other people, maybe outside of the big cities? Is there any advice you can give to somebody going to China?

Check out IShowSpeed.

Mhm.

His travels into China.

Yes.

I think they represent a more dynamic reality than just visiting Beijing, Shanghai, and Shenzhen, the big cities. I actually think a lot of the opportunities, especially economic opportunities, are in the second- and third-tier cities now in China.

There's a return of talent. These companies—Pop Mart, for example—are coming from these second-tier cities that care about the local economy and fun entertainment. That's what the new generation is about. They don't want to be on some factory line, doing manufacturing jobs. If you think that the Chinese new generation is still all about that, you should really study them a little bit more.

They're all about making their lives more fun and more interesting, right? That's the cycle. In the beginning, Chinese people are hungry. They want to look for jobs, and they find these jobs in manufacturing. Now, they want a work-life balance. They are spearheading fashion, right? They spend so much more on entertainment, travel, clothing, and restaurants.

They have come out with these amazing coffee chains that have completely beaten Starbucks within a very short amount of time. This is all the new generation. Where are the opportunities? They're in the local areas. It's all about localism, not globalism—localism. Being rooted in your local economy, you will actually find so many more opportunities.

You go to Chongqing—I was watching a video about Chongqing, and I thought we were in Shanghai. I was so surprised. You go to Chengdu, and it's fun. People work a little bit less, but it's really exciting. It's very fun. People are really nice. Go take a look for yourself. There are ski resorts being opened there.

You have a very interesting, colorful, dynamic, complex country, and it's not defined by Beijing and Shanghai.

So, the small cities are flourishing and are developing a personality of their own.

They are flourishing more than the first-tier cities.

Interesting. What's the most beautiful thing to you about China and its people that you wish more people knew?

Behind all this competition and ambition, you have a very genuine group of people. They are funny. They are community-based. They are authentic.

Actually, it's not contradictory, right? You have a society which is heavily controlled, but they find ways to be truly, truly authentic. Ultimately, they're just a very social group.

Again, I keep coming to this lonely aspect of Western society and increasingly living alone. That is not China. It's still a very warm country. They're warm to foreigners, and they are friendly.

I'm very grateful for you being a voice of balance, a voice of reason in this world, and for the book you've written on China that a lot of people deeply respect, and for talking today. Keyu, thank you so much. This is an honor.

Great to be with you. It's a pleasure.