As 2025 ends and 2026 approaches, Fitch Ratings is reminding China investors why it may be time to fasten those seatbelts.<\/p>\n
On Wednesday (December 17), Fitch downgraded<\/a> troubled homebuilder China Vanke Co to \u201cC\u201d status from \u201cCCC-\u201d at a moment of maximum suspense for the last survivor of a years-long property crisis<\/a>. The move adds to the strains on Vanke as it scrambles to avoid a default.<\/p>\n It hardly helps that November data on China\u2019s economy suggest the outlook is losing momentum almost across the board. That includes new signs of weakness in already underwhelming consumer spending and investment.<\/p>\n New home sales in China\u2019s 70 biggest cities continue to ratchet lower, falling 0.39% from October, a month in which prices dropped 0.45%, the largest decline in a year.<\/p>\n This matters because we\u2019re more than a year past strong pledges from President Xi Jinping and Chinese Premier Li Qiang to roll out bold and creative measures to stabilize the property sector. Clearly, they\u2019re not working as advertised. At the same time, China is entering its fourth year of deflation.<\/p>\n \u201cPolicy support should help drive a partial recovery in the coming months, but this probably won\u2019t prevent China\u2019s growth<\/a> from remaining weak across 2026 as a whole,\u201d says Zichun Huang, China economist at Capital Economics.<\/p>\n Barclays economist\u00a0Yingke Zhou says that \u201cwith supply indicators still exceeding demand indicators, we think China\u2019s deflation pressure could persist and its export-led growth model continue, which could lead to rising trade and investment tensions between China and non-US economies.\u201d<\/p>\n If we\u2019ve learned anything from Japan\u2019s plight these last 30 years, it\u2019s that a drip, drip, drip response to deflation<\/a> doesn\u2019t work. By the time Tokyo grasped the magnitude of the deflationary forces its bad-loan crisis had generated, it was too late. Even now, Asia\u2019s No 2 economy is struggling to move past those mistakes.<\/p>\n Clearly, any comparisons between today\u2019s China and Japan circa 1995 are imperfect. But the drag from a sector that long accounted for between a quarter and one-third of China\u2019s annual growth is why \u201cJapanification\u201d chatter is stalking Xi\u2019s economy into 2026.<\/p>\n And it could complicate China\u2019s outlook for years to come as the property reckoning collides with a 47.5% US tariff. While way down from Donald Trump\u2019s earlier threatened 145% import tax, it\u2019s still a perilously large levy for an export-driven economy like China\u2019s. Particularly as it struggles to recalibrate economic engines toward more domestic demand<\/a>.<\/p>\n So far, Team Xi has been very savvy in pivoting away from the US market. Since the Trump 1.0 trade war from 2017 to 2021, Beijing exported more to Southeast Asia and Europe than to the US. The fact that China\u2019s trade surplus topped US$1 trillion for the first time in November \u2014 despite the sky-high tariffs<\/a> \u2014 was likely enough to ruin Trump\u2019s month.<\/p>\n But the surplus also highlights China\u2019s domestic weakness. As exports\u00a0rose 5.9% year on year<\/a>\u00a0in November, imports were up just 1.9%. Growth in overseas shipments is masking the extent to which Chinese households are sitting on\u00a0$22 trillion<\/a>\u00a0in savings they stubbornly refuse to spend.<\/p>\n The return of default risks among large property developers could further undermine household confidence. Not so much for global investors, though. They\u2019re rushing back into Chinese stocks<\/a>. But they are largely feeding off widespread tech optimism as the global artificial intelligence (AI) boom continues apace.<\/p>\n Global funds are also responding to the latest Five-Year Plan for 2026 to 2030. Investors were cheered by its focus on \u201chigh-quality growth<\/a>\u201d and reforms, including strengthening capital markets, stabilizing local government balance sheets, modernizing regulation and supporting innovation. Ditto for plans to accelerate China\u2019s self-reliance in tech.<\/p>\n The plan\u2019s emphasis on boosting domestic consumption through structural upgrades also boosted sentiment. In other words, building bigger and more resilient social safety nets to encourage households to save less and spend more.\u00a0<\/p>\n That\u2019s easier said than done in China, though. While investors<\/a> are reacting to clues from government officials on high, households are looking at trade war without end, tepid wage growth, near-record youth unemployment, a global economy in disarray, their home values \u2014 or those of people in their family or social obits \u2014 ratcheting lower and a Communist Party talking about bold solutions that seldom seem to materialize.<\/p>\n China\u2019s 1.4 billion people also understand better why the \u201caround 5%\u201d economic growth target can be more about marketing than reality, with the suggestion that Xi\u2019s team fabricates rosy GDP figures. That\u2019s because the single GDP figure Beijing publishes each quarter bears little resemblance to the average economic experience across the nation\u2019s 22 provinces.<\/p>\n Indeed, Xi\u2019s party is very skilled at keeping certain uncomfortable facts out of the informational channels. Social media algorithms make this easier, as they can be recalibrated in real time if too many sensitive or downcast news items are circulating. Yet the lived experience of the Chinese masses can\u2019t be spun.<\/p>\n Here, consider the trouble US President Donald Trump is having convincing Americans that the affordability crisis is a \u201choax<\/a>.\u201d Hence the confusion among Wall Street this week that the core consumer price index, which excludes food and energy, rose a less-than-forecast 2.6% in November from a year ago, the smallest increase since 2021.<\/p>\n This, of course, follows the Trump administration\u2019s clumsy efforts to neuter the independence of the US Bureau of Labor Statistics, including firing the agency\u2019s head. The whole exercise exudes Politburo energy.<\/p>\n Analysts at EY-Parthenon called it a \u201cSwiss Cheese CPI report,\u201d while William Blair analysts called the data \u201cdelayed and patchy.\u201d TD Securities titled its report on the murkiness of the US inflation picture \u201cLost in Translation.<\/a>\u201d<\/p>\n \u201cThis one-of-a-kind report produced anomaly after anomaly, almost all pointing in the same direction,\u201d\u00a0says Stephen Stanley, economist at Santander. \u201cI think it would be unwise to dismiss the results entirely, but I also believe it would be rash to take them at face value.\u201d<\/p>\n Likewise, it\u2019s hard to tell the Chinese that their personal financial worries are not valid. These efforts at spin will become even harder as the seatbelts come out.<\/p>\n The good news is that few China watchers think Vanke\u2019s potential default will trigger China\u2019s \u201cLehman moment.\u201d If defaults by much larger developers, such as China Evergrande Group and\u00a0Country Garden Holdings, didn\u2019t shock global markets, Vanke might not either.<\/p>\n Yet there may still be a reluctance to let Vanke fail. At the moment, the cash-strapped property company is holding frantic meetings with investors holding 2 billion yuan (US$283.99 million) of its bonds to avoid a default. That, in turn, could put as much a $50 billion of debt<\/a> in harm\u2019s way and unnerve broader markets.<\/p>\n Mark Dong, co-founder of Minority Asset Management, tells Reuters that he expects bondholders to reach an agreement with Vanke to extend payment during the grace period. \u201cA deal is better than default,\u201d Dong notes. The game, he adds, is for bondholders \u201cto push Vanke to make its biggest effort and show the most sincerity.\u201d<\/p>\n Yet no one can say where this is headed. As Japan demonstrated, Shenzhen-based Vanke would be better off getting a likely default over with sooner rather than later. Delaying such reckonings, market history shows, often increases the scale and magnitude of the eventual crash.<\/p>\n True, there\u2019s a psychological element here that may worry Vanke officials and regulators alike. Unlike Evergrande and other developers who let over-leveraging get the better of them, Vanke had long been thought of as the adult in the room \u2014 the best-run and most profitable of the top developers. So its stumble is a big blow to China Inc\u2019s hopes that the property crisis is finally easing.<\/p>\n At the very least, Vanke\u2019s troubles augur poorly<\/a> for yuan bears. Anyone betting on a weaker yuan must now confront what that would mean for the massive piles of foreign currency-denominated debt developers would have to pay with a weaker exchange rate.<\/p>\n It\u2019s a recipe for even more defaults. That risk could limit the People\u2019s Bank of China\u2019s latitude to cut benchmark interest rates to battle deflation. \u00a0<\/p>\n Deutsche Bank economist\u00a0Yi Xiong\u00a0says that, based on the bank\u2019s figures, overseas financing by Chinese enterprises is still mainly in foreign currencies. Outstanding dollar-denominated bonds total roughly $750 billion, about one-third of which mature in the next two years.<\/p>\n