Surviving Involution

How long can China eat itself?

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Hello. It’s been a minute. While this substack has been dormant, I have written a few things elsewhere.

Arena Mag: Choose Your Adventure on defense procurement reform.
Pirate Wires: Shower/Acc on why the future should be comfortable. (I lost contain on that one.)

For any new subscribers, welcome to the adventure. Here’s another one, slightly too long for email. For the best experience, click through to the web.

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The most interesting story in the world right now is China’s economy eating itself. Consumer prices have fallen by 0.1% in the first 6 months of 2025 and industrial prices have fallen by 2.8%. Partially, Trump’s tariffs and reprieves are whiplashing demand and causing a glut of supply, leading to price wars. Enter involution (or 內卷 according to journalist Angelica Oung’s informative post).

Because for some insane reason the Chinese companies don’t focus on “maximizing returns to shareholders” but “minimizing profits so you can kill your competitors.”

They call it being 內卷 or “involuted” although I’ve never understood the meaning of that term either in English or Chinese. I just know what it is.

Imagine a German Mittelstand SME cornered the market in making some obscure but essential widget for more than a century and got the bright idea of outsourcing the manufacturing to China.

For 8-15 years everything works beautiful. Costs plummet and even junior Chinese executives get to fly business class because everyone is so flush. Then, on a cursed day, some Chinese guy figures out how to do it without the Germans.

The $8,000 widget becomes $950 overnight. If you asked him how he arrived at that insane pricing he’ll say “I take my cost. I add my 20% profit. Boom.” But wait! You and the woebegone German are the only ppl on the planet with this technology?

Why not price it at $6000? You’ll make more money because you still significantly undercut the German. You’ll both survive and have more money in your pockets! It’s a duopoly.

Nope! That maniac, even after he buried that Mittelstand that has been passed through multiple generations minting fat profits, will keep cutting costs. Junior executives aren’t flying business no more.

And then he’ll lower prices. On himself.

It’s pathological. I’ve heard Chinese economists beg businesses not to do it. It’s why the stock market in Shanghai sucks. And it’s why the Chinese businesses are beasts.

Involution is not a technical term but a vibe: deliver the same product for less than the other guy. Repeat until one competitor is dead. Angelica’s original post captured how this works for classic industrial products.

Doug O'Laughlin

of Fabricated Knowledge wrote about the same vibe in the semiconductor industry, as Huawei’s ascent in chip design and fabrication powers China’s AI aspirations. Generally, the rule holds: if a Chinese manufacturer can match your performance, it will try to win on price.

Involution, the vibe, is the result of unique Chinese circumstances. In a Western society, involution is a great way to kill a company, comparable to Welchification. But it is China’s national policies that have made it pervasive and expected.

If, like me, you are not immersed in Chinese culture and history, it can be difficult to really understand how a country decided this was a good idea and why otherwise rational actors choose a race to the bottom. Liu He, a visiting scholar at the Hoover Institution stated that, “The perennial deadlock of China knowledge: those who know cannot speak, and those who speak cannot know.” Given China’s secrecy, the picture will always be incomplete, so the best I can do is compile information and cross-reference different sources.

Thankfully, we are in something of a golden age of Western-accessible information about modern Chinese culture, industry, and politics. For those with my insatiable curiosity, I would heartily recommend the linked podcasts and articles:

1. Dwarkesh Podcast: Xi Jinping’s paranoid approach to AGI, debt crisis, & Politburo politics — Victor Shih
   Victor Shih is an expert on the Chinese political system, as well as their banking and fiscal policies, and he has amassed more biographical data on the Chinese elite than anyone else in the world. He teaches at UC San Diego, where he also directs the 21st Century China Center.

2. Dwarkesh Podcast: “China is digging out of a crisis. And America’s luck is wearing thin." — Ken Rogoff
   Ken Rogoff is a former chief economist of the International Monetary Fund (IMF) and author of Our Dollar, Your Problem: An Insider's View of Seven Turbulent Decades of Global Finance, and the Road Ahead.

3. Noahpinion | China's industrial policy has an unprofitability problem
   Noah Smith is an economist and blogger.

4. Yuxi on the Wired | Structure and Interpretation of the Chinese Economy

   Yuxi Liu is a PhD student in Computer Science at UC Berkeley. Generally, I treat Yuxi’s comments as a smart person more fluent in Chinese culture than myself, who has also attempted to synthesize some of these topics. Generally, I am including Yuxi because other sources including Victor Shih and Ken Rogoff highlight similar topics and sentiments that corroborate Yuxi’s summaries.

5. This particular thread by Michael Pettis, Sr. Fellow of the Carnegie Endowment

6. Anything ChinaTalk.

This post is an attempt to synthesize:

• The cultural origins of involution

• How the policy choices to avoid Japan’s economic stagnation produced involution

• The logic of China’s economy that incentivized involution

• How China’s industrial economy is eating itself

• How long China’s economy can eat itself

• Can China stop involution? Will they?

• How Western competitors can survive involution

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The Cultural Origins of Involution

Notably, the story that Angelica is telling is cultural. I do not profess a deep understanding of any eastern culture, so I offer this part as my own interpretation of the origins of this culture. Every culture seems to have its own folk wisdom for expecting and preparing for hardship, from famine, war, pestilence, you name it. This received wisdom can become a virtue, through principles like self-discipline and sometimes even in religion.

Eastern religions and cultures have significant strains of asceticism, that practice both self-discipline and self-denial. My understanding is that Chinese society is influenced largely by Confucianism, Daoism, and Buddhism to different degrees but mostly in that order, and all have strains of asceticism. Confucianism is the most permissive for restrained desires but engagement in society and self-mastery. Buddhism calls for an entire renunciation of desires and worldly-life, and Daosim calls for withdrawal from society and natural simplicity. For Western comparisons, I think of Confucianism as approximate to Stoicism that calls for the endurance of suffering and ethical clarity; whereas Buddhism and Daoism are closer to monasteries and vows of poverty. Involution, then, is these principles applied to business. Costs and price are things that a business can master, expecting to “win” simply by surviving through enduring more pain than competitors. For a people who survived a famine in recent history, it is not difficult to imagine the Chinese people cultivating an ethos that prioritizes survival in the face of immense hardship.

Of course, these attitudes predate their current predicament and yet their economy still grew immensely over the prior decades. Culture changes very slowly, so one would expect these principles to endure into the future as well. This moment is unique, though, because the government incentivized these attitudes, seemingly as an accident, as they attempted to avoid Japan’s own limits to growth.

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Don’t Be Japan

In the 1980s, Japan was the future. Its GDP grew at 3.89% annually, ahead of the US’ own 3.07% during the same period. American college students were encouraged to learn Japanese and work in Japan (Happy Future favorite Patrick McKenzie aka patio11 has referenced these attitudes coloring his own decision to go to Japan straight from college). In the 1990s, this growth came to a screeching halt. From 1991 through 2003, Japan’s economy would only grow at 1%, far below the growth rate for other industrialized countries. This period would become known as the “Lost Decade” and a cautionary tale for other Eastern economies looking to integrate with Western economies.

China carefully studied Japan’s failures to develop their own strategy, per Ken Rogoff, former Chief Economist of the IMF, who offered first-hand accounts of Chinese officials telling him they did not want to end up like Japan. One modification the CCP required to the Japanese formula is that the people doing the work and getting rich do not attain political power. Political power following economic empowerment was a core feature of US-enabled development efforts in Japan and its former colonies of Taiwan, South Korea, and Singapore. Note that the US was not always the one pushing for democracy in those countries, but the US often set the terms for market access and provided powerful incentives to create legitimate governments.

Beyond political power, there were other lessons from Japan’s experience. Taiwan, Japan, and South Korea all followed this path and hit a ceiling of one kind or another. Taiwan essentially maxed out their GDP available for an island, as TSMC became so important it dominated the GDP of the country. South Korea has diversified more successfully and increasingly resembles Western countries, economically and culturally. The CCP would love to fully use every inch of land and to have leading-edge foundries the way Taiwan does, and South Korea’s diverse, industrial economy is desirable if not its inclination towards Western consumerism. Japan’s Lost Decade, though, held a lesson about how the US can sabotage their growth with political pressure.

Ken Rogoff makes the case in Our Dollar, Your Problem that Japan’s troubles fundamentally came from US policy. Through the 1980s, Japan had deliberately controlled its currency relative to the dollar to support an export economy to the US. The export economy was important because it forced local companies to compete worldwide, and only the winners of the global markets would be awarded state support. This strategy worked extremely well, with many Japanese manufacturers outcompeting American manufacturers like Toyota in cars or Intel being forced to focus on CPUs instead of memory due to Japanese competition. Notably, during this time the Japanese pursued their own form of involution. Japanese competitors were known for their obsession with quality and efficiency, but not creating new categories of products. They would relentlessly innovate on the process of manufacturing and deliver low-cost, high-quality products while fighting each other for market share. Profits would come later, what mattered was getting to scale to win international prestige, domestic support for more financing, and to drive out international competition.

These tensions forced US politicians to pick a side: do you want local manufacturing? Or do you want cheap imports from other countries? US politicians largely decided they wanted cheap imports, but enough were sick of Japanese dominance they forced Japan to appreciate their currency. In 1985, Japan and the US would sign the Plaza Accords, which allowed for their currency to make their exchange rate more free. That is the trigger that Rogoff cites for the root of Japan’s lost decade, the 1990s, though other factors like other competitors mirroring their strategy were contributing problems. The crisis would not hit until 1992, though, seven years later.

Yuxi offers a summary of how China perceived Japan’s crisis:

To prepare the ground, several money faucets turned on:

• The lowered interest rate made it cheap to borrow money from banks.

• The Japanese households continued to save over 50% of assets in bank saving accounts.

• The Foreign Exchange Law was reformed in 1980, allowing freer cross-border capital flow.

• Wages remained low in general, as corporations persuaded labor unions to keep wage demands low on the grounds of maintaining international competitiveness. This allowed corporations to keep more money for investment.

• The Japanese state issued less bonds to decrease [the] deficit, leaving more money out of government hands.

The net result was a large amount of money that could flow quickly here and there. Such liquidity is not a bubble in itself, but enables bubbles to form and blow up quickly.

…bank loans were not based on a careful credit rating based on predicted future cash flow, but backed by land.

When this bubble burst in 1991, Japan was stuck. The land alone could not justify the asset’s valuations. Everything would have to be marked down to some new, lower price. The whole economy would slowly mark itself down, slowing investment to a crawl. That process is why the Lost Decade took the course of a decade, rather than one bad year.

In short, there was a lot of good money chasing bad. While the projects may provide some return, they were often below the cost of financing those projects, meaning value was being destroyed. Yuxi and Rogoff both share stories of how aware of this failure mode is among Chinese citizens and party members and how resolute they are in avoiding it.

To summarize, Japan had falsely believed:

• Western integration would always be to their benefit. Their GDP growth was linked, and trusting Western economists meant their economies would always grow together.

• Experimenting with monetary policy is low risk, as decisions can be unwound quickly.

• Credit ratings do not matter.

The lessons the CCP drew include:

• Liberalize trade at your own risk. The US is defending its interests, and liberalizing too fast, if at all, can threaten the whole project.

• Financial crises are to be avoided. A country may never fully recover the lost growth from a financial crisis.

But the core lesson was ignored. Investing below the cost-of-capital is value destructive, but for the CCP, the purpose of investing is not to create profits. It is to preserve control.

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The Logic of China’s Economy

Preserving the power of the Chinese Communist Party (CCP) is the ultimate goal of China’s economic strategy. In the Dwarkesh Patel podcast linked above, Victor Shih states plainly:

“But what time and again leads to suboptimal policy is the Party’s instinct to preserve itself, and in a way worse than that, to preserve its power. It’s not just ‘Let’s do this thing because it will lead to a better public health outcome and we’ll survive politically.’ They’re mindset is, ‘Even if we would survive politically, if doing that would result in a loss of power—like having less control over the banks or scientists becoming more independent—then they would say, ‘Let’s not do that.’”

Modernization and profits are subservient to this goal. If modernization and profits deliver greater control, the CCP supports it. If they reduce CCP control, the CCP is against it. After Mao’s devastating Cultural Revolution, the CCP realized their model for planning an economy was jeopardizing their hold on power, as starvation racked the country. They had to embrace some modernization and market-based approaches to maintain legitimacy and control. After Mao’s death, there was a chaotic political struggle that Deng Xiaoping won. After a tour of Japan, he basically decided the best path to wealth is making stuff for Americans and participating in their markets, which required pivoting away from the USSR. Deng and his disciples would continue to watch Japan’s Lost Decade and attempt to steer around.

Yuxi summarizes the logic of this new economic strategy:

1. The party controls the state. The party controls the military. The party controls the legislature. There must be no separation of powers.

2. The state knows better, because the state aspires to plan over decades, unlike people or companies.

3. China deserves to be a center of civilization. Not necessarily better than everyone else, but must be one of the best.

4. Never forget national humiliation. (勿忘国耻) The international world is a world of anarchy, and might makes right. Backwards countries are beaten. (落后就要挨打)

5. Power comes from technological development. Development is the only hard truth. (发展才是硬道理)

6. To be one of the best, China must catch up to the Western countries.

7. To catch up, it must develop its economy. The economy depends on scalable industries of material products (实体经济), such as steel and silicon.

8. People do not know how they should spend their money. Their money must be extracted to be rolled into investment for the future. The far future is what matters, not the present, and not even the near future. If people are left with too much money, they will waste it.

Combined with the population structure, these principles explain much of the recent Chinese economy.

I would highlight a few other key dimensions, related specifically to manufacturing-based economy:

9. The quality of exports must be high. American consumers don’t have to choose Chinese goods. While there is a market for low-cost, low-quality goods, there is a much bigger market for low-cost, high-quality goods (with cost relative to what it would take other countries to make them).

10. Local supply and demand is key to self-sufficiency, which is key to self-determination for the party. As the Chinese market develops, it will drive demand for local consumption of locally manufactured goods.

11. Even if local demand dominates local supply, exports are important. Exports enable scale, create advantageous relationships with other countries, and deny global competitors from getting traction while creating jobs at home. Those jobs are important for people to have a stake in the system and to create money to be extracted for future investment.

Reflect on Yuxi’s point #8:

People do not know how they should spend their money. Their money must be extracted to be rolled into investment for the future. The far future is what matters, not the present, and not even the near future. If people are left with too much money, they will waste it.

This concept is foundational to a communist political party that barely tolerates personal property. Yuxi highlights that the Chinese stock market did grow 2x, but at a time when their GDP grew 20x. For comparison, the S&P500 grew 4x in that timeframe while US GDP grew 3.5x.

The biggest unwritten tax in China is that the party controls investments. The party determines what anyone can invest in and how much they can make. Their stock market is controlled both directly with controls on prices and indirectly by placing party members in the business unit that can directly choose where to invest. If equity is a bad investment, the only place left to go are the banks, which are nationalized and answer directly to the party. Favored investments get loans, unfavored ones do not. Savings rates are ~2%. Government bonds are 3.5-4%.

Victor Shih explains:

“You can’t go into a bank and say, “Look, I make robotics. This robot I’m going to make is going to be highly profitable down the road, but I can only make ten of them.” The bank would be like, “This is BS." I know a lot of startups don’t make any money, but at some point, notionally, you have to start making money.

Whereas the socialist banking system basically says, “Even if you never make any money, or hardly any money, that’s okay. As long as the Chinese government tells us this is a strategic sector, and as long as you can prove to us that you can actually produce the thing we want you to produce, if you never, ever make money doing it, that’s perfectly fine.” (Emphasis mine.)

To summarize, an industrious Chinese citizen’s options are:

1. Work for the state in government

2. Work for the state in a state-owned enterprise

3. Work for the state in a company

4. Work for the state in a favored area for R&D

5. Gamble Invest in real estate

Guess which one of these became a huge asset bubble? In 2021, China’s real estate bubble burst, which is adding stress to the CCP’s strategy. Chinese real estate had made the same kind of mistake as Japan: they put too much good money after bad. The value of the land was not worth the debt paid for it, and the bubble burst when the government could not stomach loaning to the sector any more, as evidenced by Evergrande Group’s default in 2021. That effectively closed the door on the one asset class the average Chinese citizen could use to build wealth. Since 2021, Chinese workers are extremely dependent on jobs to build any kind of wealth and social mobility.

Victor Shih summarizes this as a philosophical difference between socialism and capitalism:

“For socialism, they only care about output. It’s like, “Okay, whatever capacity we’re thinking about—whether it’s grain production or metal production or, these days, robotics—we just want more of it.” So then the state can use the state banking system, which they control, to allocate huge amounts of capital to maximize the output of all these different things they care about. But when you maximize output, you don’t necessarily make money doing that.

Whereas capitalism wants to maximize profit, which is the difference between the cost of production and the amount you can earn from selling the output. For socialism, they don’t care about that.”

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How China’s industrial economy is eating itself

The first six months of 2025 has seen tremors across the Chinese economy, and the torrent of news and analysis drove my interest in the subject (and why this post has taken so long to come together).

Through May and June, as US tariffs roiled the markets, Chinese prices started deflating, presumably because there was a glut of supply and China had to cut prices even more to keep factories at full utilization (and maximize employment).

CN Wire in May:

JUST IN: China May

Annual CPI -0.1% [Est. -0.2% Prev. -0.1%]
Monthly CPI -0.2% [Est. -0.2% Prev. +0.1%]
Annual PPI -3.3% [Est. -3.2% Prev. -2.7%]
Monthly PPI -0.4% [Prev. -0.4%]
Food price -0.4% y/y, -0.2% m/m.

Industrial profits in particular nosedived:

China's industrial profits fall further in June

BEIJING (Reuters) -China's industrial profits continued to fall in June, data showed on Sunday, as entrenched producer deflation put more margin pressure on businesses in the face of subdued domestic demand and lingering global trade uncertainty… Profits at China's industrial firms fell 4.3% in June from a year earlier, following a decline of 9.1% in May, while first-half profits were down 1.8% versus a slide of 1.1% in the period from January to May, National Bureau of Statistics data showed.

The trend continued in July, signaling their industrial markets were contracting.

The subsidies and incentives of the party dramatically shape the choices of manufacturers. Again, the profits of the business do not matter to their investors i.e. the party. The main thing the party cares about is that they are moving products in a favored market and the subsidies will follow. The secondary thing their investors care about is that they are providing jobs, which keep the public bought into the system that enables them to direct funding.

Today, favored markets are essentially at Xi Jinping’s discretion, and he likes industrial equipment and self-sufficiency. Noah Smith makes the case that China is not really an export-driven economy. 80% of what they produce is for internal use. It’s the remaining 20% that gets sold to the rest of the world. After all, that 80% covers one billion people, so a surplus 20% would cover roughly 250 million people.

Participating in favored markets is just the first step towards getting government funding. After the first Chinese attempt to break into semiconductors with Made in China 2025 turned into a debacle, Xi recalibrated his expectations for how subsidies should be awarded. The policy shifted to something like “pay for performance”. Connections and trust matter, but the party would reward volume. Build things that people want, and the winners will get more money. Wary of subsidizing goods consumers didn’t want, the CCP decided they needed a better product and invited Tesla to participate in China. That allowed Chinese competitors to reverse-engineer Tesla’s success then scale with government subsidies. These new Chinese EV companies could outcompete Tesla with equivalent products at lower prices, thanks to great engineering, free financing, and insensitivity to profits. There are now news articles like China’s EV price war is heating up. What’s behind the big discounts? with facts like, “The average car price has fallen by around 19% over the past two years in China to around 165,000 yuan ($22,900).”

Similarly, after the collapse of the one asset class the average Chinese person could buy to build wealth, the average Chinese citizen is extremely dependent on their job. The party knows this and is paying factories to keep producing units, at least if people are buying. So now the party rewards both overproducing units and selling units, while being indifferent to price. So the answer is to slash costs anywhere they can, keep producing units, keep people employed, and wait for the government to reward this behavior with subsidies.

The result is deflation with consumer and industrial prices falling. Because there are no profits, the only way to keep a company alive or build wealth is to seek government financing, so entrepreneurs’ decisions are constrained in which markets they will compete in, how much they must keep investing in R&D to compete against their peers, and how low they must cut their prices to move units to keep factories full.

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How Long Can Involution Last?

The short answer: a very long time. A company would simply go bankrupt if they invest below their cost of capital. The analysis is pretty simple: how much do they have and how much are they losing every year will tell you how long they can last. They can take on other financing options to extend their runway, typically equity or debt, but even if someone believes the company can change, if they do not, it is still a straight line to bankruptcy. A country is not much different, but its financing sources are more diverse by virtue of having all the guns.

Like most governments, the state of China is funded by the people of China. What I had not fully appreciated is exactly how much they give up to the government. The US thinks in terms of the tax rate, the amount the government takes from any given transaction or source of income/capital. Even California dreams of the level of control of the CCP (sometimes, I wonder, how literally).

A breakdown of tax receipts from China starts with domestic value-added taxes (VAT), corporate income taxes, land and real-estate taxes, import VAT, and consumption taxes. Additionally, they have non-tax revenue from administrative fees, remittances from state-owned enterprises (SOEs), and royalties from natural resource exploitation. Altogether, in 2024, they had ¥174.9 trillion which is roughly USD$1 trillion. In 2024, the IRS collected about $5 trillion in income taxes in the US. Both are running a deficit, with China expecting to spend ¥219 trillion ($1.5 trillion—same source) compared with the US spending $7 trillion. Compare that with China’s 2024 GDP of ~$18.4 trillion and the US GDP of $29 trillion for something like an all-in tax rate of 5% for China and 17% for the US. If taxation is theft, China is the lesser thief.

To bring this back to manufacturing, China has essentially the wealth of the entire country to direct to whatever the party wants, and the party wants to stay in control. While they have effectively $18.4 trillion to direct at self-sufficient industries and own future tech, they do have to balance this against ensuring social stability. CSIS estimates China has put $230B of subsidies towards their electric vehicle program from 2009-2023. The Congressional Research Service estimated the Made In China program, including the EV program, was roughly $426B of subsidy. How much of that debt is going towards productive assets is anyone’s guess, but no one believes it is 100% good. See Michael Pettis’ thread for more discussion of the extent of bad debt.

A naive analysis is that $426B of subsidy out of $18.4T GDP would last for 40-80 years of investment. That is just one year’s worth of GDP even if they never made another yuan off their investments, but the reality is much worse:

• China has to finance every industry

• China does make some money off it even if they do not fully recoup their costs

• China could confiscate the society’s existing wealth that is not captured in GDP,

• China would have to live with the social unrest as their society slowly decays and starves as the government dominates GDP e.g. North Korea.

These are not impossible events. Similar things happened in China under Mao not in the 1960s, though it is hard to believe anyone in the CCP wants to go back there. However, the CCP has realized the national policy is backfiring and already moving to change things.

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Can China Stop Involution? Will They?

Per Bloomberg:

“In July 2025, China’s Politburo vowed to stop what they call “irrational price competition”. President Xi himself called for an end to involution… As China tightens priorities for the next five years in the upcoming October plenum, Xi faces a challenge how to coax CEOs to cut production, consumers to accept higher prices, and local officials not to compete for new investments crowding into the same sectors. Analysts say any supply side reforms will likely be gradual to avoid job losses and painful repercussions for the economy.” (Emphasis mine.)

China’s industrialists are also sounding the alarm. Zeng Yuqun, the founder of battery-manufacturer CATL, highlighted involution as a significant problem in a rare interview in late July 2025 (updated with a translation by Yuxi):

Q: 你现在有企业家普遍的危机感吗？

有，主要来自“卷”。不做研发只卷价格的风气很坏。但也不是没办法。要用新的商业模式去破它。比如换电，大家都卷电池的价格，一搞换电，电池是租的，价格就卷不成了。

Q: Do you feel the same sense of crisis among most entrepreneurs now?

Yes, mainly from "involution". The atmosphere of not doing R&D and only involuting on prices is very degenerate. But it's not like there's no way out. We need to use new business models to break it. For example, change to battery swapping. Everyone is involuting on the price of the battery, but if we begin using battery swapping, the battery is rented, and the involution on battery price is moot.

The primary plan the government has at the moment is restricting loans and consolidation: declare the most competitive companies the winner and direct subsidies to them. For political reasons, these companies may be directed to buy competitors or create jobs in the most politically sensitive provinces. As Michael Pettis noted, the loans are still out there. The CCP can let some companies go bankrupt, it can let the provinces share in some of the pain, but it is constrained by the need for maintaining social order with both jobs and preserving the people’s wealth. Chinese bankruptcy should also not be confused with American bankruptcy, where the company folds but any wealth extracted by executives is theirs to keep. Instead, the CCP will demand money back from investors and founders.

Capitalists tend to assume at that point, with consolidated industrial giants, these companies would be effective monopolies and would then raise prices. I am skeptical that it is realistic.

For one, the government already coordinates action among key industrial giants. For example, Beijing effectively forced the only US producer of rare earth elements, Mountain Pass, out of business in 2015 by cutting prices by 80% before letting prices go back up.

Two, Chinese citizens are struggling to pay their bills and living in a subsidized society, including even things like food delivery. Raising prices in this environment would be painful and would hurt even more if it costs wages.

Three, higher prices hurt exports even more. Tariffs are effectively already driving up the price of Chinese goods, so raising prices more would only hurt sales more overseas. There is not perfect elasticity here, and China has access to markets without significant tariffs, though they are often in developing economies with the least resources to shoulder higher prices.

Bloomberg’s analysts expect China to be able to solve this situation, albeit slowly and painfully over years, not months. I am inclined to agree. Given the logic of the Chinese economy and their multitude of goals, it seems more likely the CCP would prefer a long drag on economic prosperity borne by Chinese citizens rather than a shorter period of immense pain that would risk their power.

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Good luck to you, Spartan.

Western industrialists are not without options in the face of ruthless competition. Yes, there is abundant evidence they are selling below cost in some markets, but even that is cope. Chinese engineers are innovative, highly skilled, and industrious. They achieve things that they set their mind to. The key is that the government will only pay for them to achieve certain things.

Here, it is critical to distinguish between products and commodities. A product is inherently differentiated. It can do something uniquely and has some unique value proposition associated with it. A commodity is intentionally not differentiated but standardized. Rather, it is fungible: copper is copper, electrons are electrons.

Product entrepreneurs have to ask themselves: what can’t, or won’t China do? The main thing they cannot do right now is raise prices, which is the real test of a business. Take it from Warren Buffet:

"The single-most important decision in evaluating a business is pricing power. If you've got the power to raise prices without losing business to a competitor, you've got a very good business. And if you have to have a prayer session before raising the price by a tenth of a cent, then you've got a terrible business. I've been in both, and I know the difference."

To establish pricing power, one has to innovate around the Chinese ecosystem, likely taking risks about where and how to integrate into it. Adding services, guarantees, and complements outside the core of what Chinese firms can offer is critical, as they often give customers certainty for which they are willing to pay. Products relating to economic and national security are mostly isolated from Chinese competition, due to what remains of Western common sense. However, it is imperative that they compete to the same quality level and scale as Chinese competitors to produce a credible deterrent.

Commodity products are a different story.

Justin Lopas

, co-founder and COO at Base Power and formerly Head of Manufacturing at Anduril and a Lead Engineer on Starship Manufacturing at SpaceX, wrote an exceptional post about why Tariffs are an Admission of Defeat, a perspective I share. Still, I worry that this is insufficient to address key bottlenecks in our supply chain. Since Trump launched his tariffs, China has consistently retaliated with its control of rare earth elements. Tariffs are a blunt instrument to establish a floor for importers under which Western companies operate. That price floor might have saved Mountain Pass, but it is not as good as having guaranteed demand. Their mine in the Mojave has since been sold and reformed as MP Materials. What would secure MP Material’s future is long-term supply agreements at fixed prices. The price between what they pay to MP Materials and the market (Chinese) rate is the insurance against Chinese coercion. US industrial policy would do well to incentive those agreements too and foster market competition for them to kickstart a moribund domestic supply chain for commodities we will need.

Ultimately, Western companies must focus on surviving the Chinese manufacturing juggernaut and innovating around it. Involution will not last forever. The CCP does not want their economy to operate this way, it is not intentional, and it is acting to stop it. Their total control of the economy means it will be some other way, though it is still subject to their perceptions of what is in the national interest, which is likely to remain focused on self-sufficiency and strategic competition with the US. China will remain a massive market with a deep pool of talented, hard-working, ingenious people, all bound for the time being to the command of Xi Jinping for as long as he has the strength to stay on top.

The core lessons from their age of involution are the limits of centralized planning, the perils of authorities believing they can make investment decisions better than markets, and the pain inflicted on common people by one party rule. A recurring question in my mind from learning modern Chinese history is, “If the CCP would do this to their own people, what would they do to us?” China will be a force in industry for generations but allowing it to be the only force is no longer an option.