China’s Record Trade Surplus and Washington’s Financial Trump Card

KEY POINTS

Chinese mercantilism is the world’s biggest distortionary force in trade. In 2025, China’s nearly $1.2 trillion trade surplus set a new record. While much discussion revolves around China’s unprecedented commitment to industrial policy and suppressed household consumption, more focus must be directed to its deliberately undervalued currency.
China’s currency remains persistently undervalued by policy design. Through capital controls, state-bank intervention, and managed exchange-rate expectations, Beijing suppresses renminbi appreciation, effectively subsidizing exports, sustaining trade surpluses, and blocking the normal adjustment toward higher consumption and lower saving.
Tariffs are a necessary but not sufficient response. While U.S. tariffs have reduced direct imports from China, Beijing has simply rerouted excess production through less protected markets.
China’s trade surpluses mask a deeper financial vulnerability. While persistent surpluses project industrial strength, they also force China to depend on the U.S.-led financial system to absorb and recycle excess savings, exposing Beijing to leverage it cannot escape without allowing currency appreciation or dismantling the export model itself.
Washington’s trump card is financial, not commercial. Because China’s surplus depends on continued access to U.S. dollar markets to recycle excess savings, the United States should leverage its financial toolkit—capital-flow measures, reserve-accumulation authority, and conditional market access—to raise the cost of surplus recycling and force adjustment where tariffs alone cannot.

China’s trade surplus has crossed a dangerous threshold. In 2025, it exceeded $1 trillion for the first time, surpassing the previous record of $993 billion (figure 1). China’s internal imbalance is also widening. Exports rose 5.5% over year, while imports were flat—clear evidence of weak domestic demand and continued reliance on foreign markets to sustain output; exports composed 33% of China’s GDP growth in 2025, its highest share in nearly 20 years (1).

FIGURE 1:

This is the largest trade balance ever recorded by a single country, providing further evidence that Chinese mercantilism is the world’s biggest distortionary force in trade (2,3).

A Structural, Not Cyclical, Imbalance

China’s trade surpluses reflect its unprecedented commitment to industrial policy, which now exceeds 4% of GDP, several times higher than that of other developed countries (4,5). Yet even this estimate understates the true extent of China’s industrial support, which includes extensive local government subsidies, below-market credit, discounted land and energy, supply-chain-wide support, regulatory favoritism, procurement preferences, and state equity stakes (6). These efforts have transformed China into a manufacturing powerhouse over the past three decades, during which time it grew its global manufacturing share from just 5% to 35% (figure 2).

FIGURE 2:

At the same time, consumption within China has remained relatively low. This largely owes to its development model, which prioritizes industrial scale, export competitiveness, and state-led investment over household income growth (7). In addition, China’s weak social safety net — just 10% of its GDP goes towards social services compared to 20% in the U.S. and 30% in some European countries — promotes household savings (8). As such, China’s growth has become principally dependent on exports (figure 3).

FIGURE 3:

The Currency Dimension

In addition to industrial policy, Chinese firms benefit from an undervalued currency, which effectively subsidizes its exports (9). That is because the value of a country’s currency sets the price on tradeable goods. To that end, an undervalued currency encourages exports, by lowering their price for importers.

In a normal trading system, large and persistent trade surpluses trigger automatic corrections:

(1) currency appreciation — chronic and persistent trade surpluses create high demand for the exporting country’s currency, which raises its value. In this case, China’s currency, the renminbi (RMB), should strengthen.

(2) savings decline — a stronger currency makes exports less competitive, compressing profit margins in export industries and reducing retained earnings, which lowers national saving.

(3) consumption rises — as the currency appreciates, imports become cheaper, raising household purchasing power and shifting growth toward higher domestic consumption.

In practice, none of these corrective mechanisms are operating in China — the RMB remains deeply undervalued by many real-exchange rate measures (figure 4); national saving remains extraordinarily high at roughly 45% of GDP, among the highest in the world; and household consumption remains chronically weak, accounting for barely 38% of GDP, far below levels seen in other major economies despite decades of persistent trade surpluses (10).

FIGURE 4:

Tariffs aren’t enough

Even as tariffs have reduced direct U.S. exposure to Chinese goods, they have not forced macroeconomic adjustment in China itself. Although Washington’s tariffs have contributed to a 20% reduction in imports from China, the lowest levels in 20 years, Beijing more than offset those declines by redirecting its excess production into less protected markets like Africa, Southeast Asia, and the European Union (figure 5).

FIGURE 5:

This reveals the limitations of tariff policy: absent coordinated action, trade remedies applied by the U.S. are inherently limited. China has already demonstrated its ability to reroute excess production away from more protected markets and into regions with weaker trade defenses, preserving output while avoiding adjustment.

Tariffs are necessary, but they are not sufficient to address China’s mercantilism. Consider, for example, that China now accounts for a larger share of global exports (17%) than the United States does of global imports (13%). This affords China flexibility to divert trade away from the United States. In addition, China’s high global export shares across multiple products limits the effectiveness of tariffs (figure 6).

FIGURE 6:

Moreover, China is dominant in key areas of the supply chains for critical industries. For example, they supply 90% of the world’s rare earth elements — minerals integral to the production of consumer electronics, motor vehicles, medical devices, and the like — 79% of the cathodes and 92% of the anodes in batteries; and 33% of worldwide legacy chip production capacity. Looking at just the United States, China supplies more than 70% of the active pharmaceutical ingredients like ibuprofen (90%), tetracyclines (82%), vitamin C (74%), acetaminophen (72%), and penicillin (31%) (11).

This level of upstream and midstream concentration gives China leverage that extends well beyond finished goods trade, limiting the effectiveness of tariffs and allowing Beijing to sustain output and exports even as individual markets attempt to restrict access.

The Real Constraint China Cannot Evade

China’s industrial prowess masks a deeper vulnerability: its dependence on the U.S.-led financial system. When a country runs a trade surplus and seeks to prevent its currency from appreciating, it must recycle the resulting foreign-currency earnings abroad — by purchasing foreign bonds or equities, lending capital overseas, or accumulating the foreign currency in official reserves — thereby offsetting upward pressure on the exchange rate.

In China’s case, those surpluses are largely stored in safe, dollar-denominated U.S. financial assets. This is where Washington’s real leverage lies. The dollar remains involved in roughly 90 percent of global foreign-exchange transactions and is used in more than half of global trade invoicing, despite the United States accounting for a small fraction of global trade (figure 7).

FIGURE 7:

Further, U.S. financial markets are uniquely deep, liquid, and legally secure (12). In contrast, the policies that sustain China’s export model are incompatible with a deep, trusted financial system. For example, China maintains strict capital controls that limit the free movement of funds, manages the renminbi to suppress appreciation rather than reflect market conditions, and subjects its bond and equity markets to heavy state intervention.

Pricing, liquidity, and exit are all ultimately political decisions, not market outcomes. As a result, investors — foreign and domestic alike — cannot rely on transparent price discovery or the ability to exit freely in periods of stress, preventing China from developing the kind of credible investment market required to absorb its own trade surpluses.

At the same time, China’s lending to low- and middle-income economies through its Belt-and-Road Initiative has produced widespread distress, rollovers, and hidden losses for Chinese state banks (13). That is why the United States is now the single largest destination of Chinese state-linked capital, despite a falling share of Chinese exports (figure 8).

FIGURE 8:

Washington's Financial Trump Card

China’s dependence on U.S. financial markets is the mirror image of its trade surplus. The same system that absorbs Chinese exports also absorbs Chinese savings. That dependence creates leverage, allowing the U.S. to set the terms of access. Persistently undervalued currency, unlimited surplus recycling, and frictionless entry into U.S. financial markets cannot coexist indefinitely. Washington should act accordingly:

First, currency misalignment must be treated as a core trade distortion, not a background variable. Persistent undervaluation achieved through state banks and managed expectations is no less distortive than direct intervention.
Second, trade remedies must evolve. Tariffs on China should be calibrated to real exchange-rate misalignment, not just a response to state-subsidies.
Third, tariffs alone are insufficient. The United States should deploy capital-flow tools, reserve-accumulation authority, and other macro instruments to counter one-way pressure and neutralize surplus recycling. In practice, this would mean deploying targeted capital-flow measures — such as withholding taxes or user fees on surplus-country financial inflows, differentiated treatment of official reserve accumulation, and limits on foreign purchases of U.S. safe assets during periods of sustained imbalance — to raise the cost of one-way surplus recycling. These tools would not block capital outright, but would counter persistent, policy-driven inflows that exist solely to prevent exchange-rate adjustment, restoring symmetry between trade and financial openness.
Finally, Washington should coordinate with both advanced and emerging economies facing the same import shock. This is not a bilateral dispute between the U.S. and China alone. This is more a systemic imbalance that impacts many countries.

China will not rebalance voluntarily. Its political economy does not allow it. Continued “stability” in the exchange rate guarantees larger surpluses, deeper overcapacity, and rising global friction.

References

(1) Miao, “China Reports Robust Economic Growth, Thanks to Resilient Exports.” WSJ. January 19, 2026.

(2) Tooze, “What to Make of China’s Trade Surplus.” Foreign Policy. December 12, 2025.

(3, 6) Magnus, “China’s Industrial Policy is Destroying its Economy.” FT. September 25, 2025.

(4) Macia-Garcia, et al. Industrial Policy in China: Quantification and Impact on Misallocation. International Monetary Fund (IMF). August 8, 2025.

(5) Bikenbach, et al. “Foul Play? On the Scale and Scope of Industrial Subsidies in China.” IFW Kiel Institute for the World Economy. April 2024.

(7) Wang, et al. “The Real China Model,” Foreign Affairs. August 19, 2025.

(8) Wang, Breakneck: China’s Quest to Engineer the Future. p.34. August 26, 2025.

(9) Sandlund. “Beijing Urged to Let Renminbi Strengthen.” FT. January 7, 2026.

(10) Lyons. “China Needs to Take a Long-Term View and Let the Renminbi Rise.” FT. June 23, 2025.

(11) Kubota. “How China’s Chokehold on Drugs, Chips, and More Threatens the U.S.” WSJ. November 4, 2025.

(12) Plender. “How the Bubble Bursts.” FT. January 3, 2026.

(13) Hong. “China’s BRI Problem: From Builder to Debt Collector.” June 24, 2025.

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China’s Record Trade Surplus and Washington’s Financial Trump Card