Morgan Stanley raises China growth forecasts, but the recovery remains a "two-speed economy" driven by exports and capex.

Overview

This is a China macro midyear outlook report. Morgan Stanley believes the Chinese economy is being driven by the export engine, and that the diffusion of AI, the semiconductor and power equipment chains, and energy-transition capex are jointly improving the growth outlook, so it raises its 2026 and 2027 real GDP forecasts. At the same time, the report emphasizes that the economy shows a clear "two-speed" pattern: external demand, strategic manufacturing, and infrastructure-related investment are relatively strong, while household consumption, employment, real estate, and endogenous price momentum remain weak.

Core views

The core view is: first, strong exports and supply-chain resilience are enough to offset part of the oil price shock and keep China gaining global export share; second, AI and the green transition are creating a capex supercycle, but the near-term transmission to employment and consumption is limited; third, reflation is mainly coming from energy and import costs rather than a self-reinforcing loop formed by wages, consumption, and corporate pricing power; fourth, policy will remain in a "support the floor, not lift the cycle" mode, relying more on liquidity operations, targeted credit, and quasi-fiscal tools rather than broad rate cuts, reserve-ratio cuts, or additional fiscal budgets; fifth, the RMB has room for modest appreciation, but the central bank is unlikely to use exchange-rate appreciation as the main tool to solve structural imbalances.

Analysis framework

The report uses a macro forecasting framework, decomposing GDP into expenditure items such as exports, consumption, government consumption, fixed capital formation, and inventories, and combines this with scenario analysis on export share, oil price shocks, AI capex, fixed asset investment, employment transmission, inflation transmission, and the policy reaction function. It also draws on Japan’s experience of escaping deflation to compare whether China’s current reflation has the wage-price spiral and demand-side policy support.

Methodology notes

• Macro growth decompositionExpenditure-side GDP decomposition

  Break real GDP growth into household consumption, government consumption, fixed capital formation, net exports, and inventory changes.

  The report uses this framework to show that the support from net exports and investment for 2026 growth is strengthening, while the contribution from household consumption is weakening, reflecting China’s two-speed economy structure.

• Price and inflation analysisImported reflation versus endogenous reflation distinction

  Distinguish price increases driven by energy and import costs from sustainable reflation formed by improvements in wages, demand, and corporate pricing power.

  The report believes China’s 2026 PPI, CPI, and GDP deflator will rebound, but mainly because of energy prices and AI/green-transition demand, while the transmission into core consumer prices remains limited by weak domestic demand.

• Technology diffusion analysisAI diffusion J-curve

  In the early stage of a transformative technology, labor friction and organizational adjustment costs may appear first, and productivity gains come later.

  The report believes AI should raise total factor productivity and potential GDP over the long term, but its net contribution to growth in 2026-2027 is limited, and it will intensify employment pressure for young workers and white-collar employees.

• Policy reaction functionFloor support rather than stimulus lift

  When exports and first-quarter growth are strong, policy tends to maintain stable support rather than launch large-scale countercyclical stimulus.

  Based on this, the report removes its forecasts for additional fiscal expansion and extra monetary easing in the second half of the year, and expects policy to rely more on targeted tools and quasi-fiscal support.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• China macro growth

  Core research subject

  Strengths

  Strong export resilience, AI and energy-transition capex provide structural support, and the 2026/2027 GDP forecasts have been raised.

  Weaknesses

  Household consumption, the labor market, real estate, and endogenous inflation momentum remain weak.

  Comparison

  Compared with the previous forecast, growth and the GDP deflator were raised; compared with a broad recovery cycle, this round of improvement is narrower and more dependent on external demand.

  Risks

  A weakening of external demand, a larger oil-price shock, or continued policy bias toward the supply side could hurt rebalancing.

• Renminbi

  Macro and FX view

  Strengths

  Strong exports, relative growth outperformance, and a weaker dollar support modest RMB appreciation.

  Weaknesses

  Domestic demand and prices remain soft, and the central bank is unlikely to allow the exchange rate to appreciate too quickly and intensify growth pressure.

  Comparison

  The report lowers its 2026 year-end USD/CNY forecast from 7.00 to 6.75, with the pair potentially moving toward 6.70 in the near term.

  Risks

  If the dollar rebounds, an oil shock triggers global risk aversion, or China’s exports weaken, the RMB’s appreciation room could be limited.

• AI, semiconductors, data centers, and power equipment chain

  Structurally benefiting sectors

  Strengths

  AI capex, computing infrastructure, data centers, and power demand form a medium-term growth engine, benefiting China’s electronics and capital goods supply chains.

  Weaknesses

  The near-term diffusion into productivity is limited, and job substitution plus corporate earnings pressure may offset part of the growth contribution.

  Comparison

  Compared with the traditional export cycle, these industries are more capital-intensive and more automated, so their employment pull is weaker than in the past.

  Risks

  If AI diffusion is mainly used for cost reduction, it may intensify pressure on young and white-collar employment and suppress consumption.

• Renewable energy, the "new three," and green-transition export chain

  Beneficiary of higher export share

  Strengths

  Middle East conflict and energy-security needs may accelerate global demand for renewable energy and power equipment, and China accounts for more than 80% of key solar manufacturing.

  Weaknesses

  Some industries, such as solar, have severe overcapacity, limiting room for new investment.

  Comparison

  Combined exports of solar, batteries, and EVs rose 70% year on year in March to $21.19 billion, showing strong external demand.

  Risks

  A global trade slowdown, price competition, anti-involution policies, and overseas trade barriers may limit profit improvement.

• Real estate and related domestic demand chain

  Main drag

  Strengths

  The drag may ease marginally, and some second-hand home sales in certain cities are showing signs of localized recovery.

  Weaknesses

  New starts, land sales, and the construction pipeline remain weak, and the report expects real estate investment to stay subdued.

  Comparison

  In sharp contrast to exports and strategic manufacturing, real estate remains the weak side of the two-speed economy.

  Risks

  If housing prices and investment continue to adjust, they will weigh on employment, household wealth effects, local government finances, and consumer confidence.

Key data

• 2026 real GDP growth forecast4.8%Raised by 0.1 percentage point from the previous forecast.
• 2027 real GDP growth forecast4.7%Raised by 0.1 percentage point from the previous forecast.
• 2026 GDP deflator forecast0.5%Raised by 0.3 percentage point from the previous forecast.
• 2026 nominal goods export growth forecast10%The forecast for real goods export growth is 9%.
• 2026 net exports contribution to real GDPabout 1.3 percentage pointsLower than the about 1.6 percentage points in 2025, but still a key growth driver.
• 2026 private consumption growth forecast3.7%Below 2025’s 4.5% and also below overall GDP growth.
• 2026 real fixed capital formation growth forecast3.5%Above 2025’s 2.0%, supported by AI capex, infrastructure, and some manufacturing investment.
• 2026 PPI forecast1.5%Turns positive from 2025’s -2.6%, driven by energy costs and AI-related demand.
• 2026 CPI forecast0.8%The core CPI forecast is 1.1%, and transmission to consumer prices remains limited.
• 2026 expanded fiscal deficit ratio forecast11.7% of GDPExpected to be unchanged from the level set by the March National People’s Congress, with no additional budget in the second half.
• 2026 year-end USD/CNY forecast6.75The previous forecast was 7.00, and the pair may move toward 6.70 in the near term.
• AI impact on potential GDP levelabout 3.5 percentage points higher than the no-AI path by 2035The report estimates that AI can cumulatively lift TFP growth by about 3 percentage points over the next decade.

Impact & implications

The implication for investment and macro judgment is that China’s growth resilience mainly comes from external demand, AI infrastructure, data centers, power equipment, renewable energy, and the high-end manufacturing chain, rather than a broad recovery in the household sector. Assets linked to exports and strategic capex may continue to receive relative support, while the property chain, low-end services, and consumption recovery still face employment and income constraints. Expectations for policy easing need to be revised down, narrowing the room for rate and fiscal-stimulus imagination; meanwhile, the RMB is more likely to strengthen modestly along with the dollar cycle and export resilience.

Risks

• If the oil shock turns into a demand-destroying global recession, weaker exports, margin compression, and lower capacity utilization could re-accelerate deflationary pressure.
• If strong external demand proves unsustainable, export support for growth and employment could fade quickly.
• AI diffusion may first lead to job substitution, especially affecting junior white-collar roles, mid-level professional roles, and labor-intensive services.
• If support for domestic demand and social welfare reform progresses slowly, precautionary savings may remain high and consumer recovery may stay limited.
• Continued weakness in new property starts and land sales may keep weighing on nominal GDP, employment, and local government finances.
• Continued policy bias toward the supply side and strategic capex may delay consumer rebalancing and the formation of endogenous reflation.

What to watch

• Whether 2026 export orders and global export share continue to improve, especially in the new three, power equipment, electronics, and AI-related categories.
• The second-order impact of oil prices and the Middle East conflict on global demand, trade, and China’s import costs.
• The intensity of AI capex implementation in data centers, computing power, electricity, and semiconductor chains.
• Whether the youth unemployment rate, PMI employment index, wage growth, and consumption propensity improve.
• New property starts, land sales, second-hand home transactions, and price stability in first- and second-tier cities.
• Whether policy shifts from supply-side support toward more explicit consumption support, social security, and household transfer payments.
• The gap between PPI, CPI, core CPI, and the GDP deflator to judge whether reflation is imported or endogenous.
• The PBoC’s operations around the CFETS RMB basket, USD/CNY fixing, and liquidity tools.