Temu’s Troubles Are New Signs of China’s Coming Economic Disaster

Chinese e-commerce giant Temu is the latest warning sign that the world’s second-largest economy could be headed for disaster caused by overproduction and Beijing’s industrial planning.

PDD Holdings, the parent company of Temu and Pinduoduo, surprised Wall Street on Monday with weak quarterly results and a warning that intense competition would drag down future profits.

Shares fell more than 30%, wiping out $50 billion in PDD’s market value and ending founder Colin Huang’s brief reign as China’s richest man.

In an analysis written ahead of the earnings report, a prominent China expert described the economic situation that helped explain PDD’s problems.

Other China watchers blame the recent stagnation on the housing crisis, the country’s aging population and President Xi Jinping’s increasing control over economic policy.

But the long-term factor is Beijing’s decades-long strategy of favoring manufacturing over everything else, resulting in massive excess capacity, Zongyuan Zoe Liu, a China researcher at the Council on Foreign Relations, wrote in an article Foreign affairs warehouse.

“Put simply, in many key sectors of the economy, China is producing far more than it or foreign markets can sustainably absorb,” she added. “As a result, the Chinese economy is at risk of falling prices, defaults, factory closures and, ultimately, job losses.”

As profits shrink, companies increase production and cut prices to generate enough cash to service debt, Liu said. He added that government-designated priority sectors also sell products below cost to meet policy goals.

This dynamic is destabilizing the global market, with a flood of cheap Chinese exports prompting a sharp response in the form of stiff tariffs. The domestic market is also characterized by overcapacity and cutthroat price competition that threatens to deflate the economy, Liu warned.

“Similarly, while China’s vibrant e-commerce sector may suggest a multitude of consumer choices, in reality large platforms like Alibaba, Pinduoduo and Shein are fiercely competing to sell the same commodity products,” she said. “In other words, the illusion of consumer choice masks a domestic market that is overwhelmingly shaped by the state’s industrial priorities, not individual preferences.”

The focus of local governments on industrial purposes has resulted in an explosion of debt for local governments and businesses, with more and more of them becoming “zombie companies” that are essentially bankrupt but have sufficient cash flow to meet loan obligations.

But more money is being allocated to Beijing’s priorities. And while huge sums are being poured into AI, the money is going to companies that can grow the fastest, not the most innovative, Liu said.

“Without the ability to disrupt the market, these massive investments only deepen China’s overcapacity problem,” she said.

This story was originally published on Fortune.com