The defining event of 2025 was the announcement of Trump’s tariffs and an escalation of the trade war with China. While tensions cooled throughout the remainder of the year, sparking a historic stock market rally, it would be wrong to think the trade war is over.
Why? Because nothing has really changed.
The US is still running a massive trade deficit (around US$1 trillion for the year to September) and China is still running a massive surplus (just over US$1 trillion for the 11 months to November).
This huge global trade imbalance is unsustainable. While bilateral trade between the US and China has decreased since the tariff war in April, China has redirected its excess production to other parts of the world. This is the real problem with the global trading system. While everyone points to the US’ excess consumption, the real culprit is China’s excess production.
Let’s look at why…
Property down, solar and EVs up
China’s property boom turned to bust a few years ago. To maintain strict economic growth targets, China managed the decline of the property construction sector while boosting manufacturing investment to offset the drag.
The result has been a surge in manufacturing output. The key areas of growth have been electric vehicles (EVs) and solar panels.
Local governments provide businesses with cheap or free land to build factories on, low-interest loans and generous tax incentives. These incentives create excess production, which China then exports to the rest of the world.
All those Chinese EV cars you see on the roads are not because China is so efficient at producing them. It’s because the sector is heavily subsidised to maintain employment and growth, not profitability.
It’s the same with solar panels and many other industries.
This cutthroat pricing and lack of profitability are a concern for the central government. In the latter half of 2025, they began implementing what’s known as anti-involution measures to address excess production. These measures are ongoing and are likely to feature in China’s next five-year plan, scheduled for release in March 2026. The heavy incentives that characterised the previous five-year plan will likely be phased out.
In fact, it’s already happening. And it has potential implications for commodity prices.
For example, since 2021, electric vehicles have been exempted from the purchase tax, which on an average car equates to around US$4,200. But on 1 January 2026 the exemption fell from 100% to 50%.
This change incentivised Chinese consumers to purchase an EV prior to 1 January, and so production levels ramped up late in the year to meet this demand surge.
EVs are particularly resource-intensive, requiring battery metals like lithium and base metals such as copper and aluminium. Was this demand surge to beat increased taxes part of the reason behind lithium’s huge run in the second half of 2025? We’ll only know in hindsight, but it’s worth considering.
If Chinese domestic demand slows, that might mean more excess production exported to western markets in early 2026.
The incentive structure for solar panels is also changing.
In late-November, lowcarbonenergy.co reported:
‘Beijing has begun a phased rollback of the policies that helped accelerate global solar deployment. Key changes include:
-Reduced export tax rebates for photovoltaic products
-Removal of the 13% VAT export rebate for solar modules and energy storage systems from Q4 2025
-A broader transition away from domestic clean-energy subsidies towards market-based pricing
These reforms aim to address overcapacity in China’s solar sector and stabilise an industry that has expanded rapidly.’
These changes are likely to have accelerated demand to counteract price increases.
It is estimated that China exported around 240 GW of solar panel modules in 2025. Additionally, estimates indicate that China’s domestic solar installation is expected to reach around 260 GW in 2026. Each MW of solar power requires significant amounts of aluminium, copper, silver and tin.
Will this demand drop next year as export incentives end? And will China continue to add record amounts of solar capacity to its grid?
Possibly, but current forecasts suggest another strong year for solar production. And China will continue to export excess EV production.
Along with many other industries where production volumes matter more than profitability (for example, see steel, below), you’re going to see China run persistently large trade surpluses.
So expect more action from the US and other countries impacted by this excess production.
The world reacts
In fact, it’s already happening…
The EU implemented the carbon border adjustment mechanism (CBAM) on 1 January 2026 to prevent cheap and ‘dirty’ steel and cement coming into the bloc.
This points to another area of excess production for China… steel.
The deflating of the property bubble in China removed a key source of demand for Chinese steel. While authorities have capped overall production at around 1 billion tonnes, this is still significantly more than domestic demand requires.
China exports this excess production. In 2025, steel exports were expected to reach a record high of 117 million tonnes, up from around 90 million tonnes in 2023.
Many Chinese steel producers run at a loss, but it is cheaper to incur a small loss on each tonne of production rather than cease operations or drastically reduce output. So Chinese steel is undercutting many global producers.
The EU’s implementation of a carbon tax on this steel, from 1 January, is an attempt to level the playing field. Whether it works or not is another question. But it is one of many trade measures you can expect to see unfold in 2026.
The US isn’t done with China
US Trade Representative Ambassador Jameson Greer participated in a Q&A session at the Atlantic Council in December.
The Wall Street Journal’s Greg Ip said that the rules-based international order was dead, and asked the Ambassador, ‘What will govern the rules of international trade going forward?’
The response was telling (my emphasis added):
‘I think sometimes we kind of have white lies we tell ourselves in international relations to paper over the actual power politics that really control everything. I would say, with the WTO, it has a baseline set of commitments that were agreed to many years ago. There hasn’t been a lot of development there. That’s why we, as the United States, are layering over the WTO commitments bilateral agreements that we believe put America’s interests first and are also in the interest of these other countries to be able to maintain access to the US market in ways that are beneficial to them.
‘So, I mean, I think we have some of those underpinnings, but where they can’t—I mean, the WTO can’t fix overcapacity, right? They can’t even be transparent among their own members and publish notices of new rules. You know, they can’t fix overcapacity. So we’re going to have to deal with that, either on our own or with willing partners. So I think it’s going to be interest-based.’
This tells you that China’s overcapacity remains a problem. And with China redirecting much of its excess production to Asia, Latin America, Africa and Europe following Trump’s tariffs, it’s a global problem that you should expect to resurface in 2026.
And while I remain broadly bullish on commodities at the start of 2026, don’t be surprised to see extreme volatility in certain metals should the trade war resurface this year.
Because the bottom line is that China is producing for demand that doesn’t exist at market prices. Which means it’s importing commodities for non-existent demand.
This charade can go on longer than you think. We may even get through the year without an issue. But as investors, we need to understand the risks and be ready to act if necessary.
Greg Canavan is the editorial director of Fat Tail Investment Research and Editor of its flagship investment letter, Fat Tail Investment Advisory. This information is general in nature and has not taken into account your personal circumstances. Please seek independent financial advice regarding your own situation, or if in doubt about the suitability of an investment.