◎ The investigation of Liu Shiyu comes after an escalation in the Sino-U.S. trade war in early May and a worsening of bilateral relations.

Liu Shiyu, the former securities regulator and new deputy Party secretary of the All-China Federation of Supply and Marketing Cooperatives, was placed under investigation for “violations of law and discipline,” according to a statement by the Communist Party’s anti-corruption agency.

The Central Commission for Discipline Inspection, which was issued late at night on May 19, noted that Liu had “turned himself in” and is cooperating with Party and state anti-corruption investigators.

The investigation of Liu Shiyu comes after an escalation in the Sino-U.S. trade war in early May and a worsening of bilateral relations.

Our take:

1. Liu Shiyu appears to be a trusted official in the Xi Jinping camp. He was tasked with rescuing the markets as head of the China Securities Regulatory Commission after the 2015 China stock market crash; some analysts believe that the crash was a “financial coup” by the Jiang Zemin faction which rivals the Xi leadership. During the 19th Party Congress in 2017, Liu referred to coup attempts against Xi by criticizing several purged elite cadres who happen to be Jiang faction members or associates of having “plotted to usurp the Party leadership.”

Given Liu’s factional leanings, his running into trouble in this current political and geopolitical climate is a clear sign that the CCP factional struggle has intensified. Xi’s political rivals seem to have seized upon his failure to prevent an escalation in the trade war to pushback against his leadership. The investigation of Liu Shiyu indicates that Xi’s authority has been weakened.

2. We wrote previously that the “CCP factions may reach a compromise to cope with the current trade crisis facing the regime.” The Xi leadership needs to preserve Xi’s authority and resolve trade tensions with the United States. Meanwhile, the Jiang faction and other CCP interest groups want to weaken Xi’s authority in the short term and force him to de-consolidate power (i.e. revert to “collective leadership”) in the long run.

The CCDI statement on the investigation of Liu Shiyu suggests that both sides tried to advance their goals but agreed to compromise:

Liu is referred to as “comrade” (同志) in the CCDI statement, an honorific denied to Jiang faction members and other purged officials. Liu’s “comrade” status suggests that the verdict is still out on his case, and he may yet escape severe punishment.

The fact that Liu “turned himself in” is an attempt to downplay a major political incident.

Unlike previously probed senior officials, Liu appears to have some agency because he is “cooperating with investigations” instead of being only “placed under investigation.”

Taken on the whole, the CCDI statement indicates that Liu Shiyu’s fate is far from sealed at this point, unlike many other elite cadres who were purged in the past six years. However, the careful language in the statement does not obscure the fact that Liu is in trouble.

3. From the perspective of Xi’s political rivals, Xi Jinping’s authority has definitely been weakened with the investigation of a confidant. The investigation also signals to the rest of the regime that Xi is nowhere near as powerful as his titles and “president-for-life” status seems to indicate. The investigation will likely inspire and embolden Xi’s opponents in the regime to keep attacking Xi and his allies.

From Xi’s perspective, the investigation of Liu Shiyu is a form of damage control. Political rivals and others who are looking for scapegoats to blame for Beijing’s recent financial and trade failings would be somewhat appeased by the “sacrifice” of Liu. The “open-ended” nature of Liu’s fate suggests that the compromise might yet work out in the Xi camp’s favor down the road. However, Xi has lost face and his authority has been weakened at a crucial time.

4. The CCP factional struggle has been escalating since the first wave of U.S. tariffs were imposed last year. This year, Xi’s political rivals again stepped up attacks, most notably through the so-called “Shaanxi 100 Billion Mining Case” (“陝西千億礦權案”), an incident which we have been closely following (see here and here). President Trump’s recent tariff moves have given Xi’s rivals fresh ammunition to challenge and undermine his authority.

The investigation of Liu Shiyu will likely be the first of many “shock” major political developments that would unfold in the Chinese regime in the coming weeks and months of 2019.

5. We wrote in October 2018: “There is a possibility that Xi’s rivals had launched a ‘soft coup’ against him. Unlike previous coup attempts by the Jiang faction where the aim was to ouster Xi, Xi’s rivals would more likely be seeking ways to curb his power, such as forcing him to revert to the collective leadership model, reimpose term limits in 2022, or halt the purge of Jiang faction officials. To achieve their objectives, Xi’s rivals would try to exploit his policy failures, starting with the Sino-U.S. trade war.”

The investigation of Liu Shiyu can be considered to be part of the larger “soft coup” attempt against Xi Jinping.

6. In our 2019 China outlook, we identified three broad trends:

2019 will be a year of decisive battle between China and the United States. U.S. policy will determine the battle outcome.

Sino-U.S. relations will be tense. China will be increasingly isolated by the international community and the CCP’s expansionist agenda will hit a brick wall. Meanwhile, the U.S. will continue to reshape the CCP-hijacked world order.

China could see political Black Swans and charging Gray Rhinos in the economic and social arena. The CCP regime will likely face immense challenges from inside China and abroad.

We also predicted that:

The CCP factional struggle will escalate. Retired members of the Politburo and its Standing Committee may even be purged. Serving senior officials are also at risk of being investigated.

Xi Jinping remains at risk of being targeted by coups from political rivals. Xi’s supporters will likely also be targeted by political opponents if they are responsible for policy failure.

Current political developments in China indicate that our predictions are par for the course.

What’s next:

1. Barring a dramatic alteration in the current balance of power in the regime, Liu Shiyu could only be subjected to internal discipline (removed from office, demotion, posted to a lesser position, etc.) but not criminal prosecution.

2. Compromise is short-lived in the Chinese regime given the “you die, I live” nature of CCP factional fighting. The Xi leadership will almost certainly retaliate against political rivals once it steadies the ship and regains its footing. Meanwhile, the Jiang faction and other CCP interest groups who oppose Xi will seize other opportunities to undermine the Xi leadership. Put another way, compromise could bring about further escalation in the factional struggle as opposed to de-escalation. There is a very good chance that “retired members of the Politburo and its Standing Committee may even be purged” in 2019.

3. The Jiang faction-controlled CCP intelligence apparatus could continue to pushback against Xi Jinping with the goal of weakening his authority and compelling him to surrender power.

Get smart:

1. Xi currently faces very high levels of political risk. However, he might be able to avoid risk if he recognizes that preserving CCP rule will not ensure his self-preservation. The world may yet see tremendous positive change should Xi attempt novel ways to win the trust of America and the Chinese people while escaping the Party’s shackles.

2. To minimize and even avoid Black Swan risks related to China this year, businesses, investors, and governments are highly encouraged to read our special report, “2019: A Waterloo Year for China and the United States.”