1. Situation. The following is my appreciation of the situation as
the result of my talks in Hong Kong and to date in Shanghai.

2. Military. The main Communist threat is towards Hsuchow and
Pengpu. It is possible the former has already fallen and no one
expects the Nationalist Forces to resist for long as their morale
is believed to have gone. The way then will be open to Nanking if
the Communists wish to take it.

3. Nationalist Forces in Kalgan-Peiping-Tientsin corridor are
being gradually compressed and Taiyuan in Shansi is isolated and
likely to fall. Hankow front is quiet.

4. Political. Except those deeply committed to the present regime
it has lost all support. The people are sick of the whole
situation and want peace-they have lost all confidence in Chiang
Kai-Shek.

5. Economic. The situation is chaotic and no one has any plans.

Export trade is virtually at a standstill.

6. (a). The possible ways in which the situation may develop
include ... the situation may remain much as it is at present, the
Central Administration discredited. The Communist strengthening
their hold but avoiding occupation of big cities such as Peiping
which might demoralise their troops, and pushing out into the rich
rice bowl of Szechuan. Regional commanders such as T.V. Soong and
Canton increasing in power and independence.

(b). The Communists continuing their advance to Nanking and Chiang
retiring to possibly Nanchang or Taiwan.

(c). Chiang to give way to new administration headed by for
instance, Li Tsung-Jen, which would compromise with the Communists
and such semi-independent rulers as T.V. Soong. Such an
administration is likely to be weak and the Communist influence
would become increasingly strong.

7. Should (b) happen it would present all Governments with the
early problem as to whether it would be practical to continue to
recognise Chiang as the ruler of China or whether it would be
necessary to open direct relations with whatever administration or
administrations were controlling the bulk of China. I have reason
to believe that there exist in Hong Kong an easy and reliable
channel of communication with the Communists.

8. The local situation in Shanghai is for the moment better. Food
is obtainable at prices much lower than a few days ago, but this
situation is of a temporary nature only.