OnlyLovers The child isn't going to know any different. She'd be happy with a helium balloon for Christmas. She's 5. The MIL is clearly making a dig at the OP. Really she's being horrible to DD too since she's smugly insulting her knowing it's going over her head. It's beyond low on all levels.
Honestly, if someone did that my DD I'd be pissed off too. I'd put on a nice face for DD when she opened the gift, and have her write a polite thank you. But behind closed doors, yes I'd tell MIL to not bother again if she's going to use her grand daughter's birthday as a way to insult me. I'm shocked OP's DH isn't upset with this, it's his child too. Really, if it was my own mother, I'd give her an earful about it.
Good presents normally go along the lines of this:
Thought + Money + Time investment = Good Gift.
You need at least two of those to make a good gift. If you're lacking in one area, you need to make up for it in another.
That's why a PP who talked about a painted Go-Kart was an excellent gift. It didn't cost much, but a lot of thought and some time to fix it up nice went into it (Thought + Time). It's why home made gifts are so nice (Thought + Time). It's why people on a budget can still give good gifts (Thought + Time hunting for it and picking it out + Money) that people are ok with and love.
MIL put in no thought behind the gift, she just asked the mother and bought exactly that with no effort on her part. She put in no time (and going to the store does not count as time) into the gift. She put no money into the gift. It's a terrible gift. To add insult to injury, she kept a cheap tat for a Christmas gift to rub it in.
Everyone in my mom's circle of friends is just itching to be a grandma right now. Grandchildren are special. You either give them extra love, time, or gifts to show it. MIL is doing none of that, and instead using her granddaughter's gift as a weapon.
You can't force her to love her grandchild, but you can take away her little platform and let her throw her little tantrum elsewhere. One day, OP's DD will understand the insult. So stop letting MIL give gifts, it's easier to accept that GM just "doesn't give gifts" than getting "this is how little I actually think of you" gifts.
Last thing. When I was a kid, we did secret santa for the cousins with the aunts and uncles because there were so many of us. So we'd get a modest gift labeled "From aunts and uncles". One year, my aunt got one of my cousins who's parents were not too well off a hand me down sweat suit. She being only 5-6 cried because she got a sweat suit while everyone else in the family got nice new toys. My aunt went into a rant about how ungrateful her niece was and how the parents were just raising her wrong.
After that, my family collectively decided to exchange small gifts that you could collect into adult hood. Think spoons, bells, ornaments, so that we all got the same thing with no ability to make any statements like that.
Gifts say a lot. They can show much you love someone, or they can show how little you think of them.