Commentary: How China and Europe Should Manage Their Trade Tensions

1. Europe is currently undergoing a second “China shock,” distinct from the first as it now challenges the core of Europe’s industrial base rather than low-cost manufacturing sectors like textiles. This new wave targets advanced sectors such as automobiles, machinery, electrical equipment, and green technologies, which are central to Europe’s manufacturing and export power. [para. 1][para. 2]

2. The evolving trade imbalance between Europe and China is not primarily due to rapidly rising Chinese exports but is instead influenced by weak Chinese domestic demand and growing Chinese industrial capabilities. Over the past four years, China’s exports to the EU increased by only about 2% annually—slower than to ASEAN, Africa, or Latin America—while its imports from the EU declined by 3.5% per year. Factors such as a housing slump and stagnation in Chinese incomes have reduced Chinese imports of European goods like home appliances, luxury products, cars, and machinery, as domestic Chinese firms enhance their competitiveness. [para. 3][para. 4]

3. This competitive dynamic extends globally; European companies are losing market share to Chinese firms not only within Europe and China but also across emerging markets. What differentiates this moment is technological convergence: China is now exporting products similar to those Europe specializes in, including cars, machinery, electrical equipment, and clean technologies. These sectors are deeply integrated in Europe’s economic and political fabric, especially in regions like Germany and Central Europe. [para. 5][para. 6]

4. European countries respond differently to the “China shock” depending more on their economic integration and areas of complementarity with China than on trade balance figures alone. For example, Hungary closely mirrors China’s exports and benefits from Chinese investment, while France advocates stronger trade defenses, and Germany faces both direct competition and deep integration with Chinese supply chains. This diversity of interests complicates Europe’s ability to craft a unified policy. [para. 7][para. 8][para. 10]

5. The risk to Europe is not just the overall trade deficit but the specific areas within its domestic economy under pressure from Chinese competition. As a result, responding effectively requires more nuanced and targeted strategies rather than broad headline measures. [para. 11]

6. Economic fragmentation between the EU and China is not inevitable. A more sustainable solution requires selective trade defense combined with structured cooperation. Recent EU instruments (like the Foreign Subsidies Regulation, Anti‑Coercion Instrument, and Carbon Border Adjustment Mechanism, or CBAM) aim to address concerns over distortions but are perceived in Beijing as targeting Chinese firms, especially given the suspension of the EU-China Comprehensive Agreement on Investment. This increases the risk of unilateral actions and retaliation. [para. 12][para. 13][para. 14]

7. The priority for both sides should be to restore credible dialogue on issues like market access, subsidies, and competitive neutrality. Europe must clarify acceptable state support and market access standards, while China should increase transparency in overlapping sectors. CBAM and carbon policy, if aligned, could reduce uncertainty and prevent climate policy from becoming a disguised trade barrier. [para. 15][para. 16]

8. Investment remains a pivotal area; Chinese FDI in Europe remains modest, and Europe should embed it in transparent regulations that maintain competition but preserve openness. Europe must strengthen its internal competitiveness—through single market integration, innovation financing, and energy security—while China should boost domestic demand to reduce external friction and export reliance. [para. 17][para. 18][para. 19]

9. The choice for both regions is stark: allow rivalry to escalate into protectionism or anchor it within transparent, reciprocal rules. History shows sectors exposed to foreign competition tend to become more globally competitive, and this logic applies to both Europe and China as they navigate the second China shock. The outcome will shape whether this period is marked by instability or creates a more robust, rules-based economic relationship. [para. 20][para. 21][para. 22]