The European Union and China are tooling up for a trade war with new coercive instruments to target each other’s companies. It could end badly for both of them.
Tooling up for a trade war
When Ursula von der Leyen emerged from a closed-door European Commission meeting about China last Friday, her officials issued the briefest of statements. It described the meeting as an opportunity to take stock of EU-China relations, both the opportunities and the challenges.
“The commission’s overarching approach remains derisking, not decoupling. China is a critical partner, and engagement and dialogue will continue. At the same time the current state of the trade and investment relationship is not sustainable. As economic and security interests become ever more intertwined, both dimensions will require a more robust and coherent response,” it said.
In fact, the meeting was about how and when the EU should introduce a battery of tough measures aimed at curbing Chinese imports and reducing European manufacturers’ dependency on China for their supply chains. Von der Leyen and her colleagues know Beijing will retaliate against any new restrictions, something China’s commerce ministry confirmed the following day.
“Should the EU insist on unilaterally introducing new trade instruments and imposing discriminatory restrictions, China will resolutely take countermeasures and adopt effective measures to safeguard its own interests,” it said.
China’s trade surplus with the EU peaked in 2022 and dipped the following year before rising again and it has widened rapidly during the first few months of this year. Brussels blames what it calls overcapacity: Chinese manufacturers producing too many goods for their domestic market to absorb, dumping them on to other markets at prices indigenous producers cannot compete with.
The EU also points to China’s high level of subsidies for industry, mostly in the form of cheap loans from state-owned banks. An OECD report last month said that between 2005 and 2024, Chinese companies received more than eight times the government subsidies enjoyed by their OECD counterparts.
China claims its state support for industry is consistent with World Trade Organisation rules and is similar to the kind of industrial policy pursued elsewhere. And Beijing says the growth in Chinese exports to the EU has been concentrated in energy-intensive sectors, such as electric vehicles, batteries, photovoltaic products and chemicals needed for Europe’s green energy transition.
One measure the commission is considering is an “overcapacity instrument” that would allow the EU to restrict Chinese access to market sectors where a high level of imports from China is judged to be distorting European competition. A revised Cybersecurity Act could target Chinese firms such as Huawei on security grounds and the Industrial Accelerator Act could exclude Chinese companies from public procurement bids.
China has been laying the legislative framework for retaliation against any restrictive measures, issuing new regulations on supply chain security that could justify investigations into European companies. Beijing can also use its foreign trade law, data security law and personal information protection law to make life more difficult for European firms operating in China.
EU leaders will discuss the commission’s proposals at a summit later this month and it may prove difficult to reconcile the enthusiasm of some member states, led by France, with the reticence of Germany and Spain. Berlin is not only concerned about the potential impact of Chinese retaliation on its exports but the risk that Beijing could cut off the supply of rare earths and permanent magnets, a move that could bring production lines in some manufacturing sectors to a halt.
The EU is China’s second biggest export market and a trade war carries risks for Beijing too as its domestic economy struggles to regain momentum. Both sides are limbering up for combat but as the global economy deals with the impact of the war in Iran, a trade war between two of its biggest economies is the last thing it needs.
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