Europe tries to take on China without launching a new trade war

The Group of Seven (G-7) industrial nations this week pledged an ambitious target to diversify away from China, adding momentum to the European Union’s own push to counter a growing trade imbalance with the world’s biggest export engine.

The 27 EU capitals unanimously agree on the economic threat posed by China’s trade policy if left unchecked. At a meeting on June 18 in Brussels, the bloc’s leaders are expected to discuss how to handle upcoming trade talks with Beijing and explore possible responses – including new trade tools.

The EU is worried on multiple fronts: from a trade deficit with China that now exceeds €1 billion (S$1.48 billion) a day fuelled partly by state-subsidised products, to Beijing’s stranglehold on critical minerals and chips. Fears are growing that domestic European industries can not withstand the onslaught much longer.

The EU’s chief trade negotiator, Maros Sefcovic, said in June that Europe’s trade relationship with China was “simply not sustainable” and that “diversification requires a dedicated instrument”. French President Emmanuel Macron warned that the EU may take “strong measures”, including potential tariffs, if Beijing fails to address the trade imbalance.

Member states also agree on the need to diversify their supply chains away from China in critical areas, but several capitals have privately noted that that process will take years and the bloc needs to be realistic in its approach, people familiar with the deliberations said.

Bloomberg reported earlier that the EU was seeking to temporarily lift sanctions on a Chinese chipmaker after the auto industry warned it would otherwise face shortages. Spain is also deepening its position as a European hub for Chinese automotive imports and production, making confrontation with Beijing potentially damaging.

Still, the discussions in Brussels illustrate how far the EU has come since it started taking a harder line with China in 2019 by labeling it both an economic competitor and systemic rival. That shift was partly driven by frustration over unequal market access and increasingly unbalanced commerce.

But business largely continued as usual in the coming years as European industry heavyweights, particularly in Germany, opposed restrictions on the free flow of goods as long as China remained a lucrative export market. In 2024, then-Chancellor Olaf Scholz heavily resisted tariffs on electric vehicles from the country over concerns of retaliation.

The position of German carmakers has worsened significantly in recent years. Shipments to the Asian nation fell by a third in 2025, leaving them more than 50 per cent below their 2022 peak of about €30 billion, according to an analysis by the German Economic Institute.

Earlier this week, BMW AG slashed its profitability forecast, citing weak demand and more intense competition in China.

Other industries, including machinery producers and the pharmaceutical sector, are also under increasing pressure. The EU’s combined trade deficit with China widened for a second year in 2025 to €360 billion, and it continued to swell in the first quarter.

Those dynamics are feeding concerns that higher US tariffs are sending more Chinese goods to European shores. There is also a sharpened focus on the generous subsidies handed out by Beijing in its decades-long effort to upgrade its economy.

China has given as much as eight times more government support to domestic companies than firms in the OECD received between 2005 and 2024, driving market share in sectors including solar, shipbuilding, steel and aluminum, telecom equipment, wind turbines, aerospace and defence and cars.

Nearly 60 per cent of global market share gains for Chinese companies is due to subsidies, according to an OECD report in June.

China’s newest five-year economic plan issued in March also leaves little doubt that Beijing will continue to foster its manufacturing sector. Officials aim to modernise traditional industries while cultivating emerging and frontier technologies like robotics, biomedicine and nuclear fusion energy.

Working in the EU’s favor is the fact that China’s economy is highly dependent on exports given that its domestic demand remains weak.

The bloc was China’s second-largest export market in 2025, according to the country’s foreign ministry, and remains an important buffer against a quickly cooling economy. And with the US drawing up more trade barriers, the EU’s wealthy market with its 450 million inhabitants is crucial, making access to it a valuable piece of leverage.

Still, China’s stranglehold over rare-earth processing gives it enormous leverage in any trade war – effectively already taking the sting out of US ambitions to impose hefty tariffs against the world’s second-biggest economy. Bloomberg Economics estimates that a year-long cutoff of access to rare earths and permanent magnets from China could put about US$4.4 trillion (S$5.6 trillion) in global GDP at risk.

China showed the damage it could do with this control in 2025, when it imposed export controls on its rare-earth elements, causing global panics about shortages and manufacturing shutdowns.

Among the steps the EU is considering are making existing defensive trade tools more agile, bolstering the staff of the European Commission’s trade department as well as adopting entirely new instruments.

A key problem for Europe is that companies hooked on Chinese raw materials and other inputs have been slow to tackle the issue. BME, an association of German supply-chain managers, said last week that a vast majority had moved less than 10 per cent of purchasing volumes out of the country over the past three years, with plans pointing to little change through 2027.

In a display of how vulnerable they are to supply disruptions, European carmakers in 2026 lobbied the European Commission, the EU’s executive arm, to temporarily suspend sanctions on Yangzhou Yangjie Electronic Technology, a major Chinese semiconductor supplier, Bloomberg reported earlier. Without an exemption, the companies warned that they would run out of stock in a matter of weeks.

With China already cautioning that it will fight any EU moves to protect its industries and expand its policy toolkit, European officials realise they face a catch-22. But there is also a growing consensus that taking action now will be less costly over the long run than extending the status quo, and that the bloc cannot be paralysed by possible retaliation, officials said.

The commission agrees that the European public needs to be made aware of the likelihood of greater trade frictions with China.

Germany’s position is especially in the spotlight. With its industry long benefiting from closer China ties, Berlin has traditionally aimed to keep trade flowing as freely as possible. That is now seemingly starting to change after years of scant economic growth and as the competition hits more sectors.

Chancellor Friedrich Merz told lawmakers last week the EU cannot just stand idly by when others skirt shared rules, and that “we are protecting our interests and our economy against distortions of competition caused by the trade practices of other states”.

Such comments align him more closely with countries seeking a much stricter posture. Belgian Prime Minister Bart De Wever warned in June that European firms compete against Chinese rivals “that are backed by state support on a scale that no market economy can match or replicate”.

Across EU capitals, doubts remain about how far Berlin is willing to go in practice, according to people familiar with the matter. When Economy Minister and Merz ally Katherina Reiche traveled to China in May, she highlighted that any policy must ensure “that our companies can continue to export”.

“On the one hand, Germany has acknowledged the systemic rivalry and now views the relationship more critically,” said Cora Jungbluth, a senior expert at Bertelsmann Stiftung. “On the other hand, there are significant interdependencies. This means that, particularly from Germany’s perspective, it’s a delicate balancing act.” BLOOMBERG