Germany formally acknowledged last year that the country had become overly reliant on China for essential materials, goods and components needed to reboot the sluggish German economy following the COVID-19 pandemic.

Despite cries of unfair competition and calls for a full-scale decoupling from the world’s second-largest economy, Berlin published its first “Strategy on China” paper in July 2023. Chancellor Olaf Scholz spoke of the need to reduce dependency on China, adding on X, formerly Twitter, that: “The aim is not to disconnect ourselves,” while acknowledging that the Asian power was a “systemic rival.”

That de-risking call, however, appears to have been somewhat ignored. According to Bundesbank data, German foreign direct investment (FDI) to China is on course to double this year, if firms continue to pour funds into the Asian country as fast as they did in the first six months of the year. The German central bank figures show that China’s economy has benefitted from €7.28 billion ($8.03 billion) of German direct investments from January to June — almost 13% higher than the total figure for 2023.

German auto sector bucks the trend

“The data is very much driven by selected industries, like automotive and chemicals,” Doris Fischer, a professor for China business and economics at the University of Würzburg, Germany, told DW. She warned that pressuring companies into certain investment decisions “may make them uncompetitive.”

The fortunes of Germany’s auto sector are very much intertwined with China’s, where around a third of new German cars are sold every year. In 2023, €15.1 billion worth of German vehicles were delivered to China, while German automotive suppliers exported parts worth €11.2 billion, figures from the German Association of the Automotive Industry (VDA) showed. German carmakers also export China-made vehicles to Europe in the hundreds of thousands.

Fischer said many German small and medium enterprises (SMEs) were already following the so-called China plus one strategy, where firms diversify their supply chains by moving some of their China production to other promising emerging markets, including Vietnam and Thailand.

More German firms plan to quit China

A survey last month by the German Chamber of Commerce in China and reported by news agency Reuters found that more than half of the 566 firms surveyed said they planned to increase investments in China to stay competitive.

At the same time, 2% said they were selling off their China operations, while 7% said they were considering such a move — a doubling of exits or planned departures since 2020. 

Maximilian Butek, executive director of the German Chamber of Commerce in China thinks the cost of de-risking may be putting many companies off.

“The challenge with diversification is the tremendous amount of capital expenditure required [to enter new markets],” he told DW, noting how German firms also struggle with finding skilled labor, bureaucracy and lagging digitization in these new markets.

In its new China strategy, the German government highlighted critical sectors where overreliance could be reduced, including medical supplies, advanced technologies and so-called rare-earth minerals — which are essential for the green transition. China currently has almost a monopoly on rare earths.

China exposure compared to Russia debacle

Germany could, it’s feared, make the same mistake with Beijing as with Moscow, where it became overreliant on cheap supplies of Russian fossil fuels. Those deliveries became politically unviable when Russia invaded Ukraine in February 2022, leaving Germany and other European countries scrambling to find alternative supplies of oil and gas.

Growing geopolitical tensions with China over trade, human rights, the South China Sea conflict and Taiwan — which Beijing considers part of the mainland and has threatened to retake by force if necessary — could leave Europe’s largest economy vulnerable if relations with Beijing were weakened.

But Butek said the two issues are like “comparing apples and pears” as “German companies are far more dependent on the Chinese market than they were on Russia.”

Serve China while diversifying

German firms cannot just disregard one of the world’s largest and fastest-growing consumer markets due to the growing geopolitical issues. Major German manufacturers like Volkswagen, BASF, and Siemens, continue to view China as crucial for their growth. 

China’s emphasis on green technology, electric vehicles, and digital innovation offers a fertile ground for collaboration and development, and will likely attract further FDI from German companies, business leaders say.

Butek said the biggest challenge for German firms — especially the automotive and engineering sectors — is the intense competition from Chinese rivals, so companies must now step up investments in research and development (R&D) to help ensure they retain their edge.

FDI to China from the United States is also still growing, despite attempts by both the Trump and Biden administrations to slow China’s economic advance with trade tariffs and other punitive measures.

According to the US Bureau of Economic Analysis, US FDI to China grew nearly 4% last year to $127 billion (€115 billion) and has risen 18% since 2018, when former US President Donald Trump announced his first tariffs on Chinese imports.

Doris Fischer thinks blaming Germany for something that is happening elsewhere too, like in the US, is unfair. “A fast retreat from the Chinese market would have a very devastating impact on these industries, which would also not be good for Germany,” she added.

Global FDI to China plummets

While US and German investment is accelerating, global FDI to China fell sharply for the second year in a row in 2023, according to data from China’s State Administration of Foreign Exchange cited by news agency Bloomberg in a report. China’s direct investment liabilities in its balance of payments stood at $33 billion — an 80% drop from the previous year — and was less than one-tenth of the $344 billion achieved in 2021.

Now that the EU has imposed tariffs of up to 38% on Chinese electric-vehicle imports, said Butek, German businesses operating in China believe it’s vital the EU develop an industrial strategy that can improve competitiveness and stave off China’s advance.

“We don’t believe that any additional bureaucracy would give any advantage to our companies. Make the EU and Germany more competitive so that more production and R&D can happen here [in Europe],” he urged.

Edited by: Uwe Hessler