China Shock 2.0 and Europe's Economic-Security Gap: Europe Needs a Tool to Link Market Access to Local Production

• Europe faces “China Shock 2.0”. China now competes directly with the euro area in close to 40 per cent of the sectors where Europe holds a comparative advantage. An undervalued exchange rate and heavy state support for priority industries drive large and growing Chinese surpluses. The pressure hits European firms across many sectors, both at home and in third markets.
• The EU is preparing its answer. Brussels is weighing faster trade defence, “Buy European” industrial policy and a diversification instrument for the few sectors where the EU depends too heavily on one supplier, for which a proposal is expected around the turn of the year. Germany and France accelerated these developments with a non-paper on 5 October. But the systematic and strategic response they demand runs into institutional constraints we tackle in this brief.
• A hotchpotch of reactive measures does not a strategic trade and industrial policy make. Europe needs to define its objectives — geopolitical, economic-security or linked to the green transition — before it chooses its instruments. Held against a strategic objective, such as building and holding a critical productive capability on European soil, the toolbox is ill-suited: almost none of it steers where production takes place.
• Batteries show what this means. Cells are a foundational input for drones and other autonomous systems, military ones included. Defence demand alone cannot finance a competitive cell industry. A mass market for electric vehicles (EVs) plausibly can. Localising EV production in Europe is hence a means to build a European battery industry, not an end in itself.
• Yet Europe cannot trade market access for local production. Access to the single market is its biggest bargaining chip. China built its car industry by making market access conditional on local production. The EU could not do the same, even if it wanted to: its trade remedies need evidence of a subsidy, of dumping or of an import surge.
• Europe needs a purpose-built economic-security instrument. The trade lever sits with the Union, national security with the member states. This split leaves Europe without a clear legal basis to act on a European security argument at the level of the single market. The instrument — a European counterpart to the logic of the US Section 232 — can start on existing Union competences but should rest, in the longer run, on a Union competence for economic security. This approach offers a blueprint for the forthcoming diversification instrument.

Kiel Institute Experts