China and the United States, the latter especially under President Donald Trump, have increasingly weaponised their economic policy through industrial strategies, tariffs, sanctions and export restrictions on essential inputs such as rare earth metals.

While Washington has shielded its market with tariffs against Chinese exports, the EU’s trade deficit with China has exploded to about €400 billion in 2025, as Chinese exports are redirected into the bloc. This is not a problem of overall EU competitiveness: the EU holds an even stronger trade surplus with the rest of the world. Its overall 2025 trade surplus stands at €164.6 billion.

China’s overall trade surplus, meanwhile, has surged past €1 trillion in 2025. At the Munich Security Conference on 13 February, Ngozi Okonjo-Iweala, the director-general of the World Trade Organization (WTO), said China should rebalance its economy away from export-led growth, warning that its record trade surplus risks triggering fresh protectionist barriers worldwide. China’s $1.2 trillion trade surplus was “not sustainable”, she said, because “the rest of the world cannot absorb it”.

The second China shock

The EU is currently experiencing the second China shock. The first arrived after 2008, when southern European economies, heavily dependent on their textiles, clothing and footwear sectors, began to face intense competition from cheaper Chinese imports at home and in world markets. The euro had previously revalued against the renminbi. Southern Europe’s trade deficits with China exploded — the subject of my Project Syndicate article A Weaker Euro for a Weaker Europe in August 2013, where I argued for a stronger renminbi as part of the cure for southern Europe’s economic malaise.

Now it is the eurozone core — Germany, France, Italy, the Netherlands, Belgium and Austria — feeling the brunt of Chinese competition in its defining industries: cars, machinery and green technology. Chinese industrial policy, with heavy subsidies, has already nearly destroyed the EU solar panel industry, which 15 years ago dominated world markets. Chinese producers now dominate in their place. We could see the same scenario, driven by Chinese industrial policies and currency dumping, play out in electric cars and other green industries.

Price trends in the EU and China have diverged sharply. China, through overinvestment in manufacturing that led to overcapacity and the bursting of its housing bubble, has entered a prolonged deflationary phase. It has not strengthened domestic demand to stimulate growth; instead, it relies on exports, especially in green industries.

The EU, by contrast, experienced energy and food price shocks following Russia’s invasion of Ukraine. The cost divergence between European and Chinese producers was worsened by the US- and EU-led sanctions regime against Russia, which lowered Russian oil and gas prices for China. As the biggest importer of Russian oil and gas, China has enjoyed cheaper energy as a result.

The renminbi has devalued by about 10 per cent against the euro in 2025, following the dollar’s devaluation under President Trump. Economic logic would dictate that the renminbi should have revalued against the euro, given China’s huge and rising trade surplus. Instead, Chinese exporters enjoy a decisive price advantage. Europe is in danger of losing its industry to China.

Stopping the currency dumping

The EU needs stronger defences against unfair Chinese competition. A revaluation of the Chinese currency by about 20 to 30 per cent against the euro would, in my view, solve most of the problem. If that cannot be achieved, the EU should consider applying additional general tariffs of up to 20 per cent on imports from China.

The sanctions regime on Russian oil and gas should also be changed, by introducing EU import tariffs of 30 per cent. (See also my Social Europe article “What to do with Russian oil and gas”, 13 April 2022.) The proceeds would be used to support Ukraine. The approach would require no EU unanimity, dispensing with Hungarian prime minister Viktor Orbán’s veto power, and would end the market distortions in the single market caused by cheap Russian oil and gas imports flowing into Hungary and Slovakia. Third countries that import Russian oil and gas would also need to apply import tariffs of at least 20 per cent, with the proceeds going to Ukraine, or face additional EU import tariffs of 10 per cent. President Trump has demonstrated with India that the tariff weapon can be used to reduce Russian oil and gas imports.

Some will argue that China will retaliate with tariffs on EU exports or export restrictions on essential inputs such as rare earth metals. On tariffs, the European Central Bank (ECB) could take countermeasures by lowering interest rates. As the ECB Blog piece Lower inflation, weaker activity: what foreign import tariffs mean for the euro area has shown, “import tariffs imposed by other countries tend to lower euro area inflation and weaken growth. However, the sectors most exposed are also the most responsive to interest rate changes. This means that monetary policy can help offset disinflationary pressures and support activity.”

As for essential inputs, if the EU loses its industry to China the problem becomes far worse, not better. Europe would be dependent on China for whole industries, green technology foremost among them. The EU has already shifted its gas dependence from Russia to the United States, and its solar panel dependence from the EU itself to China.

I was involved in the 1980s, at the Economics Ministry in Austria, in a successful industrial policy that restructured the nationalised iron and steel industry to become a supplier for the car and rail industries and created automotive clusters with specialised suppliers. Trade and R&D policies were the most successful tools at the time. Subsidies for restructuring and incentives to attract foreign direct investment (FDI) also played a role.

The EU now also needs a successful industrial policy to avoid losing its industry. The time to react is now, to maintain or create minimum viable production in Europe, or together with reliable allies such as Canada and the Mercosur bloc. Take two concrete examples. The tariff income from imports of Chinese electric cars, around €2 billion a year, should be used to support the transition of the EU car industry; the proposal of minimum prices would instead mean that EU consumers subsidise the Chinese car industry to the tune of €2 billion a year. And EU import tariffs on Chinese solar panels should be introduced and used to fund R&D and to establish production in the EU for the next generation of solar panels.

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