China’s Dual Circulation Strategy and its Impact on European Industry: The Case of the Electric Vehicle

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However, Beijing’s search for greater ‘self-reliance’ is not entirely new. China has often shifted its attention between domestic and global markets in response to the challenges of the time and to capitalize on available opportunities. Yet since the pandemic, the country has taken an increasingly neo-mercantilist stance based on the pursuit of both economic self-reliance and greater economic leverage over foreign countries. This is perhaps best exemplified by the Dual Circulation Strategy (DCS), an attempt to shift the Chinese economy away from unreliable growth sources, namely cheap manufacturing exports and fixed asset investments, and give greater play to the advantages of its industrial overcapacity and domestic demand potential with a new development pattern featuring domestic and international ‘dual circulations’ complementing each other. But how has the strategy fared since its launch? And most importantly, how will it impact Europe, the likely loser of this “China Shock 2.0”? Drawing from China’s recent electric vehicle (EV) boom, this paper aims to dissect the DCS’ main objectives and assess their overall progress against the backdrop of a rapidly deteriorating geopolitical context. The conclusion is that the EU needs to develop its own multilayered industrial strategy in order to compete with China. And in the EV sector, this means a combination of “onshoring” of production, indigenous investment and innovation, and some “technology transfers”. China Dual Circulation Strategy industrial policy electric vehicle European industry Figures Figure 1 Figure 2 Figure 3 Figure 4 Figure 5 Figure 6 Figure 7 Figure 8 Figure 9 Figure 10 Figure 11 Figure 12 Figure 13 Figure 14 Figure 15 Figure 16 Introduction Over the past few decades, the Chinese economy has been struck by a series of deeply transformative shocks that have gradually raised the stakes of the country’s economic security imperative and placed President Xi Jinping’s ‘strategic autonomy’ and ‘de-risking’ ambitions at the core of China’s long-term development plans. In recent years, the objectives to become more innovative and resilient have taken on a greater sense of urgency (The Economic 2020). The tensions with America have shone a harsh light on the country’s various vulnerabilities, so creating fully domestic supply chains has now become a matter of national security. But the government knows that it cannot turn its back on the rest of the world. After all, exports are still an important source of government revenue (exports of goods and services represented 19.7% of GDP in 2023) (World Bank n.d.), and China needs foreign investment and technology to sustain its long-term economic development. This made adjusting the relationship between domestic and global markets a chief priority to guide economic development in a post-pandemic world. The strategy to achieve this balance is the Dual Circulation Strategy (DCS), which Xi Jinping explained in a speech to the Central Financial and Economic Affairs Commission in April 2020. [1] The DCS is a plan to enhance the domestic market as a source of consumption growth and ‘indigenous innovation’ while expanding China’s presence in the global economy by opening new markets, exporting overcapacity, and importing the resources (and technology) needed for its future development. Hence, the DCS represents an attempt to shift the Chinese economy towards a new development pattern featuring domestic and international ‘dual circulations’ complementing each other (Xinhua 2020). With the DCS, the Chinese Communist Party (CCP) has pursued an increasingly neo-mercantilist strategy, based on the pursuit of both economic self-reliance and greater economic leverage over foreign countries, which risks alienating countries in the Plural South and meeting fierce resistance in the West. However, during the pandemic, the DCS was difficult to implement. Domestic consumption was curtailed due to zero-COVID policies and disruptions in global supply chains brought international trade to a halt. Now that things have moved past COVID-19 era disruptions, it is a good moment to reassess the progress of the DCS and examine how the strategy has fared since its launch, and how it will impact Europe, the most open economy in the world. This paper aims to provide an answer to these questions by dissecting the main objectives of the DCS and measuring their progress over the past few years against the backdrop of a rapidly deteriorating external environment. This paper is based on an extensive literature review but also on primary fieldwork with focus groups and interviews in Brussels, Beijing, Shanghai, Madrid and Washington DC. It is divided as follows. After developing our conceptual framework, we evaluate the extent to which the various components of the DCS have evolved and critically assess the overall success of the strategy. Then, we use the electric vehicle (EV) sector as a comprehensive case study, and identify the impacts of DCS applied to EVs on European businesses. Our findings indicate that while the CCP has failed to increase domestic consumption and rebalance the Chinese economy, it has made significant progress in establishing China as a manufacturing powerhouse and fostering innovation in certain sectors. Additionally, China has advanced a strategy to maintain its dominance in the mining and refining of critical minerals and has made advances in securing energy sources to mitigate shortages. The EV sector encapsulates all aspects of the DCS, representing a clear case of success with an important impact on the European economy. It is also an area where the European Union (EU) must reconsider its strategy in response to China’s actions. We argue that Europe must foster innovation and increase investment to raise domestic production, but in the short term, it also has to ensure local production and technology transfers from China. Conceptual framework: China’s neomercantilism in dual circulation Throughout its recent history, based on its “state capitalism” reminiscent of the Bretton Woods period of fixed exchange rates and capital controls, China has become increasingly reliant on cheap manufacturing exports and state “directed” fixed asset investments to feed economic growth, mostly at the expense of domestic consumption. However, in recent years, this growth model has become a growing threat to the country’s economic security imperative. As tensions with America have mounted, and especially after the COVID-19 pandemic, the impulse to insulate China from exogenous shocks has taken on a greater sense of urgency, prompting party officials to seek a new equilibrium between keeping the country open to the world and becoming too dependent on it for its development. Yet the discussion about the need to achieve economic ‘rebalancing’ is not entirely new among Chinese policymaking circles. After acceding to the World Trade Organisation in 2001, China turned to international trade and investment to promote the country’s development and poverty alleviation (‘external’ circulation). However, the Global Financial Crisis (GFC) forced Chinese officials to recognise the limitations of this once successful growth strategy (Xinhua 2007) and turn their attention back to the country’s ‘internal’ circulation, hoping that, by boosting domestic demand mainly through investment and reducing the influence of external factors, China would be able to create a more sustainable future. The strategy of steering the country toward greater self-reliance was only partly successful. Although China did manage to increase domestic consumption as a share of Gross Domestic Product (GDP) between 2010 and 2019 (albeit from 34% to 39%), it was never able to reach the healthier levels of other major economies (see Figure 1). Instead, economic growth became increasingly dependent on a high savings-high investment model that, over time, found it increasingly difficult to fuel demand by funding productive investment (Pettis 2021), and on huge manufacturing exports, which allowed China to accumulate an ever-growing trade surplus with the rest of the world, but left it more and more vulnerable to external volatility (see Figures 2, 3 and 4). These elements came on top of other structural limitations, such as changing demographics (China Power 2023a), local governments’ rising debt levels (Leng and Yin 2023), and regional disparities between urban and rural areas (Yan and Mohd 2023), showing the extent of China’s mounting problems coming up to the current decade. The urge of rebalancing the Chinese economy, given its unsustainable structure and dynamics, seriously came to the fore in the latter Obama years and especially after Trump was elected president. After flexing its muscles after the GFC, Beijing found itself labelled a political, technological, and military adversary by its top trading partner, the United States (US) (Kaur 2023). Since 2018, the country has waged a costly trade and tech war with the US that has eroded the incomes of its citizens, disrupted financial markets, and inhibited business spending (The Economist 2023b). But at least then China was still on relatively good terms with the EU and much of the Plural South, which allowed party officials to continue ignoring the deeper reforms it would have needed to secure a more sustainable economic growth model. The COVID-19 pandemic, however, dealt another blow to China’s already-battered economy, shining a harsh light on its dependence on other countries for critical goods, namely semiconductors, crude oil, and food products (China Power 2023b), and prompting many foreign investors to leave the country in search of greater stability (see figures 5 and 6) (Lardy 2023). The zero-COVID policies enacted by the government further exacerbated the drop in consumption, production, and investment from the previous years (Li and Li 2023), and though all measures were lifted in January 2023, the result has not been the rebound that many Chinese were expecting. To make matters worse, Beijing is now simultaneously fighting a property sector downturn (The Economist 2023a), a run on its stock markets (Mark 2024), and a deflation crisis (Li and Woo 2024) in the face of geopolitical, demographic and technological challenges. Hence, the Chinese government has embraced the notion of hedged integration to allow China to interact with the global community on its own terms. It appears that President Xi’s chief concern is that, without a change in course, China will fall prey to global economic volatility and geopolitical encirclement, which explains the rationale for greater self-reliance. Yet, in its current form, the DCS risks alienating friends and foes alike, as the focus has been less set on promoting domestic consumption than on bolstering the country’s own defences and unleashing new productive forces, especially those associated with disruptive technologies (The Economist 2020). Beijing desperately needs a new development pattern to guide economic growth in the post-pandemic era, but its inability (or unwillingness) to raise living standards and give greater play to the advantages of its super-large market and domestic demand potential threatens to leave China even more vulnerable to external threats. For the moment, the country has succeeded in its goal to become a global manufacturing powerhouse for high value-added products, as it has increased foreign dependence to Chinese goods and ensured access to the critical inputs it needs to enhance innovation. But the country’s industrial overcapacity is already becoming a problem for the developing world (Boullenois and Jordan 2024), not to mention for Western powers, many of whom have already enacted a range of defensive measures to avoid a second ‘China shock’ (Brainard 2024). In the following section, we assess the DCS’s recent progress by going over its main objectives: (i) boosting domestic consumption, (ii) positioning China as a global manufacturing powerhouse (especially in high value-added products), (iii) enhancing innovation, and (iv) ensuring access to critical inputs (China Power 2023b). State of play: where does China stand? Goal #1 – Boosting domestic consumption The first goal of the DCS has been to do away with China’s traditionally export-oriented and investment growth model and pivot the economy towards a more domestic consumption-driven development pattern. The logic is that by relying more on China’s domestic market to drive demand, Beijing will be less vulnerable to external volatility, including supply chain disruptions and import duties from countries resenting its state capitalist model. And indeed, China’s chronic under-consumption has long been recognised as one of the country’s most puzzling challenges. In 2023 China accounted for 18% of global GDP and 32% of global investment, but only for 13% of global consumption (Pettis 2023). It has run a trade surplus for 34 of the past 40 years precisely because it consistently produces more than what its households, firms, and government can buy (The Economist 2024a). In some ways, Beijing is moving in the right direction. For example, thanks to the lifting of COVID-19 restrictions, in 2023 consumption accounted for 83% of GDP growth, its biggest share in years (see figure 7). Trying to keep this momentum, the government has also pledged a raft of measures to boost consumption, particularly in the automobile, real estate, and services sectors (Xinhua 2024). However, most signs indicate that a step change will be hard to achieve. For one, the ripple effects of China’s zero-COVID policy (Posen 2023), combined with the ongoing turmoil in the property and stock markets, and the US containment strategy – recently turned into a trade war by President Trump -- have hurt the public mood and plunged the economy into deflation (see figure 8) (Makortoff and Wearden 2024). Moreover, consumer confidence is low, as large segments of the public are increasingly sceptical about the capacity of the government to propose and implement adequate policies. As a result, total retail sales of consumer goods as a share of GDP are still nowhere near its 2016 peak (see figure 9). But the biggest challenge continues to be the long-term pivot required to rebalance the economy successfully, which could mean raising consumption by as much as 10 percentage points (The Economist 2024a). Considering the little historical precedent for such a shift, not to mention the fact that Chinese policymakers have been trying unsuccessfully to achieve that for much of the past 20 years, the prospects are bleak. Goal #2: Positioning China as a global manufacturing powerhouse The second goal of the DCS has been to position China as a global manufacturing powerhouse, which in some ways contradicts the previous objective of reducing Beijing’s export-dependence. However, China is making sense of this balancing exercise by enhancing its advanced manufacturing capabilities, and by broadening its access to foreign markets in the Plural South, which will be key in view of the country’s growing tensions with the West. For example, China is doubling down on its Made in China 2025 industrial strategy, which aims to upscale the country’s domestic capabilities in 10 key industries, including robotics, batteries, and EVs. Similarly, the country is conducting an increasing share of its trade with its ASEAN and BRICS partners, mostly at the expense of other major rich-world economies (see figure 10). Indeed, this area is where Beijing has arguably achieved the most progress so far. Although its share of manufacturing in the economy has somewhat declined in recent years, China still remains above most other major economies (see figure 11). Moreover, its share of global manufacturing value added has been rising steadily, while that of the West has been losing ground (see figure 12). And crucially, China’s largest goods exports are increasingly in more complex products such as electronics and machinery (see figure 13). However, China faces two important challenges in its quest to become a global manufacturing powerhouse. First, by increasing the relative size of its manufacturing sector, China will probably drive up its need for critical inputs in terms of energy and raw materials, both of which the country is in short supply of. Second, although Beijing has mostly been able to capitalise on the Plural South’s grievances against the West, and thus has plenty of alternative markets to ship its exports to if their protectionism deepens, the battle for the hearts and minds of the developing world is far from over (Schuman 2023). Indeed, the relationship between China and the Plural South is changing dramatically, and not necessarily in positive ways as many of these countries are uncomfortable with China leading the group of emerging and developing countries. Still, China’s growing manufacturing capabilities are unquestionable. Manufacturing represents roughly 30% of the world’s industrial output (World Bank, n.d.c.), and more than 25% of China’s annual GDP (World Bank, n.d.b.). The CCP expects that the coming advanced manufacturing boom alone could be sufficient to ensure a 5% growth of GDP in the medium run. But there is a risk that this could lead to another trade war with the West. Attitudes toward China have hardened in recent years, and many are becoming more protective of their industrial bases. If Beijing does not find a way to reach domestic consumers or foreign markets, industrial overcapacity could become a bigger challenge than it already is today (Leahy 2024). Goal #3: Enhancing innovation Embedded in the DCS’ third objective is the growing belief among CCP officials that China can innovate its way out of its current conundrum (China Power 2023b). Indigenous innovation is widely seen as the key to self-sufficiency, as it could help China reduce its import needs and thus leave Beijing less vulnerable to external factors (Xinhua 2021). China is making solid progress in promoting the high-quality development it so desperately desires by placing innovation as the economy’s main driving force. As is often the case, China’s ambition to become an innovation powerhouse traces back many years. At the turn of the millennium, China was barely spending 1% of GDP in research and development (R&D), about the same as India. But by 2024, that figure had risen to almost 2.7%, still paling in comparison to the world’s most innovative nations but in gross terms it allocated almost as much as the US, the biggest spender (See figures 14 and 15). Last year China also ranked 12 th in the World Intellectual Property Organisation’s (WIPO’s) Global Innovation Index report, with 6 indicators ranking first in the world (WIPO 2023a), and received a total of 1.6 million patent applications, almost three times as many as the US, the second on the list (WIPO 2023b). And one cannot ignore the country’s Made in China 2025 commitments, which include dramatically increasing spending on areas such as artificial intelligence, biotechnology, blockchain, neuroscience, quantum computing, and robotics. Indeed, the old mantra that America innovates, China replicates, and Europe regulates may no longer be so applicable. However, China still needs foreign capital and know-how to scale up its innovation capacity. Much of the country’s first technological build-up after the reform and opening-up era was fuelled by technology imports (Zhao 1995), and it is no secret that technology transfers and joint ventures have played a big role in China’s most recent push to support indigenous innovation (Lewis 2023). Yet, attracting that foreign direct investment will be challenging in the face of growing tensions with the West over Chinese techno-nationalism. Chinese officials expect continued pushback from the US and its allies in the coming years, and slowing economic growth and a tighter fiscal environment could negatively affect the country’s innovation funding and capacity (Wang, 2021). Likely, these setbacks will not stop China from becoming a global leader in many of the strategic sectors it has set its eyes on, but it could slow its development of a well-rounded, self-sufficient innovation ecosystem, especially considering that there is certain mismatch between the R&D funding objectives and actual innovation outcomes of the country (Boeing 2024). Goal #4: Ensuring access to critical inputs The fourth and final objective of the DCS has been to ensure China’s access to the resources it needs to feed its people and fuel its domestic industries. Although Beijing is making some progress in its mission to advance towards greater self-reliance, in the short term, it needs to diversify its food, energy, critical raw materials, and technology imports to de-risk its supply chains. A key example is energy. China is the world’s largest crude oil, natural gas, and coal importer, but the country has achieved some resilience by sourcing imports from a myriad of highly diverse suppliers, many of which are the sort of autocratic regimes that the West has been trying to avoid (BP 2022). For instance, while the US and Europe have shunned Russian oil and gas since its unprovoked invasion of Ukraine in February 2022, China has increased its orders to all-time highs (Hayley 2024). And by investing heavily in renewables, Beijing has not only balanced its energy consumption towards more sustainable sources but also supported a booming solar and wind industry that is increasingly dominating the world (Bradsher 2024). Another area where China has reached a relatively high strategic autonomy is critical minerals. The country’s quasi-monopoly over rare earths or gallium among others, and its strong position over the processing of nickel, copper, lithium, and cobalt – elements that will be critical to the global energy transition – gives Beijing an enormous geopolitical advantage for the times ahead (Sewall 2024; Castillo and Purdy 2022). China is by far the leading primary source or value-added refiner of many of these products, not by accident but by strategic investments that the CCP has made through the years to take control of them. That control has partly saved China from being cut off from other critical supply chains, such as semiconductors, where it does not have a strategic advantage (Reuters 2023). But it has not been enough. China has long sought to reduce its dependence on foreign chip technology, pouring subsidies into domestic manufacturers and promoting import substitution as a safeguard against ongoing trade and technology conflicts that have curbed the country’s access to advanced computing equipment (The Economist 2024b). However, the chokehold of China’s geopolitical rivals over the industry is still evident, and the country is still far from the tech frontier. Still, it could be a matter of time until China finds a way to ensure access to even these critical inputs. For the moment, Beijing has become increasingly capable of exploiting loopholes to get its hands on foreign chip technology. But the tech rivalry between the US and China is also leading to the creation of a more sophisticated Chinese industry, which, according to some sources, could supply over 30% of the country’s semiconductors’ needs by 2027 (Chiao and Chung 2023). Case study: the DCS through the lens of China’s rising EV sector All these elements come together in China’s rising EV sector. The country has rapidly come to dominate the global EV market despite being a relative latecomer to the automobile industry. EV penetration in China is much higher than in the EU or the US. In a matter of years, Chinese firms went from being mostly unknown outside their borders to bringing a range of flick and affordable electric cars to the market, capturing a growing share of global manufacturing, sales, and exports, which stood at 57%, 59%, and 35% in 2023, respectively (International Energy Agency 2024). However, this path to massive growth is no accident. China’s recent EV boom has been largely the result of government intervention in support of this sector as part of a strategic, top-down decision to boost the role of new energy vehicles (NEVs) in China’s industrial policy. But public support is only part of the story. Chinese producers have learned fast and have been able to build a solid competitive advantage, leverage domestic demand, and take advantage of the fact that virtually the entire EV value chain is in China. Thus, the Chinese EV sector is a good case study for assessing the progress of the DCS, as it represents a strategically important industry with links to both domestic and foreign policy, green development, and technological sovereignty. China’s rising EV manufacturing power In 2009, China was on its path to becoming the world’s largest oil importer. The mobility needs of the country’s growing middle class would only accelerate this unavoidable fate. By then, air pollution had also become a mounting problem in many big Chinese cities, causing an estimated 30.8 million premature deaths between 2000 and 2016 (Liang et al. 2020). Electrification seemed like an obvious solution to improve air quality and ensure the country’s future energy independence. NEVs represented a particularly important part of that endeavour, but the problem was that, at the time, China had no indigenous automotive industry to embark on this ambitious quest. China would still need to start from scratch. And so, knowing that Beijing would probably never be able to compete against Western manufacturers on internal combustion engine (ICE) technology, a decision was made to focus on the next generation of cars (Gong et al. 2012). However, Chinese companies would first need to develop a competitive advantage to differentiate themselves from others, and in this area, government support was crucial. Chinese companies began their EV drive relatively late – after all, by 2012, Tesla had already become a household name in the US. To catch up, they would need favourable policies and incentives such as subsidies, R&D spending, tax breaks for companies, and support for consumers willing to buy an EV. Most early efforts were focused on adjacent industries like buses, motorcycles, and taxis, where experimentation presented unique challenges for manufacturers to address (Lin 2024). For example, the heavier weight load and longer operational hours of city buses allowed Chinese companies to push the boundaries of battery technologies relatively early on, developing lighter and more durable batteries. Beijing also helped upgrade its battery technology by setting up minimum requirements for domestic manufacturers and encouraging foreign companies selling EVs in China to use domestic components to qualify for subsidies. Ultimately, both producers and consumers benefited greatly from this massive state support. Companies would receive substantial subsidies whenever they sold electric cars, as well as cheap land leases and soft loans from state-owned banks. In addition to reduced prices, consumers would receive other benefits like discounts on charging, favourable parking, battery-swapping incentives for commercial heavy-duty vehicles, and even unique green license plates (Cui et al. 2023). All in all, between 2009 and 2023, the government supported the EV industry with $230 billion in industrial policy spending, comprising buyer rebates, sales tax exemptions, infrastructure subsidies, R&D programs, and government procurement, which allowed consumer sales to skyrocket (Kennedy 2024). Interestingly, this sales boom continued even after many of these subsidies were phased out, as the demand for EVs had already been created, scale reduced average costs and a virtuous cycle endured. In 2023, the first year that the industry ran without the support of national subsidies for EV purchases, new electric car registrations rose by 35% compared to 2022; and by April 2024, EVs exceeded half of all car sales for the first time (International Energy Agency 2024). Indeed, these demand policies have created an appetite for electric cars which has grown much faster than in the West (Andrews 2024), reinforced by Chinese firms’ ability to offer more competitive and innovative vehicles: BYD alone sold 2.7 million units (35% of the total) compared to Tesla’s 0.6 million (7.8%) (Zhang 2024). The second factor explaining China’s recent success in EV manufacturing has been its dominance over battery components. Batteries make an essential part of NEVs, representing approximately 40% of the total cost to produce an EV. In order to control the battery supply chain, Chinese firms hold massive stakes in mines across the world where the minerals needed for batteries can be found (BBC 2024). They also have a monopoly over the processing and refining of these materials (which can then be sold to the rest of the world), as well as over the manufacturing of cell components and batteries themselves (see Figure 16). As a result, China’s battery prices were significantly more competitive than those made in the EU and in the US in 2022, which were 20% and 11% more expensive, respectively (BloombergNEF 2023). In turn, this market dominance has allowed Chinese companies to continue leading the world in battery innovation (Dnistran 2024) and making it increasingly dependent on their technology, including on software. The Draghi report highlights how, thanks to the massive use of AI, Chinese software for automotive production is significantly ahead of, for example, European counterparts (Draghi 2024). Beijing’s ‘buy Chinese’ policies and state subsidies have hurt Western firms trying to get a foot in the Chinese market. As a response to this trend, in recent years, many countries have started to react to Beijing’s increasingly mercantilist stance, calling it unfair competition and levying punitive tariffs to protect their own manufacturers. What is clear is that in the case of EVs China has achieved its four DCS goals: 1) it has increased significantly its domestic consumption; 2) it has positioned itself as a global manufacturing powerhouse; 3) it is significantly enhancing its innovation, especially in batteries, the “motor” of EVs, and 4) it has ensured great access to critical inputs. Impact on Europe European markets have experienced a significant surge of Chinese EVs. Roughly 40% of all Chinese EVs exports end in the EU, which means that the share of Chinese EVs of total sales has risen from less than 3% to over 20% between 2020 and 2023 (ACEA 2024). European producers and brands have been long-time champions of internal combustion engine vehicles and leading exporters worldwide. However, the European sector has experienced major changes, as total EU vehicle exports have declined by 16% from 2017 to 2022. European legacy carmakers, fearful of the restructuring costs that the “new age” would entail, were late to adapt to the EV revolution (they initially bet on hybrid cars and not EVs or plug-in vehicles). As a result, the competitive advantage of European firms has eroded (Draghi 2024), European production has fallen, and Chinese EVs became cheaper and better (Shepardson and Gomes 2024). In addition, the EU has set ambitious targets for the reduction of carbon emissions from the automotive sector, which now plays in China´s favour. Vehicles are subject to CO2 emission reduction targets that are tightening every year. Emissions from transport fuels will be included in the EU Emission Trading System in 2027, while urban access restrictions based on vehicle emissions are already widespread in many European cities (Draghi 2024). The European Commission even envisions a total ban on the sale of new diesel and gasoline cars by 2035. Consequently, complying with EU law and targets will require, among other things, a rapid deployment of EVs. In Europe, EV penetration is increasing: EVs represented more than 21% of new car sales in 2023. Some Western EVs cost more than their petrol-powered counterparts (10%-50% more expensive). In China, on the other hand, 60% of EVs sold in 2023 were cheaper than their average combustion engine equivalent (Russell 2024). Differences in investment costs and operational expenses persist. An example of investment cost divergences is gigafactories, where Chinese and US gigafactories require CAPEX expenditures of USD 60 million per GWh,[2] compared to Europe’s EUR 80 million per GWh. For operational expenses, European electricity industrial retail prices have become 158% more costly than in the US in 2023 (China reports energy costs slightly higher than the US), with additional uncertainty related to higher volatility and unpredictability vis-à-vis energy prices in other regions. Similarly, Europe has 40% higher nominal unit labour costs than China[3]. This makes European EVs a hard sell for most consumers. As a result, European carmakers are seeing their EV market share decline sharply (from 80% in 2015 to 60% in 2023), while the Chinese share has significantly increased (Draghi 2024). This means that the EU is absorbing a great part of China’s overcapacity generated by its DCS in EVs. As a result of China's large subsidies and political push for EVs, there is no level playing field in the EU single market, and the Chinese vehicles have an unjustified cost advantage. To tackle the problem, the European Commission imposed in October 2024 tariffs of up to 35.3% (on top of the previous 10%) on EVs produced in China. The Chinese government expressed disagreement, threatened import tariffs on EU brandies like French cognac, and initiated an anti-dumping investigation into EU pork exports. However, China seems relatively comfortable because its cars will continue to be competitive in the European market. Given the ample profit margins that Chinese EV car models enjoy in Europe (e.g. BYD’s Seal U model makes EUR 13,000 more in profit in the EU than in China), duties should be as high as 45% to 55% to effectively erode the Chinese advantage (Sebastian et al. 2024). Moreover, several Chinese companies have announced important investments in Europe to bypass the tariffs, creating an internal competition among EU member states to attract Chinese investments in this sector, which can undermine a common European position in key areas like data security. [1] The DCS was announced in a speech during the seventh meeting to the Central Financial and Economic Affairs Commission in April that was only published in September 2020. [2] US investment requirements take into account the producer and consumer tax credits introduced by the Inflation Reduction Act (IRA), which have reduced private investment needs for gigafactories from USD 90 million per GWh to USD 60 million per GWh. [3] Defined as the cost of labour to unit of output. Conclusion: How should Europe react? The EU is heavily exposed to what has been described as the “China Shock 2.0.” While Beijing has long recognised that it needs to stimulate domestic demand as an engine of growth, one of the main objectives of the DCS, the reality is that this is not happening. The reasons are myriad, and have to do with internal factors, like the burst of the real estate bubble and the harsh measures to fight COVID-19, and external pressures, mainly the US’ containment strategy of China – (Otero Iglesias 2024). But, in essence, the end result is clear. Out of the four main aims of the DCS: 1) to stimulate internal consumption; 2) to become a manufacturing powerhouse; 3) to enhance innovative capacity; and 4) to assure the provision of critical materials, China has been performing exceedingly well in the last three. This is impacting the EU disproportionally hard because it has traditionally been an industrial powerhouse in legacy sectors, and it is overly dependent on critical minerals from outside its borders. Moreover, if the Trump administration 2.0 continues imposing heavy tariffs on Chinese goods or reaches a deal by which China buys more American goods and exports less to the US, the EU will probably receive a larger flow of Chinese exports. This increased industrial pressure is epitomised by the dawn of the EV era in the car industry. Although China has achieved all four goals of the DCS, with internal consumption relatively strong, it has produced an enormous overcapacity. Europe is, for now, the main destination of EV excess production, given that the US has imposed 100% tariffs and banned all usage of Chinese software in electric and automated cars. The difference in approach is clear. While the US is decoupling from China, the EU is de-risking. The gradual and measured approach by the Commission to tariffs on EVs coming from China falls within WTO norms and will not eliminate Chinese competition in the European market, but it will give some breathing space to the European carmakers to catch up. At the same time, these tariffs will encourage Chinese carmakers to produce more of their cars in Europe, which they are already doing. The pessimistic outlook for the European car industry can look very grim. Given that EVs are “smartphones on wheels”, European carmakers might end up having a negligible presence in the sector. This pessimism might be reinforced by the fact that the European companies’ competitive advantage since the second industrial revolution has always been the combustion engine, while the car industry has moved from mechanics to electronics. But all is not lost for Europe. The EV era is only starting, with potential technological breakthroughs in the coming years making current EV batteries and technology obsolete. Europe has certain strengths that it can still utilise. But it needs to act fast. As the Draghi Report suggests, the EU must design an Action Plan for the automotive sector, which must start by having a technology-neutral approach in the transition phase to zero emissions that includes the use of biodiesel and alternative fuels. The Action Plan needs to be toppled with a coherent “digital policy”, or cybersecurity policy, “encompassing the data ecosystem and AI development needs” which necessarily needs to be independent of that of the US, because, as mentioned before, while the US is in de-coupling mode, the EU tries to de-risk from China. Therefore, it needs an economic security strategy for data collection, treatment and storage in the car industry which does not give third parties a competitive edge. And this strategy needs to be applied homogenously throughout the EU. A tall order. Based on the research conducted for this paper, it is very likely that the EU’s response to the challenge of confronting China’s EV edge will be based on three layers of policy. The first will be implementing some of the suggestions included in Draghi´s action plan, which go from increasing the charging stations to generate more demand and competition to support common European projects to produce affordable European EVs and investing in software and autonomous driving and enhance the value chains in circularity. For this the EU as a whole and the EU member states need to move the focus from research and science to innovation and technology. The EU, therefore, must invest heavily, but it should do it at the European level to avoid fragmenting the single market and benefiting countries with more fiscal space. In sum, the EU should estimate how many EVs it can realistically produce with a more ambitious European industrial policy across the EV value chain and import what is not domestically produced from the US and China. That would require planning, strategic thinking and joint financing, the latter being critical but insufficient nowadays. The second layer could be protecting the European car industry by doubling down on the sustainability factor. Here the “bonus écologique” introduced by France can be a blueprint for the rest of the EU. According to this scheme, state or public aid to purchase EV cars will only be available for cars that have a very low emissions footprint (based both on production and transport) and this is likely to exclude most cars produced in China, and even in the US. This might be regarded as a protectionist measure, but it would certainly be coherent with the EU goal of climate neutrality by 2050. This measure would also facilitate that most of the supply chain of Chinese produced cars in Europe is European and not imported from China. Localisation would thus be assured. Finally, it is very likely that Europe will acknowledge that it needs to “learn” from China in the car industry. Here the preliminary example is the joint venture that the Spanish government has imposed between the Chinese carmaker Chery and the Spanish firm Ebro EV Motors in reopening a former Nissan factory in Barcelona. The deal considers an initial phase where assembly of Chinese imported components will take place in Spain, to then advance towards localisation. Under these terms, technology transfer might be limited. The partnership model thus needs to evolve towards greater technology transfer and local participation in the value chain. The underlying potential, however, is undeniable: China is the most advanced country in battery production, while Spain is keen to acquire this technology. And this applies to upstream processes like the mining of lithium in Extremadura to the creation of dual vocational training programmes related to Chinese EV production in Catalonia. Along this line, in November 2024, the EU Commission announced that it will require Chinese companies to transfer intellectual property in battery production in exchange for EU subsidies to Chinese companies in Europe as part of the ongoing trade and green tech negotiations (Hancock et al. 2024). It might certainly be ironic that “technology transfer”, a very Chinese strategy that has traditionally been criticised in Europe, might be now adopted in reverse. But the first step to achieve renewed competitiveness is to recognise ones’ own deficiencies, and in Europe increasingly the consensus is that Chinese key inputs like batteries and software are indispensable for European companies to stay in the game, while at the same time own capacities need to be improved to reduce overdependence and strive for open strategic autonomy. Statements and Declarations Funding The research leading to these results received funding from the ReConnect China project, funded by the European Union under the Horizon 2020 grant HORIZON-CL2-2021-TRANSFORMATIONS-01-07. Competing interests The authors have no relevant financial or non-financial interests to disclose. Ethics approval and consent Not applicable Data, Materials and/or Code availability All materials used are available online via the references provided in the reference list. References ACEA (2024) Fact sheet: EU-China vehicle trade. 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(OECD 2022)\u003c/p\u003e","description":"","filename":"3.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/de64492487be2d64da867119.png"},{"id":89982498,"identity":"bbc12283-ce7c-4760-8a46-435b9ac95deb","added_by":"auto","created_at":"2025-08-27 06:29:29","extension":"png","order_by":4,"title":"Figure 4","display":"","copyAsset":false,"role":"figure","size":18072,"visible":true,"origin":"","legend":"\u003cp\u003eEvolution of GDP, exports, and imports (2013-2023) (2019 Q4 = 100) (Soyres and Moore 2024)\u003c/p\u003e","description":"","filename":"4.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/9adfc8961e4c9919a4d0254a.png"},{"id":89982506,"identity":"e5911228-5abb-472c-9755-84b691195c07","added_by":"auto","created_at":"2025-08-27 06:29:29","extension":"png","order_by":5,"title":"Figure 5","display":"","copyAsset":false,"role":"figure","size":20511,"visible":true,"origin":"","legend":"\u003cp\u003eEvolution of Chinese good by imports\u003c/p\u003e\n\u003cp\u003e(2017-2023) (2019 Q4=100) (Soyres and Moore 2024)\u003c/p\u003e","description":"","filename":"5.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/ca2c8b5086753ab3fd72221c.png"},{"id":89984468,"identity":"13ea9f4a-7672-49db-b294-6764492d6cf6","added_by":"auto","created_at":"2025-08-27 06:37:29","extension":"png","order_by":6,"title":"Figure 6","display":"","copyAsset":false,"role":"figure","size":10344,"visible":true,"origin":"","legend":"\u003cp\u003eForeign direct investment inflows (2011- 2023) (Lardy 2023)\u003c/p\u003e","description":"","filename":"6.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/2bda45d7cc0bd2d3f3e42f81.png"},{"id":89984471,"identity":"a8700124-028d-4774-92b6-e5d97278603a","added_by":"auto","created_at":"2025-08-27 06:37:29","extension":"png","order_by":7,"title":"Figure 7","display":"","copyAsset":false,"role":"figure","size":7654,"visible":true,"origin":"","legend":"\u003cp\u003eContribution to GDP growth (2015-2023) (National Bureau of Statistics of China n.d.)\u003c/p\u003e","description":"","filename":"7.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/d02a64ad530f168ad603ce93.png"},{"id":89982508,"identity":"17341a83-ab67-42f7-b574-94f0f7620c1e","added_by":"auto","created_at":"2025-08-27 06:29:29","extension":"png","order_by":8,"title":"Figure 8","display":"","copyAsset":false,"role":"figure","size":16122,"visible":true,"origin":"","legend":"\u003cp\u003eConsumer and Producer Price Index (CPI and PPI), YoY change (2021-2023) (National Bureau of Statistics of China 2022a, 2022b, 2023a, 2023b, 2024a, 2024b)\u003c/p\u003e","description":"","filename":"8.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/de655010a381e9bc49e8333b.png"},{"id":89982510,"identity":"96356fa0-ecf2-4220-862b-552125c4a428","added_by":"auto","created_at":"2025-08-27 06:29:29","extension":"png","order_by":9,"title":"Figure 9","display":"","copyAsset":false,"role":"figure","size":13906,"visible":true,"origin":"","legend":"\u003cp\u003eTotal retail sales of consumer goods to GDP (2000-2023) (National Bureau of Statistics of China n.d.)\u003c/p\u003e","description":"","filename":"9.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/4f6b710a92a7f432f1dba941.png"},{"id":89982502,"identity":"0b29c5cd-2feb-46ee-90f4-5a267a3ef259","added_by":"auto","created_at":"2025-08-27 06:29:29","extension":"png","order_by":10,"title":"Figure 10","display":"","copyAsset":false,"role":"figure","size":21002,"visible":true,"origin":"","legend":"\u003cp\u003eChina’s total merchandise trade with selected partners, January 2018 = 1.00 (General Administration of Customs People’s Republic of China, n.d.)\u003c/p\u003e","description":"","filename":"10.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/21d0cbf395e6ca369daa5ac1.png"},{"id":89982511,"identity":"e1b17c74-c5cb-41a4-95ca-4162bb6890e3","added_by":"auto","created_at":"2025-08-27 06:29:29","extension":"png","order_by":11,"title":"Figure 11","display":"","copyAsset":false,"role":"figure","size":14906,"visible":true,"origin":"","legend":"\u003cp\u003eSelected countries’ manufacturing as a share of GDP (2004-2020) (World Bank, n.d.b)\u003c/p\u003e","description":"","filename":"11.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/94ac1bd5f564859b492f2081.png"},{"id":89984473,"identity":"d849c5f8-e52a-4538-b164-39a200b2edd3","added_by":"auto","created_at":"2025-08-27 06:37:29","extension":"png","order_by":12,"title":"Figure 12","display":"","copyAsset":false,"role":"figure","size":12050,"visible":true,"origin":"","legend":"\u003cp\u003eShare of selected countries’ global manufacturing value added (2004-2022) (World Bank, n.d.c)\u003c/p\u003e","description":"","filename":"12.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/2a17355f7eef5e50f0b77907.png"},{"id":89982514,"identity":"bc2080b1-3384-4c02-a19c-239d4c18a088","added_by":"auto","created_at":"2025-08-27 06:29:29","extension":"png","order_by":13,"title":"Figure 13","display":"","copyAsset":false,"role":"figure","size":22587,"visible":true,"origin":"","legend":"\u003cp\u003eChina’s export basket (2021) (Atlas of Economic Complexity, n.d.)\u003c/p\u003e","description":"","filename":"13.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/9f08949e6fb33c4583ab8cb5.png"},{"id":89982505,"identity":"6bb3df79-0834-4962-813e-42922608b9e1","added_by":"auto","created_at":"2025-08-27 06:29:29","extension":"png","order_by":14,"title":"Figure 14","display":"","copyAsset":false,"role":"figure","size":15968,"visible":true,"origin":"","legend":"\u003cp\u003eSelected countries’ gross R\u0026amp;D spending, % of GDP (2000-2021) (World Bank n.d.d)\u003c/p\u003e","description":"","filename":"14.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/85a610ccf989293ef9244385.png"},{"id":89982525,"identity":"7702d9d8-8ec4-474b-a348-329705daf3f9","added_by":"auto","created_at":"2025-08-27 06:29:30","extension":"png","order_by":15,"title":"Figure 15","display":"","copyAsset":false,"role":"figure","size":12159,"visible":true,"origin":"","legend":"\u003cp\u003eSelected countries’ gross R\u0026amp;D spending, USD bn (current prices) (2000-2021) (OECD n.d.)\u003c/p\u003e","description":"","filename":"15.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/2d5169cb5763b46352f513bd.png"},{"id":89982515,"identity":"98809337-11f3-46ad-be80-8aa95fcb5331","added_by":"auto","created_at":"2025-08-27 06:29:29","extension":"png","order_by":16,"title":"Figure 16","display":"","copyAsset":false,"role":"figure","size":28894,"visible":true,"origin":"","legend":"\u003cp\u003eGeographical distribution of the global EV battery supply chain (2022) (International Energy Agency 2022)\u003c/p\u003e","description":"","filename":"16.png","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/065c86949d8593d15400e3be.png"},{"id":89986115,"identity":"88008af8-43a9-4e2d-a391-4442767fb839","added_by":"auto","created_at":"2025-08-27 06:53:43","extension":"pdf","order_by":0,"title":"","display":"","copyAsset":false,"role":"manuscript-pdf","size":628340,"visible":true,"origin":"","legend":"","description":"","filename":"manuscript.pdf","url":"https://assets-eu.researchsquare.com/files/rs-6973843/v1/a37339e5-6859-45b5-b93d-257a1d7d614d.pdf"}],"financialInterests":"No competing interests reported.","formattedTitle":"China’s Dual Circulation Strategy and its Impact on European Industry: The Case of the Electric Vehicle","fulltext":[{"header":"Introduction","content":"\u003cp\u003eOver the past few decades, the Chinese economy has been struck by a series of deeply transformative shocks that have gradually raised the stakes of the country\u0026rsquo;s economic security imperative and placed President Xi Jinping\u0026rsquo;s \u0026lsquo;strategic autonomy\u0026rsquo; and \u0026lsquo;de-risking\u0026rsquo; ambitions at the core of China\u0026rsquo;s long-term development plans. In recent years, the objectives to become more innovative and resilient have taken on a greater sense of urgency (The Economic 2020). The tensions with America have shone a harsh light on the country\u0026rsquo;s various vulnerabilities, so creating fully domestic supply chains has now become a matter of national security. But the government knows that it cannot turn its back on the rest of the world. After all, exports are still an important source of government revenue (exports of goods and services represented 19.7% of GDP in 2023) (World Bank n.d.), and China needs foreign investment and technology to sustain its long-term economic development. This made adjusting the relationship between domestic and global markets a chief priority to guide economic development in a post-pandemic world.\u003c/p\u003e\n\u003cp\u003eThe strategy to achieve this balance is the Dual Circulation Strategy (DCS), which Xi Jinping explained in a speech to the Central Financial and Economic Affairs Commission in April 2020. [1] The DCS is a plan to enhance the domestic market as a source of consumption growth and \u0026lsquo;indigenous innovation\u0026rsquo; while expanding China\u0026rsquo;s presence in the global economy by opening new markets, exporting overcapacity, and importing the resources (and technology) needed for its future development. Hence, the DCS represents an attempt to shift the Chinese economy towards a new development pattern featuring domestic and international \u0026lsquo;dual circulations\u0026rsquo; complementing each other (Xinhua 2020). With the DCS, the Chinese Communist Party (CCP) has pursued an increasingly neo-mercantilist strategy, based on the pursuit of both economic self-reliance and greater economic leverage over foreign countries, which risks alienating countries in the Plural South and meeting fierce resistance in the West.\u003c/p\u003e\n\u003cp\u003eHowever, during the pandemic, the DCS was difficult to implement. Domestic consumption was curtailed due to zero-COVID policies and disruptions in global supply chains brought international trade to a halt. Now that things have moved past COVID-19 era disruptions, it is a good moment to reassess the progress of the DCS and examine how the strategy has fared since its launch, and how it will impact Europe, the most open economy in the world. This paper aims to provide an answer to these questions by dissecting the main objectives of the DCS and measuring their progress over the past few years against the backdrop of a rapidly deteriorating external environment.\u003c/p\u003e\n\u003cp\u003eThis paper is based on an extensive literature review but also on primary fieldwork with focus groups and interviews in Brussels, Beijing, Shanghai, Madrid and Washington DC. It is divided as follows. After developing our conceptual framework, we evaluate the extent to which the various components of the DCS have evolved and critically assess the overall success of the strategy. Then, we use the electric vehicle (EV) sector as a comprehensive case study, and identify the impacts of DCS applied to EVs on European businesses. Our findings indicate that while the CCP has failed to increase domestic consumption and rebalance the Chinese economy, it has made significant progress in establishing China as a manufacturing powerhouse and fostering innovation in certain sectors. Additionally, China has advanced a strategy to maintain its dominance in the mining and refining of critical minerals and has made advances in securing energy sources to mitigate shortages. The EV sector encapsulates all aspects of the DCS, representing a clear case of success with an important impact on the European economy. It is also an area where the European Union (EU) must reconsider its strategy in response to China\u0026rsquo;s actions. We argue that Europe must foster innovation and increase investment to raise domestic production, but in the short term, it also has to ensure local production and technology transfers from China.\u003c/p\u003e\n\u003cp\u003e\u003cstrong\u003e\u003cu\u003eConceptual framework: China\u0026rsquo;s neomercantilism in dual circulation\u003c/u\u003e\u003c/strong\u003e\u003c/p\u003e\n\u003cp\u003eThroughout its recent history, based on its \u0026ldquo;state capitalism\u0026rdquo; reminiscent of the Bretton Woods period of fixed exchange rates and capital controls, China has become increasingly reliant on cheap manufacturing exports and state \u0026ldquo;directed\u0026rdquo; fixed asset investments to feed economic growth, mostly at the expense of domestic consumption. However, in recent years, this growth model has become a growing threat to the country\u0026rsquo;s economic security imperative. As tensions with America have mounted, and especially after the COVID-19 pandemic, the impulse to insulate China from exogenous shocks has taken on a greater sense of urgency, prompting party officials to seek a new equilibrium between keeping the country open to the world and becoming too dependent on it for its development. Yet the discussion about the need to achieve economic \u0026lsquo;rebalancing\u0026rsquo; is not entirely new among Chinese policymaking circles.\u003c/p\u003e\n\u003cp\u003eAfter acceding to the World Trade Organisation in 2001, China turned to international trade and investment to promote the country\u0026rsquo;s development and poverty alleviation (\u0026lsquo;external\u0026rsquo; circulation). However, the Global Financial Crisis (GFC) forced Chinese officials to recognise the limitations of this once successful growth strategy (Xinhua 2007) and turn their attention back to the country\u0026rsquo;s \u0026lsquo;internal\u0026rsquo; circulation, hoping that, by boosting domestic demand mainly through investment and reducing the influence of external factors, China would be able to create a more sustainable future. The strategy of steering the country toward greater self-reliance was only partly successful. Although China did manage to increase domestic consumption as a share of Gross Domestic Product (GDP) between 2010 and 2019 (albeit from 34% to 39%), it was never able to reach the healthier levels of other major economies (see Figure 1). Instead, economic growth became increasingly dependent on a high savings-high investment model that, over time, found it increasingly difficult to fuel demand by funding productive investment (Pettis 2021), and on huge manufacturing exports, which allowed China to accumulate an ever-growing trade surplus with the rest of the world, but left it more and more vulnerable to external volatility (see Figures 2, 3 and 4). These elements came on top of other structural limitations, such as changing demographics (China Power 2023a), local governments\u0026rsquo; rising debt levels (Leng and Yin 2023), and regional disparities between urban and rural areas (Yan and Mohd 2023), showing the extent of China\u0026rsquo;s mounting problems coming up to the current decade.\u003c/p\u003e\n\u003cp\u003eThe urge of rebalancing the Chinese economy, given its unsustainable structure and dynamics, seriously came to the fore in the latter Obama years and especially after Trump was elected president. After flexing its muscles after the GFC, Beijing found itself labelled a political, technological, and military adversary by its top trading partner, the United States (US) (Kaur 2023). Since 2018, the country has waged a costly trade and tech war with the US that has eroded the incomes of its citizens, disrupted financial markets, and inhibited business spending (The Economist 2023b).\u003cem\u003e\u0026nbsp;\u003c/em\u003eBut at least then China was still on relatively good terms with the EU and much of the Plural South, which allowed party officials to continue ignoring the deeper reforms it would have needed to secure a more sustainable economic growth model.\u0026nbsp;\u003c/p\u003e\n\u003cp\u003eThe COVID-19 pandemic, however, dealt another blow to China\u0026rsquo;s already-battered economy, shining a harsh light on its dependence on other countries for critical goods, namely semiconductors, crude oil, and food products (China Power 2023b), and prompting many foreign investors to leave the country in search of greater stability (see figures 5 and 6) (Lardy 2023). The zero-COVID policies enacted by the government further exacerbated the drop in consumption, production, and investment from the previous years (Li and Li 2023), and though all measures were lifted in January 2023, the result has not been the rebound that many Chinese were expecting. To make matters worse, Beijing is now simultaneously fighting a property sector downturn (The Economist 2023a), a run on its stock markets (Mark 2024), and a deflation crisis (Li and Woo 2024) in the face of geopolitical, demographic and technological challenges.\u003c/p\u003e\n\u003cp\u003eHence, the Chinese government has embraced the notion of hedged integration to allow China to interact with the global community on its own terms. It appears that President Xi\u0026rsquo;s chief concern is that, without a change in course, China will fall prey to global economic volatility and geopolitical encirclement, which explains the rationale for greater self-reliance. Yet, in its current form, the DCS risks alienating friends and foes alike, as the focus has been less set on promoting domestic consumption than on bolstering the country\u0026rsquo;s own defences and unleashing new productive forces, especially those associated with disruptive technologies (The Economist 2020). Beijing desperately needs a new development pattern to guide economic growth in the post-pandemic era, but its inability (or unwillingness) to raise living standards and give greater play to the advantages of its super-large market and domestic demand potential threatens to leave China even more vulnerable to external threats. For the moment, the country has succeeded in its goal to become a global manufacturing powerhouse for high value-added products, as it has increased foreign dependence to Chinese goods and ensured access to the critical inputs it needs to enhance innovation. But the country\u0026rsquo;s industrial overcapacity is already becoming a problem for the developing world (Boullenois and Jordan 2024), not to mention for Western powers, many of whom have already enacted a range of defensive measures to avoid a second \u0026lsquo;China shock\u0026rsquo; (Brainard 2024).\u0026nbsp;\u003c/p\u003e\n\u003cp\u003eIn the following section, we assess the DCS\u0026rsquo;s recent progress by going over its main objectives: (i) boosting domestic consumption, (ii) positioning China as a global manufacturing powerhouse (especially in high value-added products), (iii) enhancing innovation, and (iv) ensuring access to critical inputs (China Power 2023b).\u0026nbsp;\u003c/p\u003e\n\u003cp\u003e\u003cstrong\u003e\u003cu\u003eState of play: where does China stand?\u003c/u\u003e\u003c/strong\u003e\u003c/p\u003e\n\u003cp\u003e\u003cem\u003eGoal #1 \u0026ndash; Boosting domestic consumption\u003c/em\u003e\u003c/p\u003e\n\u003cp\u003eThe first goal of the DCS has been to do away with China\u0026rsquo;s traditionally export-oriented and investment growth model and pivot the economy towards a more domestic consumption-driven development pattern. The logic is that by relying more on China\u0026rsquo;s domestic market to drive demand, Beijing will be less vulnerable to external volatility, including supply chain disruptions and import duties from countries resenting its state capitalist model. And indeed, China\u0026rsquo;s chronic under-consumption has long been recognised as one of the country\u0026rsquo;s most puzzling challenges. In 2023 China accounted for 18% of global GDP and 32% of global investment, but only for 13% of global consumption (Pettis 2023). It has run a trade surplus for 34 of the past 40 years precisely because it consistently produces more than what its households, firms, and government can buy (The Economist 2024a).\u003c/p\u003e\n\u003cp\u003eIn some ways, Beijing is moving in the right direction. For example, thanks to the lifting of COVID-19 restrictions, in 2023 consumption accounted for 83% of GDP growth, its biggest share in years (see figure 7). Trying to keep this momentum, the government has also pledged a raft of measures to boost consumption, particularly in the automobile, real estate, and services sectors (Xinhua 2024).\u003c/p\u003e\n\u003cp\u003eHowever, most signs indicate that a step change will be hard to achieve. For one, the ripple effects of China\u0026rsquo;s zero-COVID policy (Posen 2023), combined with the ongoing turmoil in the property and stock markets, and the US containment strategy \u0026ndash; recently turned into a trade war by President Trump -- have hurt the public mood and plunged the economy into deflation (see figure 8) (Makortoff and Wearden 2024). Moreover, consumer confidence is low, as large segments of the public are increasingly sceptical about the capacity of the government to propose and implement adequate policies. As a result, total retail sales of consumer goods as a share of GDP are still nowhere near its 2016 peak (see figure 9). But the biggest challenge continues to be the long-term pivot required to rebalance the economy successfully, which could mean raising consumption by as much as 10 percentage points (The Economist 2024a). Considering the little historical precedent for such a shift, not to mention the fact that Chinese policymakers have been trying unsuccessfully to achieve that for much of the past 20 years, the prospects are bleak.\u003c/p\u003e\n\u003cp\u003e\u003cem\u003eGoal #2: Positioning China as a global manufacturing powerhouse\u003c/em\u003e\u003c/p\u003e\n\u003cp\u003eThe second goal of the DCS has been to position China as a global manufacturing powerhouse, which in some ways contradicts the previous objective of reducing Beijing\u0026rsquo;s export-dependence. However, China is making sense of this balancing exercise by enhancing its advanced manufacturing capabilities, and by broadening its access to foreign markets in the Plural South, which will be key in view of the country\u0026rsquo;s growing tensions with the West. For example, China is doubling down on its Made in China 2025 industrial strategy, which aims to upscale the country\u0026rsquo;s domestic capabilities in 10 key industries, including robotics, batteries, and EVs. Similarly, the country is conducting an increasing share of its trade with its ASEAN and BRICS partners, mostly at the expense of other major rich-world economies (see figure 10).\u0026nbsp;\u003c/p\u003e\n\u003cp\u003eIndeed, this area is where Beijing has arguably achieved the most progress so far. Although its share of manufacturing in the economy has somewhat declined in recent years, China still remains above most other major economies (see figure 11). Moreover, its share of global manufacturing value added has been rising steadily, while that of the West has been losing ground (see figure 12). And crucially, China\u0026rsquo;s largest goods exports are increasingly in more complex products such as electronics and machinery (see figure 13).\u003c/p\u003e\n\u003cp\u003eHowever, China faces two important challenges in its quest to become a global manufacturing powerhouse. First, by increasing the relative size of its manufacturing sector, China will probably drive up its need for critical inputs in terms of energy and raw materials, both of which the country is in short supply of. Second, although Beijing has mostly been able to capitalise on the Plural South\u0026rsquo;s grievances against the West, and thus has plenty of alternative markets to ship its exports to if their protectionism deepens, the battle for the hearts and minds of the developing world is far from over (Schuman 2023). Indeed, the relationship between China and the Plural South is changing dramatically, and not necessarily in positive ways as many of these countries are uncomfortable with China leading the group of emerging and developing countries.\u003c/p\u003e\n\u003cp\u003eStill, China\u0026rsquo;s growing manufacturing capabilities are unquestionable. Manufacturing represents roughly 30% of the world\u0026rsquo;s industrial output (World Bank, n.d.c.), and more than 25% of China\u0026rsquo;s annual GDP (World Bank, n.d.b.). The CCP expects that the coming advanced manufacturing boom alone could be sufficient to ensure a 5% growth of GDP in the medium run. \u0026nbsp;But there is a risk that this could lead to another trade war with the West. Attitudes toward China have hardened in recent years, and many are becoming more protective of their industrial bases. If Beijing does not find a way to reach domestic consumers or foreign markets, industrial overcapacity could become a bigger challenge than it already is today (Leahy 2024).\u0026nbsp;\u003c/p\u003e\n\u003cp\u003e\u003cem\u003eGoal #3: Enhancing innovation\u003c/em\u003e\u003c/p\u003e\n\u003cp\u003eEmbedded in the DCS\u0026rsquo; third objective is the growing belief among CCP officials that China can innovate its way out of its current conundrum (China Power 2023b). Indigenous innovation is widely seen as the key to self-sufficiency, as it could help China reduce its import needs and thus leave Beijing less vulnerable to external factors (Xinhua 2021). China is making solid progress in promoting the high-quality development it so desperately desires by placing innovation as the economy\u0026rsquo;s main driving force.\u0026nbsp;\u003c/p\u003e\n\u003cp\u003eAs is often the case, China\u0026rsquo;s ambition to become an innovation powerhouse traces back many years. At the turn of the millennium, China was barely spending 1% of GDP in research and development (R\u0026amp;D), about the same as India. But by 2024, that figure had risen to almost 2.7%, still paling in comparison to the world\u0026rsquo;s most innovative nations but in gross terms it allocated almost as much as the US, the biggest spender (See figures 14 and 15). Last year China also ranked 12\u003csup\u003eth\u003c/sup\u003e in the World Intellectual Property Organisation\u0026rsquo;s (WIPO\u0026rsquo;s) Global Innovation Index report, with 6 indicators ranking first in the world (WIPO 2023a), and received a total of 1.6 million patent applications, almost three times as many as the US, the second on the list (WIPO 2023b). And one cannot ignore the country\u0026rsquo;s Made in China 2025 commitments, which include dramatically increasing spending on areas such as artificial intelligence, biotechnology, blockchain, neuroscience, quantum computing, and robotics.\u003c/p\u003e\n\u003cp\u003eIndeed, the old mantra that America innovates, China replicates, and Europe regulates may no longer be so applicable. However, China still needs foreign capital and know-how to scale up its innovation capacity. Much of the country\u0026rsquo;s first technological build-up after the reform and opening-up era was fuelled by technology imports (Zhao 1995), and it is no secret that technology transfers and joint ventures have played a big role in China\u0026rsquo;s most recent push to support indigenous innovation (Lewis 2023). Yet, attracting that foreign direct investment will be challenging in the face of growing tensions with the West over Chinese techno-nationalism. Chinese officials expect continued pushback from the US and its allies in the coming years, and slowing economic growth and a tighter fiscal environment could negatively affect the country\u0026rsquo;s innovation funding and capacity (Wang, 2021). Likely, these setbacks will not stop China from becoming a global leader in many of the strategic sectors it has set its eyes on, but it could slow its development of a well-rounded, self-sufficient innovation ecosystem, especially considering that there is certain mismatch between the R\u0026amp;D funding objectives and actual innovation outcomes of the country (Boeing 2024).\u003c/p\u003e\n\u003cp\u003e\u003cem\u003eGoal #4: Ensuring access to critical inputs\u003c/em\u003e\u003c/p\u003e\n\u003cp\u003eThe fourth and final objective of the DCS has been to ensure China\u0026rsquo;s access to the resources it needs to feed its people and fuel its domestic industries. Although Beijing is making some progress in its mission to advance towards greater self-reliance, in the short term, it needs to diversify its food, energy, critical raw materials, and technology imports to de-risk its supply chains.\u0026nbsp;\u003c/p\u003e\n\u003cp\u003eA key example is energy. China is the world\u0026rsquo;s largest crude oil, natural gas, and coal importer, but the country has achieved some resilience by sourcing imports from a myriad of highly diverse suppliers, many of which are the sort of autocratic regimes that the West has been trying to avoid (BP 2022). For instance, while the US and Europe have shunned Russian oil and gas since its unprovoked invasion of Ukraine in February 2022, China has increased its orders to all-time highs (Hayley 2024). And by investing heavily in renewables, Beijing has not only balanced its energy consumption towards more sustainable sources but also supported a booming solar and wind industry that is increasingly dominating the world (Bradsher 2024).\u003c/p\u003e\n\u003cp\u003eAnother area where China has reached a relatively high strategic autonomy is critical minerals. The country\u0026rsquo;s quasi-monopoly over rare earths or gallium among others, and its strong position over the processing of nickel, copper, lithium, and cobalt \u0026ndash; elements that will be critical to the global energy transition \u0026ndash; gives Beijing an enormous geopolitical advantage for the times ahead (Sewall 2024; Castillo and Purdy 2022). China is by far the leading primary source or value-added refiner of many of these products, not by accident but by strategic investments that the CCP has made through the years to take control of them. That control has partly saved China from being cut off from other critical supply chains, such as semiconductors, where it does not have a strategic advantage (Reuters 2023).\u0026nbsp;\u003c/p\u003e\n\u003cp\u003eBut it has not been enough. China has long sought to reduce its dependence on foreign chip technology, pouring subsidies into domestic manufacturers and promoting import substitution as a safeguard against ongoing trade and technology conflicts that have curbed the country\u0026rsquo;s access to advanced computing equipment (The Economist 2024b). However, the chokehold of China\u0026rsquo;s geopolitical rivals over the industry is still evident, and the country is still far from the tech frontier. Still, it could be a matter of time until China finds a way to ensure access to even these critical inputs. For the moment, Beijing has become increasingly capable of exploiting loopholes to get its hands on foreign chip technology. But the tech rivalry between the US and China is also leading to the creation of a more sophisticated Chinese industry, which, according to some sources, could supply over 30% of the country\u0026rsquo;s semiconductors\u0026rsquo; needs by 2027 (Chiao and Chung 2023).\u003c/p\u003e\n\u003cp\u003e\u003cstrong\u003e\u003cu\u003eCase study: the DCS through the lens of China\u0026rsquo;s rising EV sector\u003c/u\u003e\u003c/strong\u003e\u003c/p\u003e\n\u003cp\u003eAll these elements come together in China\u0026rsquo;s rising EV sector. The country has rapidly come to dominate the global EV market despite being a relative latecomer to the automobile industry. EV penetration in China is much higher than in the EU or the US. \u0026nbsp;In a matter of years, Chinese firms went from being mostly unknown outside their borders to bringing a range of flick and affordable electric cars to the market, capturing a growing share of global manufacturing, sales, and exports, which stood at 57%, 59%, and 35% in 2023, respectively (International Energy Agency 2024).\u0026nbsp;\u003c/p\u003e\n\u003cp\u003eHowever, this path to massive growth is no accident. China\u0026rsquo;s recent EV boom has been largely the result of government intervention in support of this sector as part of a strategic, top-down decision to boost the role of new energy vehicles (NEVs) in China\u0026rsquo;s industrial policy. But public support is only part of the story. Chinese producers have learned fast and have been able to build a solid competitive advantage, leverage domestic demand, and take advantage of the fact that virtually the entire EV value chain is in China. Thus, the Chinese EV sector is a good case study for assessing the progress of the DCS, as it represents a strategically important industry with links to both domestic and foreign policy, green development, and technological sovereignty.\u0026nbsp;\u003c/p\u003e\n\u003cp\u003e\u003cem\u003eChina\u0026rsquo;s rising EV manufacturing power\u003c/em\u003e\u003c/p\u003e\n\u003cp\u003eIn 2009, China was on its path to becoming the world\u0026rsquo;s largest oil importer. The mobility needs of the country\u0026rsquo;s growing middle class would only accelerate this unavoidable fate. By then, air pollution had also become a mounting problem in many big Chinese cities, causing an estimated 30.8 million premature deaths between 2000 and 2016 (Liang et al. 2020). Electrification seemed like an obvious solution to improve air quality and ensure the country\u0026rsquo;s future energy independence. NEVs represented a particularly important part of that endeavour, but the problem was that, at the time, China had no indigenous automotive industry to embark on this ambitious quest. China would still need to start from scratch. And so, knowing that Beijing would probably never be able to compete against Western manufacturers on internal combustion engine (ICE) technology, a decision was made to focus on the next generation of cars (Gong et al. 2012).\u003c/p\u003e\n\u003cp\u003eHowever, Chinese companies would first need to develop a competitive advantage to differentiate themselves from others, and in this area, government support was crucial. Chinese companies began their EV drive relatively late \u0026ndash; after all, by 2012, Tesla had already become a household name in the US. To catch up, they would need favourable policies and incentives such as subsidies, R\u0026amp;D spending, tax breaks for companies, and support for consumers willing to buy an EV. Most early efforts were focused on adjacent industries like buses, motorcycles, and taxis, where experimentation presented unique challenges for manufacturers to address (Lin 2024). For example, the heavier weight load and longer operational hours of city buses allowed Chinese companies to push the boundaries of battery technologies relatively early on, developing lighter and more durable batteries.\u003c/p\u003e\n\u003cp\u003eBeijing also helped upgrade its battery technology by setting up minimum requirements for domestic manufacturers and encouraging foreign companies selling EVs in China to use domestic components to qualify for subsidies. Ultimately, both producers and consumers benefited greatly from this massive state support. Companies would receive substantial subsidies whenever they sold electric cars, as well as cheap land leases and soft loans from state-owned banks. In addition to reduced prices, consumers would receive other benefits like discounts on charging, favourable parking, battery-swapping incentives for commercial heavy-duty vehicles, and even unique green license plates (Cui et al. 2023). All in all, between 2009 and 2023, the government supported the EV industry with $230 billion in industrial policy spending, comprising buyer rebates, sales tax exemptions, infrastructure subsidies, R\u0026amp;D programs, and government procurement, which allowed consumer sales to skyrocket (Kennedy 2024). Interestingly, this sales boom continued even after many of these subsidies were phased out, as the demand for EVs had already been created, scale reduced average costs and a virtuous cycle endured. In 2023, the first year that the industry ran without the support of national subsidies for EV purchases, new electric car registrations rose by 35% compared to 2022; and by April 2024, EVs exceeded half of all car sales for the first time (International Energy Agency 2024). Indeed, these demand policies have created an appetite for electric cars which has grown much faster than in the West (Andrews 2024), reinforced by Chinese firms\u0026rsquo; ability to offer more competitive and innovative vehicles: BYD alone sold 2.7 million units (35% of the total) compared to Tesla\u0026rsquo;s 0.6 million (7.8%) (Zhang 2024).\u003c/p\u003e\n\u003cp\u003eThe second factor explaining China\u0026rsquo;s recent success in EV manufacturing has been its dominance over battery components. Batteries make an essential part of NEVs, representing approximately 40% of the total cost to produce an EV. In order to control the battery supply chain, Chinese firms hold massive stakes in mines across the world where the minerals needed for batteries can be found (BBC 2024). They also have a monopoly over the processing and refining of these materials (which can then be sold to the rest of the world), as well as over the manufacturing of cell components and batteries themselves (see Figure 16). As a result, China\u0026rsquo;s battery prices were significantly more competitive than those made in the EU and in the US in 2022, which were 20% and 11% more expensive, respectively (BloombergNEF 2023).\u003c/p\u003e\n\u003cp\u003eIn turn, this market dominance has allowed Chinese companies to continue leading the world in battery innovation (Dnistran 2024) and making it increasingly dependent on their technology, including on software. The Draghi report highlights how, thanks to the massive use of AI, Chinese software for automotive production is significantly ahead of, for example, European counterparts (Draghi 2024).\u0026nbsp;\u003c/p\u003e\n\u003cp\u003eBeijing\u0026rsquo;s \u0026lsquo;buy Chinese\u0026rsquo; policies and state subsidies have hurt Western firms trying to get a foot in the Chinese market. As a response to this trend, in recent years, many countries have started to react to Beijing\u0026rsquo;s increasingly mercantilist stance, calling it unfair competition and levying punitive tariffs to protect their own manufacturers. What is clear is that in the case of EVs China has achieved its four DCS goals: 1) it has increased significantly its domestic consumption; 2) it has positioned itself as a global manufacturing powerhouse; 3) it is significantly enhancing its innovation, especially in batteries, the \u0026ldquo;motor\u0026rdquo; of EVs, and 4) it has ensured great access to critical inputs.\u0026nbsp;\u003c/p\u003e\n\u003cp\u003e\u003cem\u003eImpact on Europe\u003c/em\u003e\u003c/p\u003e\n\u003cp\u003eEuropean markets have experienced a significant surge of Chinese EVs. Roughly 40% of all Chinese EVs exports end in the EU, which means that the share of Chinese EVs of total sales has risen from less than 3% to over 20% between 2020 and 2023 (ACEA 2024). European producers and brands have been long-time champions of internal combustion engine vehicles and leading exporters worldwide. However, the European sector has experienced major changes, as total EU vehicle exports have declined by 16% from 2017 to 2022. European legacy carmakers, fearful of the restructuring costs that the \u0026ldquo;new age\u0026rdquo; would entail, were late to adapt to the EV revolution (they initially bet on hybrid cars and not EVs or plug-in vehicles). As a result, the competitive advantage of European firms has eroded (Draghi 2024), European production has fallen, and Chinese EVs became cheaper and better (Shepardson and Gomes 2024).\u003c/p\u003e\n\u003cp\u003eIn addition, the EU has set ambitious targets for the reduction of carbon emissions from the automotive sector, which now plays in China\u0026acute;s favour. Vehicles are subject to CO2 emission reduction targets that are tightening every year. Emissions from transport fuels will be included in the EU Emission Trading System in 2027, while urban access restrictions based on vehicle emissions are already widespread in many European cities (Draghi 2024). The European Commission even envisions a total ban on the sale of new diesel and gasoline cars by 2035. Consequently, complying with EU law and targets will require, among other things, a rapid deployment of EVs.\u0026nbsp;\u003c/p\u003e\n\u003cp\u003eIn Europe, EV penetration is increasing: EVs represented more than 21% of new car sales in 2023. Some Western EVs cost more than their petrol-powered counterparts (10%-50% more expensive). In China, on the other hand, 60% of EVs sold in 2023 were cheaper than their average combustion engine equivalent (Russell 2024). Differences in investment costs and operational expenses persist. An example of investment cost divergences is gigafactories, where Chinese and US gigafactories require CAPEX expenditures of USD 60 million per GWh,[2] compared to Europe\u0026rsquo;s EUR 80 million per GWh. For operational expenses, European electricity industrial retail prices have become 158% more costly than in the US in 2023 (China reports energy costs slightly higher than the US), with additional uncertainty related to higher volatility and unpredictability vis-\u0026agrave;-vis energy prices in other regions. Similarly, Europe has 40% higher nominal unit labour costs than China[3]. This makes European EVs a hard sell for most consumers. As a result, European carmakers are seeing their EV market share decline sharply (from 80% in 2015 to 60% in 2023), while the Chinese share has significantly increased (Draghi 2024). This means that the EU is absorbing a great part of China\u0026rsquo;s overcapacity generated by its DCS in EVs.\u0026nbsp;\u003c/p\u003e\n\u003cp\u003eAs a result of China\u0026apos;s large subsidies and political push for EVs, there is no level playing field in the EU single market, and the Chinese vehicles have an unjustified cost advantage. To tackle the problem, the European Commission imposed in October 2024 tariffs of up to 35.3% (on top of the previous 10%) on EVs produced in China. The Chinese government expressed disagreement, threatened import tariffs on EU brandies like French cognac, and initiated an anti-dumping investigation into EU pork exports. However, China seems relatively comfortable because its cars will continue to be competitive in the European market. Given the ample profit margins that Chinese EV car models enjoy in Europe (e.g. BYD\u0026rsquo;s Seal U model makes EUR 13,000 more in profit in the EU than in China), duties should be as high as 45% to 55% to effectively erode the Chinese advantage (Sebastian et al. 2024). Moreover, several Chinese companies have announced important investments in Europe to bypass the tariffs, creating an internal competition among EU member states to attract Chinese investments in this sector, which can undermine a common European position in key areas like data security.\u0026nbsp;\u003c/p\u003e\n\u003cp\u003e[1] The DCS was announced in a speech during the seventh meeting to the Central Financial and Economic Affairs Commission in April that was only published in September 2020.\u003c/p\u003e\n\u003cp\u003e[2] US investment requirements take into account the producer and consumer tax credits introduced by the Inflation Reduction Act (IRA), which have reduced private investment needs for gigafactories from USD 90 million per GWh to USD 60 million per GWh.\u003c/p\u003e\n\u003cp\u003e[3] Defined as the cost of labour to unit of output.\u003c/p\u003e\n\u003cp\u003e\u003cbr\u003e\u003c/p\u003e"},{"header":"Conclusion: How should Europe react?","content":"\u003cp\u003eThe EU is heavily exposed to what has been described as the “China Shock 2.0.” While Beijing has long recognised that it needs to stimulate domestic demand as an engine of growth, one of the main objectives of the DCS, the reality is that this is not happening. The reasons are myriad, and have to do with internal factors, like the burst of the real estate bubble and the harsh measures to fight COVID-19, and external pressures, mainly the US’ containment strategy of China – (Otero Iglesias 2024). But, in essence, the end result is clear. Out of the four main aims of the DCS: 1) to stimulate internal consumption; 2) to become a manufacturing powerhouse; 3) to enhance innovative capacity; and 4) to assure the provision of critical materials, China has been performing exceedingly well in the last three. This is impacting the EU disproportionally hard because it has traditionally been an industrial powerhouse in legacy sectors, and it is overly dependent on critical minerals from outside its borders. Moreover, if the Trump administration 2.0 continues imposing heavy tariffs on Chinese goods or reaches a deal by which China buys more American goods and exports less to the US, the EU will probably receive a larger flow of Chinese exports.\u003c/p\u003e\n\u003cp\u003eThis increased industrial pressure is epitomised by the dawn of the EV era in the car industry. Although China has achieved all four goals of the DCS, with internal consumption relatively strong, it has produced an enormous overcapacity. Europe is, for now, the main destination of EV excess production, given that the US has imposed 100% tariffs and banned all usage of Chinese software in electric and automated cars. The difference in approach is clear. While the US is decoupling from China, the EU is de-risking. The gradual and measured approach by the Commission to tariffs on EVs coming from China falls within WTO norms and will not eliminate Chinese competition in the European market, but it will give some breathing space to the European carmakers to catch up. At the same time, these tariffs will encourage Chinese carmakers to produce more of their cars in Europe, which they are already doing.\u003c/p\u003e\n\u003cp\u003eThe pessimistic outlook for the European car industry can look very grim. Given that EVs are “smartphones on wheels”, European carmakers might end up having a negligible presence in the sector. This pessimism might be reinforced by the fact that the European companies’ competitive advantage since the second industrial revolution has always been the combustion engine, while the car industry has moved from mechanics to electronics. But all is not lost for Europe. The EV era is only starting, with potential technological breakthroughs in the coming years making current EV batteries and technology obsolete. Europe has certain strengths that it can still utilise. But it needs to act fast.\u003c/p\u003e\n\u003cp\u003eAs the Draghi Report suggests, the EU must design an Action Plan for the automotive sector, which must start by having a technology-neutral approach in the transition phase to zero emissions that includes the use of biodiesel and alternative fuels. The Action Plan needs to be toppled with a coherent “digital policy”, or cybersecurity policy, “encompassing the data ecosystem and AI development needs” which necessarily needs to be independent of that of the US, because, as mentioned before, while the US is in de-coupling mode, the EU tries to de-risk from China. Therefore, it needs an economic security strategy for data collection, treatment and storage in the car industry which does not give third parties a competitive edge. And this strategy needs to be applied homogenously throughout the EU. A tall order.\u003c/p\u003e\n\u003cp\u003eBased on the research conducted for this paper, it is very likely that the EU’s response to the challenge of confronting China’s EV edge will be based on three layers of policy. The first will be implementing some of the suggestions included in Draghi´s action plan, which go from increasing the charging stations to generate more demand and competition to support common European projects to produce affordable European EVs and investing in software and autonomous driving and enhance the value chains in circularity. For this the EU as a whole and the EU member states need to move the focus from research and science to innovation and technology. The EU, therefore, must invest heavily, but it should do it at the European level to avoid fragmenting the single market and benefiting countries with more fiscal space. In sum, the EU should estimate how many EVs it can realistically produce with a more ambitious European industrial policy across the EV value chain and import what is not domestically produced from the US and China. That would require planning, strategic thinking and joint financing, the latter being critical but insufficient nowadays.\u003c/p\u003e\n\u003cp\u003eThe second layer could be protecting the European car industry by doubling down on the sustainability factor. Here the “bonus écologique” introduced by France can be a blueprint for the rest of the EU. According to this scheme, state or public aid to purchase EV cars will only be available for cars that have a very low emissions footprint (based both on production and transport) and this is likely to exclude most cars produced in China, and even in the US. This might be regarded as a protectionist measure, but it would certainly be coherent with the EU goal of climate neutrality by 2050. This measure would also facilitate that most of the supply chain of Chinese produced cars in Europe is European and not imported from China. Localisation would thus be assured.\u0026nbsp;\u003c/p\u003e\n\u003cp\u003eFinally, it is very likely that Europe will acknowledge that it needs to “learn” from China in the car industry. Here the preliminary example is the joint venture that the Spanish government has imposed between the Chinese carmaker Chery and the Spanish firm Ebro EV Motors in reopening a former Nissan factory in Barcelona. The deal considers an initial phase where assembly of Chinese imported components will take place in Spain, to then advance towards localisation. Under these terms, technology transfer might be limited. The partnership model thus needs to evolve towards greater technology transfer and local participation in the value chain. The underlying potential, however, is undeniable: \u0026nbsp;China is the most advanced country in battery production, while Spain is keen to acquire this technology. And this applies to upstream processes like the mining of lithium in Extremadura to the creation of dual vocational training programmes related to Chinese EV production in Catalonia. Along this line, in November 2024, the EU Commission announced that it will require Chinese companies to transfer intellectual property in battery production in exchange for EU subsidies to Chinese companies in Europe as part of the ongoing trade and green tech negotiations (Hancock et al. 2024).\u003c/p\u003e\n\u003cp\u003eIt might certainly be ironic that “technology transfer”, a very Chinese strategy that has traditionally been criticised in Europe, might be now adopted in reverse. But the first step to achieve renewed competitiveness is to recognise ones’ own deficiencies, and in Europe increasingly the consensus is that Chinese key inputs like batteries and software are indispensable for European companies to stay in the game, while at the same time own capacities need to be improved to reduce overdependence and strive for open strategic autonomy.\u003cstrong\u003e\u003cu\u003e\u003cbr\u003e\u0026nbsp;\u003c/u\u003e\u003c/strong\u003e\u003c/p\u003e"},{"header":"Statements and Declarations","content":"\u003cp\u003e\u003cu\u003eFunding\u003c/u\u003e\u003c/p\u003e\n\u003cp\u003eThe research leading to these results received funding from the ReConnect China project, funded by the European Union under the Horizon 2020 grant HORIZON-CL2-2021-TRANSFORMATIONS-01-07.\u003c/p\u003e\n\u003cp\u003e\u003cu\u003eCompeting interests\u003c/u\u003e\u003c/p\u003e\n\u003cp\u003eThe authors have no relevant financial or non-financial interests to disclose.\u003c/p\u003e\n\u003cp\u003e\u003cu\u003eEthics approval and consent\u003c/u\u003e\u003c/p\u003e\n\u003cp\u003eNot applicable\u003c/p\u003e\n\u003cp\u003e\u003cu\u003eData, Materials and/or Code availability\u003c/u\u003e\u003c/p\u003e\n\u003cp\u003eAll materials used are available online via the references provided in the reference list.\u003c/p\u003e"},{"header":"References","content":"\u003col\u003e\n \u003cli\u003eACEA (2024) Fact sheet: EU-China vehicle trade. 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Xinhua. https://english.news.cn/20240206/c2df99f167774a6fa547a19288048bab/c.html\u003c/li\u003e\n \u003cli\u003eYan X, Mohd S (2023) Trends and Causes of Regional Income Inequality in China Sustainability 15(9): 7673. https://doi.org/10.3390/su15097673\u003c/li\u003e\n \u003cli\u003eZhang P (2024) Automakers\u0026rsquo; NEV market share in China in 2023: BYD 35%, Tesla 7.8%, Nio 2.1%. CNEVPOST. https://cnevpost.com/2024/01/10/automakers-nev-market-share-in-china-in-2023/#:~:text=BYD%20(OTCMKTS%3A%20BYDDF)%20dominated,2022%2C%20according%20to%20the%20CPCA\u003c/li\u003e\n \u003cli\u003eZhao H (1995) Technology imports and their impacts on the enhancement of China\u0026apos;s indigenous technological capability. The Journal of Development Studies 31:4, 585-602. https://doi.org/10.1080/00220389508422379\u003c/li\u003e\n\u003c/ol\u003e"}],"fulltextSource":"","fullText":"","funders":[],"hasAdminPriorityOnWorkflow":false,"hasManuscriptDocX":true,"hasOptedInToPreprint":true,"hasPassedJournalQc":"","hasAnyPriority":false,"hideJournal":true,"highlight":"","institution":"","isAcceptedByJournal":false,"isAuthorSuppliedPdf":false,"isDeskRejected":"","isHiddenFromSearch":false,"isInQc":false,"isInWorkflow":false,"isPdf":false,"isPdfUpToDate":true,"isWithdrawnOrRetracted":false,"journal":{"display":true,"email":"[email protected]","identity":"researchsquare","isNatureJournal":false,"hasQc":true,"allowDirectSubmit":true,"externalIdentity":"","sideBox":"","snPcode":"","submissionUrl":"/submission","title":"Research Square","twitterHandle":"researchsquare","acdcEnabled":true,"dfaEnabled":false,"editorialSystem":"","reportingPortfolio":"","inReviewEnabled":false,"inReviewRevisionsEnabled":true},"keywords":"China, Dual Circulation Strategy, industrial policy, electric vehicle, European industry","lastPublishedDoi":"10.21203/rs.3.rs-6973843/v1","lastPublishedDoiUrl":"https://doi.org/10.21203/rs.3.rs-6973843/v1","license":{"name":"CC BY 4.0","url":"https://creativecommons.org/licenses/by/4.0/"},"manuscriptAbstract":"\u003cp\u003eIn recent years, the Chinese economy has been hit by several shocks that have heightened the country\u0026rsquo;s economic security imperative. However, Beijing\u0026rsquo;s search for greater \u0026lsquo;self-reliance\u0026rsquo; is not entirely new. China has often shifted its attention between domestic and global markets in response to the challenges of the time and to capitalize on available opportunities. Yet since the pandemic, the country has taken an increasingly neo-mercantilist stance based on the pursuit of both economic self-reliance and greater economic leverage over foreign countries. This is perhaps best exemplified by the Dual Circulation Strategy (DCS), an attempt to shift the Chinese economy away from unreliable growth sources, namely cheap manufacturing exports and fixed asset investments, and give greater play to the advantages of its industrial overcapacity and domestic demand potential with a new development pattern featuring domestic and international \u0026lsquo;dual circulations\u0026rsquo; complementing each other. But how has the strategy fared since its launch? And most importantly, how will it impact Europe, the likely loser of this \u0026ldquo;China Shock 2.0\u0026rdquo;? Drawing from China\u0026rsquo;s recent electric vehicle (EV) boom, this paper aims to dissect the DCS\u0026rsquo; main objectives and assess their overall progress against the backdrop of a rapidly deteriorating geopolitical context. The conclusion is that the EU needs to develop its own multilayered industrial strategy in order to compete with China. And in the EV sector, this means a combination of \u0026ldquo;onshoring\u0026rdquo; of production, indigenous investment and innovation, and some \u0026ldquo;technology transfers\u0026rdquo;.\u003c/p\u003e","manuscriptTitle":"China’s Dual Circulation Strategy and its Impact on European Industry: The Case of the Electric Vehicle","msid":"","msnumber":"","nonDraftVersions":[{"code":1,"date":"2025-08-27 06:29:24","doi":"10.21203/rs.3.rs-6973843/v1","editorialEvents":[{"type":"communityComments","content":0}],"status":"published","journal":{"display":true,"email":"[email protected]","identity":"researchsquare","isNatureJournal":false,"hasQc":true,"allowDirectSubmit":true,"externalIdentity":"","sideBox":"","snPcode":"","submissionUrl":"/submission","title":"Research Square","twitterHandle":"researchsquare","acdcEnabled":true,"dfaEnabled":false,"editorialSystem":"","reportingPortfolio":"","inReviewEnabled":false,"inReviewRevisionsEnabled":true}}],"origin":"","ownerIdentity":"c053e4a5-d64d-475e-a3ad-0eccc5272a3f","owner":[],"postedDate":"August 27th, 2025","published":true,"recentEditorialEvents":[],"rejectedJournal":[],"revision":"","amendment":"","status":"posted","subjectAreas":[],"tags":[],"updatedAt":"2026-04-28T15:23:44+00:00","versionOfRecord":[],"versionCreatedAt":"2025-08-27 06:29:24","video":"","vorDoi":"","vorDoiUrl":"","workflowStages":[]},"version":"v1","identity":"rs-6973843","journalConfig":"researchsquare"},"__N_SSP":true},"page":"/article/[identity]/[[...version]]","query":{"redirect":"/article/rs-6973843","identity":"rs-6973843","version":["v1"]},"buildId":"8U1c8b4HqxoKbykW_rLl7","isFallback":false,"isExperimentalCompile":false,"dynamicIds":[84888],"gssp":true,"scriptLoader":[]}