If Europe does not take measures in the near future to protect its manufacturing sector from growing Chinese imports, it could face a similar fate.
At the heart of the threat China poses to the European economy lies its reliance on exports as a means of sustaining economic growth and offloading excess production. Although China has long recognized the need to transition from a growth model based on investment and exports to one driven by domestic consumption, investment still accounts for about 40% of China’s GDP, while exports contribute another 20%.
The lack of progress in rebalancing China’s economy is partly attributable to the bursting of the real estate bubble in 2021, which undermined domestic consumption by reducing the value of household assets. This contributed to a slowdown in China’s GDP growth, which stood at just 4.3% in the second quarter of this year—the lowest rate since the start of the COVID-19 pandemic.
Weak domestic demand has also made China even more reliant on export subsidies and an undervalued yuan (by 20%) to prop up its export sector. These measures help explain why Chinese exports grew by nearly 14% in the first half of this year, despite U.S. tariffs, resulting in a staggering trade surplus of $1.2 trillion — the largest ever recorded by any country.
Pressure on Europe’s economy is mounting
As China is forced to reroute these growing exports away from the U.S., pressure on the European economy is intensifying, raising the threat of a new “China shock” that could devastate Europe’s manufacturing base just as the first “China shock” decimated U.S. industry in the early 2000s.
This threat is particularly evident in the sectors of electric vehicles, wind and solar energy technologies, batteries, electronics, and other advanced equipment.
However, this is not a zero-sum game. In the long term, the rebalancing of the Chinese economy will benefit both China and Europe.
The policy recommendations are well known. To reduce savings for a rainy day and stimulate consumption, China needs to increase household incomes and strengthen its social safety net, including health care and pensions.
At the same time, it must reform local government finances and reduce dependence on investment financed by borrowing, particularly in the real estate sector.
In addition to putting China’s economy on a solid footing, such measures will enable China to repair its strained trade relations with the U.S. and avoid a trade war with Europe.
Protectionism as a Way Out for Europe
Unfortunately, the government of Chinese President Xi Jinping has shown no signs of moving decisively in this direction. As a result, Europe has virtually no choice but to resort to protectionism.
Of course, if Europe follows in America’s footsteps by using tariff and non-tariff measures to protect its industrial base from Chinese imports, it will almost certainly face retaliatory measures. China will likely start by restricting Europe’s access to rare-earth minerals, batteries, and fuel cells—materials that are vital to cutting-edge industries, from automotive manufacturing to wind turbine production.
This is precisely how China forced Trump to back down from imposing a 145 percent tariff last year.
But no matter how painful such retaliatory measures might be, the erosion of Europe’s industrial base would be far worse. In addition to slowing economic growth and cutting jobs, such an outcome would complicate the efforts of highly indebted countries, such as France and Italy, to service their debts. And, of course, it would add fuel to the fire of populism.
In any case, a trade war is not in China’s long-term interests. Another major market resorting to protectionist measures—perhaps followed by other countries—could be exactly the wake-up call Xi’s government needs: China cannot indefinitely flood global markets with ever-increasing exports.
Instead of trying to prop up an outdated growth model, China must seriously address the rebalancing of its economy.
Desmond Lachman,
a senior fellow at the American Enterprise Institute, is a former deputy director of the International Monetary Fund’s Policy Development and Analysis Department and a former chief economic strategist for emerging markets at Salomon Smith Barney.
©: Project Syndicate, 2026.
Follow our updates
