Watching China in Europe - June 2022

Welcome to Watching China in Europe, a monthly update from GMF’s Asia Program. Now more than ever, the transatlantic partners need clarity and cohesion when it comes to China policy. In this monthly newsletter, Noah Barkin—a senior visiting fellow at GMF and managing editor at Rhodium Group—provides his personal observations and analysis on the most pressing China-related developments and activities throughout Europe. 

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Enough Is Enough

I have always believed that Europe’s quest for a common, more clear-eyed policy toward China begins and ends with Germany—the country with the most to lose from a rupture with Beijing. As long as Berlin is wavering, the broader European effort to end an era of diplomatic naivety in relation to China will rest on shaky ground. If Germany charts a clear path forward, however, other countries in Europe will follow. Today, there are still questions about how far the country is prepared to go, largely because Chancellor Olaf Scholz has sent confusing signals on China since coming into office in December. He has voiced support for deeper economic ties with China, at a time when the tide of opinion in Germany, Europe and among democratic allies around the world is pointing firmly in the opposite direction. And he has conspicuously avoided making a link, as other senior members of his government and party have, between the threat emanating from Vladimir Putin’s Russia and the far bigger systemic challenge posed by Xi Jinping’s China.

But Scholz’s caution notwithstanding, the ball is moving in Berlin. And it is moving fast. Lost somewhat in the news flurry over the past week were two developments that underscore this. The first was a decision by Germany’s Economy Minister Robert Habeck to reject an application from Volkswagen for government investment guarantees tied to projects in China. The carmaker has operated a factory in China’s western region of Xinjiang since 2013 and has vigorously defended its presence there despite evidence of horrific human rights abuses targeting the Uyghur population. This week, VW CEO Herbert Diess rebuffed mounting pressure to shutter the plant even as he admitted that it was “economically unimportant” for the firm. Now the government is saying enough is enough. Habeck’s decision, which he linked directly to human rights concerns, is a signal to all German companies operating in China that a new era of closer political scrutiny is dawning (more on this below). For Germany, whose political establishment is not accustomed to pushing back against powerful business interests, this is a big step. And it may be just a taste of what is to come.

Shifting Scholz

The second signal, somewhat surprisingly, came from Scholz. During last year’s election campaign and in his first months as chancellor, his message on China could be summed up in two words: “no decoupling.” But last week, in remarks at an event hosted by the Stuttgarter Zeitung newspaper, Scholz went off-script, accusing German companies of putting too many eggs in the China basket and urging them to diversify their supply chains and export markets. This is also significant. It was the first time since Scholz took office that he openly questioned the nature of Germany’s business relationship with China. Coming on the heels of a speech at the World Economic Forum in Davos in which he publicly criticized China for its actions in Xinjiang, the comments suggest that Scholz is aligning himself, belatedly, with those in his government who see the need for a fundamental rethink of Germany’s relationship with China. As one veteran diplomat with ties to Scholz’s Social Democrats told me: “He will not lead on China, but neither will he resist the tide. Scholz will be pulled along, just like he has been on Ukraine”.

As I have written in recent months, addressing the dependency conundrum is now at the heart of the China debate in Berlin. It was the focus of a May 9 meeting between Foreign Minister Annalena Baerbock and top German executives, including the CEOs of BASF and Siemens. And it was discussed at length during a recent China workshop outside Berlin that was attended by government officials, companies, and think tankers. Participants floated the idea of introducing China exposure “stress tests” for German companies, like those that were conducted on European banks during the eurozone financial crisis. Whether that idea sees the light of day is unclear, but I was told that officials in the foreign and economy ministries are considering changes to long-standing policies on export credits and investment guarantees in order to encourage companies to diversify their business to markets outside of China.

These guarantees protect firms from political risks they may encounter when investing abroad by transferring liability for losses to the government. In recent years, a significant share of government guarantees has been provided to companies investing in China. Of the €2.6 billion in guarantees that Berlin granted in 2021, for example, €1.95 billion were linked to investments in China. Now the wisdom of these policies is being questioned, a move that would have been unthinkable under Chancellor Angela Merkel. Will Scholz step on the brakes? Some in Berlin believe the train has already left the station. “The debate on China is evolving so fast that Scholz would really have to put his foot down in a very public way to stop all of this,” a German industry official told me. “And that could be hugely damaging for him politically.”

Wu Tour

How is all this being viewed in Beijing? According to one senior EU official I spoke to, it seems to be generating quite a bit of concern. So much so that China has sent its special envoy for European affairs, Wu Hongbo, on a three-week tour of Europe that includes stops in Belgium, Romania, France, the Czech Republic, Hungary, Germany, Cyprus, and Italy. Wu’s trip follows an unsuccessful attempt by another Chinese envoy, Huo Yuzhen, to revive the 16+1 format on a tour of Eastern European countries last month. I detailed the cold reception she received in the previous edition of Watching China in Europe. Since then, I learned that Huo was refused a meeting with government officials in Poland—one of the dwindling number of 16+1 states that still seemed keen to cultivate good relations with China. Poland’s President Andrzej Duda, after all, was the only EU leader to attend the Winter Olympics in Beijing in February. Three months later, frustration with China’s equivocations on Russia seems to be growing.

After Huo’s trip fell flat, it is Wu’s turn to produce some feel-good European deliverables for Xi before the Communist Party congress in the autumn. “They are afraid of losing Europe,” the senior EU official said. “The new fear in Beijing is that we see China as being one with Russia, that a serious deterioration of our relationship with Russia will lead to the same with China.” But Wu, according to people familiar with his conversations in Brussels at the start of his trip, has not come with anything new to offer. “There is nothing in the briefcase,” a German diplomat told me. “So, the idea that they can just wriggle out of this is wishful thinking. There are no signs that the strategic direction that has been set by Xi is up for debate.”

Sanctions and Lithuania 

On the sanctions impasse that doomed ratification of the EU-China Comprehensive Agreement on Investment (CAI) last year, the message from Beijing has not changed. China, it appears, is only prepared to drop its sanctions against European lawmakers, politicians, and think tanks if the EU removes the Xinjiang sanctions it imposed in March 2021. The hope in Beijing was that the approval in April of two International Labor Organization conventions on forced labor by the National People’s Congress and the decision to allow UN human rights chief Michelle Bachelet to visit Xinjiang in late May might weaken EU resistance to the CAI. But neither have moved the needle. “They cost Beijing nothing,” the German diplomat said. “Bachelet’s visit was just a big propaganda opportunity for them.”

The resolution of another contentious issue—China’s economic coercion against Lithuania—is also unlikely anytime soon. The European Commission, which launched a case against China at the World Trade Organization (WTO) in January, is expected to decide in the coming months whether to move beyond the consultation phase of the dispute-settlement process and seek a panel to adjudicate. It is unclear which way the EU will lean, but several officials said the case was a challenging one. Beijing is still denying that a decision was taken at the top to block Lithuanian imports to China or Chinese exports to Lithuania. Whenever the EU points out a container that has not been allowed into the country, the Chinese authorities wave it through and blame the delay on a paperwork problem. A Lithuanian government official told me that China was also allowing more Chinese exports into Lithuania, pushing up the overall trade numbers in an apparent bid to undermine the EU’s case. Not surprisingly, the market has adapted to the trade restrictions since they were imposed in December of last year. Lithuanian and foreign companies in the country have found workarounds and are no longer sending containers directly to China on anywhere near the scale that they used to. All this, one EU official told me, may make it difficult to prove the systemic nature of China’s actions. “They have played it very smartly,” another said.

At the time of writing, the EU and China had still not finalized dates for the high-level economic dialogue they plan to hold before the summer. If it does take place, EU officials have made clear to their Chinese counterparts that contentious issues like coercion, WTO reform and subsidies will be on the agenda. They have also rejected the idea of holding a separate business dialogue alongside the meeting, I was told, out of concern that this could be exploited by Beijing to signal a return to business as usual. The EU also knows how to play smart.

Taiwan Movement

Even on the sensitive issue of Taiwan, there is movement. Last month, EU officials decided to upgrade their trade and investment dialogue with Taipei. Their June 2 online meeting is expected to focus on a range of technology-related issues, including semiconductors, export controls, and investment screening, a senior EU trade official told me. Last month, the G7 foreign ministers reiterated their call for Taiwan to be allowed to participate in the World Health Assembly, the decision-making body of the World Health Organization. In Berlin, officials are considering small steps to ratchet up relations with Taiwan. One idea is to send senior diplomats, at the level of state secretary, to Taipei in the second half of the year.

In the meantime, EU diplomats have stepped up their exchanges with counterparts in the United States and the United Kingdom on Taiwan scenarios and possible responses to Chinese actions that stop short of a full invasion. “China is moving the goal posts and we need to think about doing the same,” said one EU official. Still, convincing member states to engage in a detailed discussion about a Plan B on Taiwan is seen as a long-term challenge. I was told that Japan, the United Kingdom, and the United States are all pushing for a more structured conversation about Taiwan within the G7 but have encountered resistance from France, Germany, and Italy. “We can talk about scenarios with the Europeans,” a British diplomat said. “But we’re not at the point where the big EU member states are prepared to say: if China does this, we’ll do that.”

Strategic Concept

A month before NATO holds its annual summit in Madrid, transatlantic differences are also evident in the discussion over what part China should have in the alliance’s new long-term strategy document, known as the Strategic Concept. The United States, supported by Secretary-General Jens Stoltenberg, is pushing for language that would describe China and Russia as being in “strategic alignment”. However, France and Germany, which were never entirely comfortable with the strong China language agreed by leaders at the previous NATO summit in 2021, are resisting the idea that Moscow and Beijing pose a common threat. France’s President Emmanuel Macron, after years of urging Europe to engage more closely with Russia, in part to prevent it from aligning with China, has pivoted and is now arguing that Europe must avoid pushing Beijing into the arms of Moscow. The United States and other NATO members point to the February 4 joint declaration by Xi and Putin that promised “no limits” to their cooperation. At the very least, they want to ensure that the language from 2021 is not watered down. Weeks before the summit, it is unclear how the impasse will be resolved. “Behind the scenes it is not all sweetness and light,” one diplomat involved in the negotiations admitted.