Widening gap in China policy between the EU and the U.S., with Brussels diverging from the decoupling policy adopted by Washington

1. The U.S. decoupling policy

As the U.S. presidential race heats up, the Biden and Trump camps are stressing how radical their hardline policy against China is in order to appeal to their constituencies.

Anti-Chinese sentiment is building up in the United States. Few Americans are trying to rein in the harsh policy, and the hardline opinions are becoming more radical.

A few renowned China experts warn against this state of affairs, but their warning is not reflected in policy making and execution by the U.S. government.

The Biden administration explains that the "small yard, high fence" approach constitutes a basis for the U.S. economic security policy toward China. Yet that scope is widening.

A look at the additional tariff hikes for China that the Biden administration announced on May 14 (and will put in force on August 1) shows that their scope is wide-ranging, covering everything from semiconductors to EVs, solar batteries, steel, aluminum, automotive batteries, and to critical minerals, STS cranes, and health care products.

A China expert in Europe derides the situation, saying that the scope of the U.S. China policy is no longer a "yard" but a "park."

In addition to such higher tariff barriers, Chinese businesses face another obstacle – difficulty in obtaining permission to set up plants in the U.S. The U.S. government has not given the go-ahead to the technical tie-up between Ford and CATL of China for a planned plant that will manufacture lithium-ion batteries for EVs.

Meanwhile, Washington is encouraging the domestic production of semiconductors under the Inflation Reduction Act. By taking advantage of huge subsidies made available under the act, TSMC of Taiwan is constructing a semiconductor plant in the state of Arizona.

Its planned completion, however, has been postponed in the face of various issues. The TSMC chairman who made the investment decision for the plant resigned in June this year.

It is viewed that he was effectively dismissed.

On top of that, some estimate that products to be manufactured at the plant will be about 50% more costly than their counterparts made in China or Taiwan.

Who will buy such costly products? No one has a clear answer.

2. Major EU countries oppose decoupling

Meanwhile, leading German auto-related companies that are actively doing business in China are against the decoupling approach adopted by the U.S.

They do not stop there. They are also showing opposition to the de-risking advocated by the EU.

They stand clear in opposition to policies that could adversely affect their China business.

On June 12, Brussels announced additional tariff hikes against EVs from China. It said it makes an issue of the Chinese government's EV subsidies.

Yet Beijing discontinued the provision of subsidies to EV manufacturers by the end of 2022. It is difficult to accurately analyze the actual situation surrounding such subsidies and compare them with the subsidy policies of Western developed countries.

An expert very familiar with the inner workings of the EU says Brussels made a political decision to go ahead with the sanctions.

Germany opposed the sanctions while France approved them.

French and German companies take quite different stands on China business.

Few French firms are successful in China. They are limited to the providers of luxury brands (such as Hermès, Chanel, and Louis Vuitton) and red Bordeaux and Burgundy.

French companies remain unsuccessful in selling other alcohol beverages such as white wine, champagne, and brandy in China.

This may explain why France is not as worried about possible retaliatory sanctions from China as Germany is.

As described above, the performance of European companies in the Chinese market varies greatly depending on the country in which they are based. EU countries are unanimous, however, in their acceptance of foreign direct investment (FDI) that Chinese companies make in the EU.

Germany, France, and Hungary have allowed Chinese firms to construct EV battery plants on their soil. In addition, Hungary and Spain have announced the construction of EV plants by China manufacturers there.

The common stance toward China among major EU countries is that they curb increases in imports from China that hurt businesses in the EU in terms of performance and employment but welcome Chinese firms as long as they have only a limited adverse impact on EU-based firms and significantly contribute to local job creation and tax revenues.

Under these circumstances, China businesses are building more and more plants in the EU, just as Japanese companies once did so in the U.S. to ease bilateral trade frictions.

Plant construction by Chinese companies is spreading to the EU neighboring countries of Turkey and Morocco, which lure Chinese manufacturers with their preferential treatment for investment.

As exports from China are replaced by local production, their growth will eventually slow down.

This is exactly the path Japan has taken.

3. Benefits of China business for the U.S.

U.S. companies that increase their profits in the Chinese market or

work with Chinese enterprises bring many benefits to the U.S. economy.

On the export side, highly competitive U.S. companies can improve their performance through expanding their exports to China. Such companies continue to maintain a positive stance on China business.

On the import side, increased imports of high-quality and reasonably-priced Chinese products can help rein in inflation in the U.S. They also benefit low-income earners who are deeply discontent with the gap between the rich and poor.

In this way, China business brings great economic and political benefits to the U.S.

No other country can better supply the huge U.S. market with high-quality and reasonably-priced products stably and in large quantities.

Accordingly, despite Washington's stringent curb on imports from China, Chinese exports to the U.S. have almost bottomed out for the period from January through June this year, posting a decrease of 0.8% on a U.S. dollar basis but an increase of 2.9% on a renminbi basis from the same period a year earlier.

(Chinese exports to the U.S. throughout 2023 fell by 13.0% year on year on a dollar basis and by 8.1% on a renminbi basis.)

On the FDI side, the U.S. acceptance of FDI by Chinese companies creates local jobs and tax revenues. Likewise, U.S. companies benefit greatly from their FDI in China.

The amount of each FDI in China

is increasing on average now that the added value of products required in the recent Chinese market is growing.

There are now increasing cases where single FDI in China reaches several billions USD or even tens of billions USD. This means a growing opportunity for U.S. companies that have substantial financial resources available to make huge investments.

4. China's response in the face of U.S. China policy

Still the U.S. is maintaining a strict decoupling policy toward China. The reason for such a huge gap in attitude toward China between the U.S. and the EU lies in the unique nature of the former's China strategy.

The U.S. is more concerned about national security threats and less interested in economic benefits.

How to respond to a country that threatens the position of the U.S. as a hegemonic state is of particular importance to the U.S. The development of the Chinese economy is viewed as a threat to the U.S. although it is favorably viewed by other countries.

In the 1980s and 1990s, the U.S. saw Japan as a threat and exerted unreasonable pressure on Japan in such various aspects as trade, investment, and fiscal and financial policy. A parallel can be drawn between Japan then and China today.

What sets China today apart from Japan then, however, is the sheer size and openness of the Chinese market.

The Japanese market was closed. The development of the Japanese economy did not result in the Japanese manufacturing sector importing more products or accepting more FDI.

China, on the other hand, has been increasing imports and inward FDI from countries around the world, making the nation extremely attractive for these countries.

Despite U.S. pressure, trade and investment relations between China and other countries have been growing. Even U.S. companies have not reduced their trade with or investment in China very much.

U.S. companies themselves gain huge profits from their China business, making U.S.-China relations today quite different from U.S.-Japan relations back then.

Japan's heavy dependence on the U.S. for its security meant that the U.S. had a huge influence on Japan.

China, on the other hand, stands on its own for its security and maintains close economic relations with countries other than the U.S. Pressure from the U.S. alone does not have a huge impact on China like it did on Japan.

Under these circumstances, even if the U.S. steps up pressure on China, other countries do not follow suit. This allows the Chinese economy to continue growing faster than Western economies.

The high level of openness of China's trade and investment owes much to the country's accession to the World Trade Organization (WTO), which the U.S. supported.

Many politicians in the U.S. think that the engagement policy toward China has proved futile – a view not shared by other countries.

The joint statement at the G7 Hiroshima Summit last year includes a passage stating that the engagement policy has proven meaningful.

5. Possible return of Trump and how Japan and the EU would react to the risks involved

Many observers agree that if former president Donald Trump wins the presidential race and returns to office, he will significantly tighten trade and investment restrictions on China.

Officials at some U.S. companies hint at the possibility that their companies will oppose such restrictions and exert strong pressure on the new administration to change tack.

Europe would also step up opposition.

Recently, the U.S. imposed additional tariff hikes on Chinese EVs. It turned out, however, that 30% of the EVs affected by the hikes were made by Tesla.

The news came as an unexpected joy for EU officials.

This was because the EU was opposed to Washington's subsidy policy aimed at luring foreign firms even under the Biden administration, which is on good terms with Brussels.

The gulf between the EU and the U.S. would likely be widened further under the possible Trump administration, which would not hide its confrontational approach toward the EU.

The administration would likely make strong demands on Japan to, say, accept higher tariffs, pay more for the cost of stationing U.S. forces in the country, and come into line with the policy of decoupling from China.

That would deal a serious blow to Japanese firms' business with China, which in turn would badly hurt the Japanese economy. Following the U.S. government would not be the answer. The U.S. market could not substitute for the Chinese market.

Looking at such a future, it is clear that Japan will fall into a predicament if it follows the current path.

Japan should change its current posture of blindly following the U.S. and return to the diplomatic posture of striking a balance between its relations with the U.S. and those with China, just like the one seen under the administration of Shinzo Abe in the late 2010s.

In this regard, major EU countries can serve as a model for Japan in terms of policy making and delivery.

Many businesspeople and scholars in the U.S. have different views from those of congressional officials in Washington, D.C., but their views are rarely reported in the Japanese media.

I hope that Japanese policy makers and administrators will strike a better balance through a deeper and multi-faceted understanding of both different views in the U.S. and the policy stances taken by major EU countries.