Partnership Matters: The Historic Sino–German Relationship and Why Germany Isn’t Abandoning China

Foreign Direct Investment into China reaches a record low.

China, driven by its "reform and opening up" policy initiated in the late 1970s, actively pursues overseas investment, talent, and technology. However, recent geopolitical tensions and global supply chain shifts have prompted changes in China's trade relations amidst a challenging global economic landscape. According to data from the State Administration of Foreign Exchange , China’s net FDI—an indicator that tracks monetary flows related to foreign-owned entities in China—was $33 billion in 2023, down 80% from 2022 and reaching its lowest level since 1993. Additional data from the National Bureau of Statistics shows that the FDI actually utilized was ￥1,133.9 billion in 2023, down 8.0 % from the previous year .

The recent significant decline in FDI can be attributed to several factors:

• Geopolitical tensions and conflicts eroding foreign investors’ confidence in investments in China.
• Interest rate hikes lead to higher returns for foreign investors in other regions, even while Beijing has reduced rates to stimulate its economy.
• China’s economy not rebounding as expected after the pandemic, together with a lack of consumer confidence: constant turbulence in the real estate sector, high youth unemployment, and sluggish performance in the Chinese stock markets have contributed to pessimism among many Chinese consumers.

However, there are some bright spots.

Direct investment from German companies into China surged to nearly €12 billion ($13 billion) last year, as reported by the German Economic Institute, citing Bundesbank data. This reflects a strong desire to expand in the world’s second-largest economy despite increased scrutiny from the European Union due to security concerns. The proportion of Germany’s total direct investment abroad that was directed toward China also rose to 10.3%—the highest since 2014. The investments were financed mostly by reinvested profit, painting a more nuanced picture.

A recent survey by the German Chambers of Commerce in Greater China indicates growing optimism among German companies about future growth in China. 42% of firms anticipate positive industry growth this year, a jump from 21% in 2023, and 78% foresee steady growth over the next five years . This outlook contrasts with expectations for Germany's economic growth, which, according to the OECD, IFO Institute, and the EU Commission, is projected to be between 0.1% and 0.5% . This pessimism stems from high energy costs, low consumer confidence, reduced order intakes and ongoing transport sector strikes.

Given the contrast between the prevailing negative sentiment toward Chinese investments in the global market and the increasing investments made by German companies in China, it is important to closely examine these two sets of data together. It is also worth delving into the historical context of Sino–German cooperation to understand the underlying reasons.

A reflection of Sino–German relations.

China and Germany have developed a strong trade and economic relationship over the past 50 years, building on early links in the nineteenth century.

• In 1861, Sino–German relations were formally established when Prussia and the Qing dynasty concluded a treaty during the Eulenburg expedition.
• Many famous German companies have a long history of business operations in China. The history of Siemens in China dates back to 1872 , when the company delivered the first pointer telegraph to China. A director by the name of Theodor Sproesser traveled to China from BASF, opened a new chapter of success of BASF in China since 1885 .
• From the founding of the People’s Republic of China in 1949 until 1971, most economic connections were built by East German companies.
• From 1972, when West Germany established diplomatic relations with the People’s Republic of China, there was increasing interest in economic cooperation. The most visible investor was Volkswagen (VW) in 1982, creating the first foreign-invested automotive joint venture in China, which soon achieved a market share of more than 50%.
• Since 2016, China has consistently been Germany’s top trading partner, with bilateral trade reaching €299 billion in 2022.

Political relations, mirror economic growth; starting with Chancellor Kohl, Germany’s chancellors have made it nearly a rule to visit Beijing annually, prior to the COVID-19 pandemic.

• Between 1993 and 1998, over 50 diplomatic high-level diplomatic meetings bolstered Sino-German relations.
• In 2006, Germany and China further enhanced their foreign political, economic, and diplomatic relations, formalized within one of the EU–China strategic partnerships.
• Before a 2011 visit to Germany by China’s Prime Minister, Wen Jiabao, which represented a significant milestone for European countries, the Chinese government released a publication entitled “White Book on the Achievements and Prospects of Sino–German Cooperation.” This visit also marked the inception of Sino–German government consultations, which are an exclusive platform for bilateral communication.

Decades of trust and pragmatic cooperation have forged Sino-German relations, often viewed as a model of international relations despite differing socio-political systems. The German concept "Wandel durch Handel" (fostering change through intensive trade) is a slogan often cited by German stakeholders, although the German government's China strategy released last year raises serious questions about true fairness and equality achieved over the years. At the same time, some of the expectations of the past may also have been rather na?ve than realistic. What is probably needed is more pragmatism and realism on all sides.

The automotive sector: the innovator’s dilemma and new opportunities

• In 2023, German auto manufacturers in China exhibited varied results. They faced considerable pricing pressure in the mid-market segment as Chinese EV makers progressed, innovated and push their capacity into the market.
• Despite this, German luxury brands such as Porsche and Mercedes, maintain profitable operations in China, largely due to their strong branding, offsetting their late entry into the EV market. Mercedes saw growth mostly in their high end luxury cars and EV range , while the other models remained flat or declined slightly. ?
• As the inaugural German automaker in China, Volkswagen (VW) has established long-term partnerships with local firms like FAW Group, SAIC Motor, and JAC Group . VW has also funded R&D centers in China, emphasizing locally tailored electric vehicles (EVs). By November 2019, VW managed 33 Chinese plants focused on vehicle and component production. However, intense competition from Chinese EV manufacturers is pressuring mid-market segment margins and eroding VW's market share . VW plans to reverse this trend with increased investment in technology and innovations in China.
• Germany's automotive supply industry, including Continental, Hella, Schaeffler, and Bosch, has long bolstered the nation's robust car industry. Initially, these companies produced in China to fulfill local content quotas for German and international automakers, targeting the same customer base as in Europe. However, this dynamic is shifting as the industry now prioritizes Chinese EV brands. Companies like BYD Auto are sourcing parts from German suppliers in China, offsetting the decreased demand from major, globally invested manufacturers in the region.

I've used the single-industry example to illustrate the broad collaboration between German companies and China, which spans sectors like machinery, infrastructure, chemicals, renewable energy, pharmaceuticals, and consumer goods. Major large players complemented by numerous small and medium enterprises, together forming a significant economic entity. The German Chamber of Commerce's survey attributes this strong partnership to several factors.

• Market proximity: China serves as both a manufacturing hub and a vast consumer market.
• Cost-effectiveness at scale: China's lower labor and operating costs compared to Germany make it an appealing investment locale. While Chinese labor costs more than in South Asia, the nation ranks fourth in Asia for factory robotization per 1,000 workers, trailing only Japan, SIngapore and South Korea, ensuring efficient production.
• Access to talent: China has a rich pool of skilled and educated professionals in diverse fields.
• Government support and incentives: the Chinese government often offers incentives, subsidies, and supportive policies to attract foreign investment.

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Conclusion

Historically, Sino-German relations have thrived on constructive engagement. Notable changes in sectors like the automotive industry challenge traditional perspectives but also offer new prospects for adaptable companies. Geopolitical factors will keep shaping investment choices, with some companies diversifying their investments across Asia, while others double down on localization and R&D in China to withstand geopolitical fluctuations. The decision hinges to some extend on whether a company's primary focus is the local market or exports.

Despite economic challenges, China's vast consumer market, stable industries, and improving business conditions remain attractive. As stated in my previous post , I believe a collaborative approach is the best way forward. As circumstances change, it's crucial to adjust strategies and explore new cooperation avenues. By doing this, one must stay realistic, pragmatic and keep an eye on the risk management.

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