Will Germany Inc, bearish on China, turn bullish on India?

Views about China are slowly but surely changing in one of the world’s biggest economies. Not the US or Japan, but Germany, which is the industrial behemoth in the European Union (EU).Three Chancellors, Kohl, Schroeder and Merkel, bought into the China growth story and believed they could bring political change through trade. Even when, by 2010, it became evident that their hopes for political change were misplaced, German business and industry were still making so much money that European ‘values’ seemed to be barely present in their pursuit of ‘interests’. The second decade of this century has brought a slow and painful realisation in the German business elite that the combination of local competition, state-policies favouring local businesses and geo-political tension calls for a critical re-think about the future of German industry in China. Make no mistake. German industry is too heavily invested in China to simply pull out, but a fundamental reassessment of opportunity and risk in doing business there is taking place within the powerful business associations that steer German business globally. ShowBlurbsVolkswagen vs the restA report by the Rhodium Group shows that after 2018, more than 80% of new European foreign direct investment (FDI) has come from just the top 10 companies, including the three German automakers – Volkswagen, Daimler and BMW. If you leave aside the German industrial giants, the mittelstand (family-owned businesses valued at Euros 2-5 billion who are invested in cutting-edge technologies and are regarded as ‘hidden champions’) are turning bearish on the Chinese market. The share of mid-sized companies from the EU has declined from 51% in the 10 years before 2018 to about 20% between 2018 and 2021. What is good for Volkswagen, it seems, may no longer be good for everyone. Equally significant was the Rhodium Group’s findings that there are relatively small European investments in the services sector, which now accounts for a rapidly growing share of the Chinese economy ($17.73trn in 2021 as per World Bank data) because the Chinese state has created regulations that benefit local companies in terms of market access. There is also declining interest in investing in mergers and acquisitions of Chinese companies by German investors because of high valuations and non-transparent financials. German industry is also engaged in searching for answers on how to de-leverage from their excessive dependency on China for critical raw materials such as rare earths, and on more general de-risking in order to limit their vulnerability to disruptions caused by geo-political tensions. ShowBlurbsAmong the measures being contemplated are the Critical Raw Materials Act, Foreign Direct Investment screening (which Germany has but the EU does not), and anti-coercion mechanisms. Concern in Germany over stealing of critical technologies has reached unacceptable levels, and export control for dual-use items is likely to be prioritised. TikTok factorsThey talk admiringly of India’s early ban on Chinese apps that have the potential to gather personal data that, in the opaque and state-run Chinese system, has the potential for misuse and manipulation. They are debating on banning TikTok. While the European view of China is not identical to that of the US, the Europeans are realising that the charm offensive that China has launched since the beginning of 2023 is not because they like the Europeans, but because they think it will stop the Europeans from band-wagoning with the US on technology sanctions. The push by German industry for diversification of critical raw materials, markets and investments, now backed by the political class, means there is a palpably new interest in alternative destinations for German companies who are in the manufacturing and exports business. Among them is India. It would, however, be unwise to presume that India is the default option because of our significant potential for fast growth and our expanding domestic consumer market. German industry recognises that great changes have occurred in India’s economic landscape over the recent years in terms of both physical infrastructure and laws & regulations, but their experience with the local bureaucracy is still a matter for concern. The impression that India remains a difficult place to do business needs to be tackled through sustained outreach to business associations. Positive movement on the Broad-based Trade and Investment Agreement that has been hanging fire for a decade, due to mutual concerns, following Chancellor Scholz’s recent visit to India will send the right message in Frankfurt, Stuttgart and Dusseldorf. This would be a good time for India and Germany to take a hard look at possible compromise which would take the already robust economic relationship onto a qualitatively new track. The writer served as foreign secretary and is author of ‘After Tiananmen: The Rise of China’This concludes a two-part series. Read part I here