European Firms in China: Assessing the Fallout of the New Trade War

The escalating trade tensions between the EU and China since early 2025 have left European firms in China scrambling to quantify losses, adapt to regulatory shifts, and navigate a deteriorating business environment. From automotive giants to luxury brands and tech companies, the "new trade war" has triggered a cascading impact on profit margins, market share, and strategic priorities. This article dissects the damage, identifies the most vulnerable sectors, and explores investment implications for 2025 and beyond.

The Automotive Sector: Ground Zero of the Trade War

The automotive industry has been the hardest-hit sector, with European manufacturers facing a perfect storm of declining sales, tariffs, and competition from Chinese rivals.

• Sales Declines: Mercedes-Benz reported a 17% drop in Q1 2025 car sales in China, contributing to a 41% plunge in pre-tax earnings to €2.3 billion. BMW saw a 17.2% sales decline in China, offsetting a 28% rise in global BEV deliveries. Volkswagen’s Chinese sales fell 17%, with its European BEV plants operating below capacity.
• Tariffs and Profit Margins: EU tariffs on Chinese EVs, ranging up to 35.3%, have disrupted joint ventures like Stellantis’s Leapmotor partnership in Poland. Meanwhile, U.S. tariffs threaten to erode automakers’ margins by up to 3 percentage points, per Mercedes’ CFO. Volkswagen now projects margins at the lower end of its 5.5–6.5% target.

Tech and AI: Regulatory Battles and Competitive Pressure

The tech sector faces dual challenges: regulatory crackdowns on Chinese firms and the rise of subsidized Chinese competitors.

• AI and Data Privacy: Italy blocked China’s DeepSeek AI in January 2025 for violating GDPR, underscoring EU scrutiny of foreign tech firms. European AI startups now face heightened compliance costs while competing with low-cost Chinese rivals.
• E-Commerce Scrutiny: The EU’s Digital Services Act probes into Shein and Temu—91% of low-cost imports to Europe—threaten to disrupt markets dominated by Chinese platforms. Proposals to end duty exemptions for shipments under €150 could further disadvantage European e-commerce firms.

Luxury and Beverage Sectors: Tariffs and Market Shifts

China’s retaliatory tariffs on EU goods, including 34.8–39% on French brandy, have hurt luxury companies.

• Pernod Ricard and LVMH reported strained margins as Chinese consumers shift to local alternatives. China’s focus on export-led growth over domestic consumption exacerbates these challenges.

The Broader Economic Context

The trade war exacerbates Germany’s industrial decline, with its manufacturing sector contributing 20% of GDP. A Centre for European Reform report warns that China’s "Made in China 2025" strategy threatens up to 5.5 million German jobs, as Chinese firms outpace European rivals in sectors like EVs.

Investment Implications: Navigating the Fallout

1. Avoid Overexposure to China: European firms with heavy reliance on Chinese markets (e.g., automotive, luxury) face prolonged headwinds. Investors should prioritize firms with diversified revenue streams.
2. Tech and AI: Compliance Costs vs. Innovation Gains: While EU regulations protect data sovereignty, they may stifle competitiveness against state-backed Chinese firms. Investors should favor companies with strong IP portfolios and EU policy alignment.
3. Policy Risks: The EU’s "de-risking" strategy—potentially including tariffs on subsidized Chinese exports—could intensify volatility. Monitor political developments closely.

Conclusion: A New Reality for European Firms

The data paints a stark picture: European firms in China are grappling with declining sales, margin erosion, and regulatory uncertainty, while Chinese competitors leverage subsidies and scale to gain ground. Key sectors like automotive face a 5–7% annual revenue decline in China through 2025, per industry estimates, while tech firms must navigate a fragmented regulatory landscape.

Investors should prioritize firms with:
- Diversified supply chains (e.g., automotive firms shifting production to Southeast Asia).
- Strong AI/tech IP (e.g., European AI startups compliant with EU regulations).
- Exposure to EU policy initiatives, such as the proposed €1 trillion spending plan on strategic sectors.

The trade war’s full impact may not be clear until 2026, but the message is unequivocal: adapt or risk obsolescence.