Can the West contain China’s excess manufacturing capacity through protectionism without trapping itself in a technological and raw-materials dead end?

A near-perfect consensus has emerged among Western economists and commentators on China. The country consumes too little, saves and invests too much, and consequently produces far more than it can absorb at home. It then unloads this excess capacity on global markets, using low prices to displace foreign producers and hollow out other countries’ industrial bases. The evidence, we are told, is China’s large and growing trade surplus. In terms of macroeconomic identities, the story does resemble Germany’s after 2005: wage restraint, weak domestic demand and an excess of savings over investment generate export surpluses that must be absorbed abroad.

The diagnosis is not entirely wrong. China should strengthen its welfare state, raise pensions and reduce the insecurity that encourages households to save excessively. A larger share of national income should accrue to households, lifting consumption and reducing the economy’s dependence on investment and exports. Yet Western debate takes a valid macroeconomic identity and draws the wrong conclusion from it: that China’s industrial machine can be rebalanced away through a handful of social reforms.

The problem is that China is not Germany. Its economy is several times larger, and its productive capacity has not been built merely for its domestic market. It is increasingly designed to serve a large share of global demand. In cars, Chinese capacity is already approaching half of world demand. In batteries, solar panels, inverters, wind turbines, critical-mineral processing and many essential components, China’s share of global production exceeds 60 per cent. Semiconductors and the machinery used to manufacture them may eventually follow. This is not an accidental consequence of low wages or a cheap renminbi. It is the result of at least 15 years of patient co-ordinated finance, subsidies, public procurement, research, infrastructure and supplier localisation.

China has built industrial ecosystems stretching from mines and mineral processing to components, finished products and logistics. Stronger domestic consumption would not dismantle these systems. It would reinforce them by giving companies still greater scale, lowering their costs and widening China’s advantage. Western demands that China consume more might reduce its trade surplus. They cannot eliminate its technological and cost advantages. They may alter the macroeconomic balance, but they cannot turn industrial history backwards.

What, then, is left for the West? The first option is a protectionist wall: high tariffs, quotas, local-content requirements and an effective ban on Chinese imports into the US and Europe. We are already moving in that direction. Such measures can protect domestic producers for a few years and buy them time. But time has value only if it is used. If tariffs merely keep alive companies producing more expensive, technologically weaker and increasingly obsolete goods, they are not a bridge to restructuring. They are life support.

Worse still, Western manufacturers may survive inside their protected markets while losing the rest of the world. With greater scale, lower costs and more complete supply chains, Chinese companies will capture markets across Asia, Africa, Latin America and the Middle East. Western cars, batteries and clean technologies will become expensive regional products for affluent consumers inside a tariff-protected enclosure. The West may preserve its manufacturers, but it will lose the global markets on which economies of scale and the technological standards of the future are created.

This is also the most plausible scenario: not China’s adjustment to Western demands, but the fragmentation of the global economy into Western and non-Western blocs. The US and EU will push Chinese products out of their markets, while China turns more decisively towards the global South. But the two blocs will not be symmetrical. The Western bloc will consist of rich yet demographically stagnant economies with relatively slow demand growth. The non-Western bloc will contain most of the world’s population, its fastest-growing markets and the countries in which most future demand for energy, infrastructure, cars and industrial equipment will emerge.

Western companies would thus surrender precisely the markets on which they need to achieve scale and finance the next generation of technologies. Shielded from Chinese competition at home, they would continue selling existing models. But their smaller scale would mean less investment, slower innovation and steadily rising costs. Protectionism would create a vicious circle: a smaller global market would mean less scale; less scale would mean higher costs and technological slippage; and that, in turn, would create demands for still higher tariffs. The Western market would cease to be a launch pad for global competition and become a technological backwater in which domestic producers compete with yesterday’s products.

There is an even more uncomfortable problem. Western protectionism assumes that the West can decouple from China technologically and industrially. Yet the physical geography of the global economy favours the non-Western bloc. It contains most oil and gas reserves, much of the future growth in energy production and the bulk of key deposits of lithium, cobalt, nickel, copper, graphite and rare earths. Even where these raw materials are not mined in China, Chinese companies often dominate their processing and refining, as well as the production of critical components.

China can therefore answer Western tariffs with export restrictions on rare earths, graphite, magnets, battery materials and other critical inputs. At the same time, it can use long-term contracts, infrastructure finance and political partnerships to bind commodity-producing countries more closely to itself. The West might build a wall around its own market, only to discover that it has severed the production chain on the wrong side. It would retain the brands, patents and consumers, while leaving the mines, energy, processing, components and much of future demand beyond the wall.

This is the fundamental contradiction in the West’s de-risking strategy. It wants to become less dependent on China without accepting the mines, energy infrastructure, polluting mineral processing and decades of large-scale public investment required to do so. It wants electric vehicles but not lithium mines; batteries but not chemical plants; data centres but not power stations and grids. Strategic autonomy without a material production base is merely a political slogan.

The second option is more expensive, but considerably more sensible. The West would have to compete in the way China created its advantage: through long-term development, technology and industrial policies. It would need to secure critical raw materials, build processing capacity and supply chains, finance research, use public procurement to create lead markets and give companies sufficient production scale. It would also need affordable energy, skilled labour, patient finance and co-ordination among governments, banks, universities and the private sector.

Such a strategy cannot be delivered through a single fund, a few calls for proposals and another Brussels document with an impressive title. It would require two decades of patient, financially substantial and politically co-ordinated investment. The West would have to abandon the intellectual helplessness of those who still believe in an omnipotent invisible hand, and recognise that markets do not spontaneously create strategic industries. Markets can select winners efficiently only within a development environment shaped by the state. China did not defeat the West by abolishing markets, but by harnessing them to long-term development goals.

This is where Europe’s outlook becomes bleak. The EU knows how to set climate targets, write regulations and constrain its own companies. It does not know how to build power stations, mines, grids, battery plants or technology champions on time. It created enormous demand for green technologies while leaving their production to China. Europe’s problem is not that it is too green, but that it substituted climate policy for industrial strategy. It is now trying to cure the consequences of its own mistakes with tariffs. The second problem is the US, which is pursuing its own course and has a different vision of development. America and Europe are unlikely to co-operate in building the common supply chains required for success. The only vision they share is a tariff wall against China.

The most likely outcome is therefore a division of the world into Western and non-Western blocs. The West will shelter behind a high tariff wall and, for a while, continue to produce more expensive and increasingly obsolete goods. We will compete against one another with these products in a stagnant Western market, while China expands production, sets standards and captures the markets of the future across the non-Western world. Because that world will also control much of the raw materials, energy and growth in demand, the Western bloc will lack the material foundations for long-term success. This will not be a Western victory over Chinese excess capacity. It will be the West’s voluntary withdrawal from the future.

The alternative to Chinese industrial policy is therefore not more tariffs, still less more faith in markets. It is better industrial policy. It requires deliberate and strategically coordinated industrial and development policies, pursued consistently over the long term. Yet the West appears to have neither the appetite nor the patience to pursue it.