Commentary on Political Economy

Thursday 15 February 2024

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Volkswagen Under Pressure to Ditch Its China Joint Venture as U.S. Impounds Vehicles

Volkswagen, which counts Audi among its brands, is under pressure over its China manufacturing. Photo: Bloomberg News

BERLIN—Pressure is mounting on

to pull out of a joint venture in the Xinjiang region of China in the latest example of geopolitical tensions colliding with business priorities for Germany’s largest manufacturers. 

After new evidence emerged linking the German carmaker with China’s alleged persecution of Uyghur minorities in Xinjiang, VW said Wednesday that it had entered talks with its joint-venture partner there regarding the business’s future. 

Then, later that day, VW said the U.S. had impounded thousands of its Bentley,

and Audi vehicles at U.S. ports because the cars contained a part made by a Chinese supplier on a sanctions list for using forced labor in Xinjiang. VW said it had notified the U.S. after learning from a supplier that its products included parts made by the banned company. 

“One tiny part,” a VW spokesman said, adding that it was in the process of refitting the vehicles and delivering them to dealers. “We really try, but this shows how challenging it is to really know everything that is happening in complex supply chains.”

VW said it is vigilant about investigating every suspicion of human-rights abuses in its supply chains.

WSJ breaks down how Volkswagen is pivoting away from an overreliance on China by leaning into American tastes. Photo illustration: Kaitlyn Wang

The twin incidents underline the dilemmas large German manufacturers are facing as they seek to protect—and in some cases expand—China operations they have become reliant on for their growth and profits, while fighting the liabilities in the West that increasingly come attached with such a large Chinese presence. 

This dilemma is most acute for companies that operate in or have ties to Xinjiang, a region home to millions of Uyghur Muslims, where the U.S. says China has conducted genocide and used forced labor. In a report released in August 2022, the United Nations human-rights agency concluded that Beijing may have committed crimes against humanity in Xinjiang, an accusation China has rejected. 

Last week, the German chemical giant

said it would accelerate plans to divest itself of two joint ventures in Xinjiang, citing the market environment, the carbon footprint for the products produced there and news reports that alleged its joint-venture partner was involved in human-rights violations. 

This move doesn’t mean BASF is exiting China. On the contrary, it plans to invest up to 10 billion euros, equivalent to around $10.7 billion, in the country by 2030 while reducing its footprint in Germany because of rising energy bills. VW, which made 35% of its sales in China last year, has no plan to reduce its presence in the market.

Mounting geopolitical tensions, China’s authoritarian drift, increased competition from local rivals and flagging postpandemic growth have dented China’s appeal for many German companies in recent years.

In its first China strategy paper, Berlin last year urged German companies to cut their exposure to the country. The government has capped the guarantees it gives businesses for their investments abroad and intensified its scrutiny of Chinese investments in Germany. 

While economists say there is evidence that some small- and midsize German companies have heeded the call, many larger manufacturers are doubling down on China.

Some 44% of German companies polled by the German Chamber of Commerce in China last month said they had moved to insulate their Chinese businesses from outside risks, including by integrating their supply chains or bringing research and development activities into the country.

Efforts to produce more in China for China are partly aimed at avoiding the kind of supply chain chaos caused by the Covid-19 pandemic. But they are also a reaction to the geopolitical tensions that have flared up since former President Donald Trump imposed new tariffs on Chinese imports.

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“Paradoxically, China has been a winner of Trump’s trade war,” said Jürgen Matthes, head of international economic policy at the German Economic Institute, an independent think tank. “It has benefited in the form of additional investments while Germany has borne the costs.” 

This explains why after moving sideways for years, new German direct investments in China have rocketed in the past three years, reaching a record €11.9 billion last year, according to the German Economic Institute. By contrast, German exports to China dropped 9% in 2023. 

This trend threatens to scuttle Berlin’s goal of reducing Germany’s exposure to China. China accounted for 10.3% of total German foreign direct investments last year against 3% on average between 2018 and 2020, and the first time it reached the 10% mark since 2014, according to the German Economic Institute.

VW has been under scrutiny for years because of its factory in Xinjiang, which is operated by SAIC Volkswagen Automotive, the joint venture VW runs with China’s

Originally built with the capacity to produce 50,000 vehicles a year, operations at the plant have been winding down. VW said the factory no longer produces vehicles but only performs quality control and technical services for about 10,000 vehicles a year.

Under pressure from investors and the German and U.S. governments, VW in December concluded an audit of the plant, and said it found no evidence of human-rights abuses. 

Then, this week, Adrian Zenz, director of China studies at the Washington-based Victims of Communism Memorial Foundation, said “new evidence directly implicates Volkswagen in forced labor” in connection with a test track that is separate from the plant.

Zenz said documents and photographs about the construction showed that a subcontractor that worked on the track “employed transferred Uyghur surplus laborers during the peak of the mass interments in 2017 and 2018.”

VW didn’t dispute the allegations but said it had no evidence of abuse, adding that it was pressing SAIC-Volkswagen for answers and that it was negotiating with the company “regarding the future direction of the JVs business activities in Xinjiang Province. Various scenarios are currently being examined intensively.”

In a sign of how toxic VW’s Xinjiang exposure was becoming for the carmaker, Janne Werning, head of ESG capital markets and stewardship for Union Investment, one of Germany’s largest public investment funds, said the “new dimension” of allegations against VW “means that Volkswagen is now no longer investable for our sustainable public funds.”

This week’s impounding of U.S.-bound VW vehicles, meanwhile, shows VW’s reliance on China both as a market and as a manufacturing base could still come back to haunt it even if it exits Xinjiang. 

“I have been saying for months that companies importing cars into the United States need to know the origin of every component in the vehicle,” said Sen. Ron Wyden (D., Ore.), head of the Senate Finance Committee. “I’m deeply concerned that some automakers are not doing enough to ensure that their sub-suppliers do not make parts using forced labor.” 

Liza Lin contributed to this article.

Write to William Boston at william.boston@wsj.com

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