China in the Driver’s Seat
Electric vehicles are here to stay and China is charging ahead.
Hello, I’m Ylli Bajraktari, CEO of the Special Competitive Studies Project. In this edition of 2-2-2, SCSP’s David Lin, Ben Bain, and Jafer Ahmad discuss the industry movement away from combustion engines toward electric vehicles and the implications this transition has for the technology competition.
The past few months have brought about a flurry of news, underscoring the outsized role China is playing in the global transition away from combustion engines toward electric vehicles (EVs). A significant milestone took place just a few weeks ago, when the People’s Republic of China (PRC) overtook Japan to become the largest auto exporter in the world. China exported 1.07 million vehicles in the first quarter of 2023, according to the PRC customs administration, up 58 percent compared to the same period in 2022. EV exports played a significant role in boosting the PRC into the top spot.
Separately, in Shanghai last month, foreign and domestic automakers rolled out the best they have to offer for the PRC market at the city’s signature annual auto show. The takeaway was clear: the future of the automotive industry in China is electric. Domestic EV champions XPeng Motors, NIO, and even legacy PRC automakers like Hongqi, touted the latest and greatest in their EV lineups. Industry observers captured the atmospherics:
“In 20, 30, 50 years from now, we'll likely point to #AutoShanghai2023 as that watershed moment. It's the moment most media outlets acknowledged that the foreign legacies that dominated the China auto market for the last ~35 years have been overtaken and unable to compete with the #EV products that have [been] launched by China EV Inc within just the last few years.” -Sino Auto Insights
Finally, in late April, senior PRC leaders convened a meeting of the Chinese Communist Party (CCP) Politburo, chaired by Xi Jinping in Beijing, where they gathered to discuss the PRC’s post-COVID economic recovery and ways to boost technological self-reliance. Interestingly, the Politburo’s public statement only explicitly highlighted two strategic technology sectors by name: artificial intelligence and…electric vehicles.
China EV Inc. Arrives on the Global Showroom Floor
Indeed, the PRC has become a major global contender in the EV sector and is challenging the incumbents: the United States, Europe, Japan, and South Korea. After decades struggling to master combustion engines, the EV revolution is giving China the opportunity to leapfrog onto the world stage. There are startling indicators pointing at China’s rocket-speed rise in the EV sector:
Domestically, in 2022, the PRC sold an impressive 6.8 million EVs, up from 1.3 million in 2021, making 2022 the eighth consecutive year in which the PRC was the world’s largest market for EVs. Domestic EV makers’ market share in China also rose by 17 percent in 2022, while that of foreign automakers dropped by 11 percent, reflecting how the tides are turning against foreign brands. Today, PRC automaker BYD is the major player in terms of domestic EV market share and foreign EV sales in China are slumping. Some industry analysts have highlighted how even U.S.-based EV champion Tesla is losing ground in the PRC.
Internationally, PRC EV companies are gaining ground, which may be surprising, given how PRC automakers have traditionally struggled to break into overseas auto markets. As Sino Auto Insights points out, in Israel, BYD’s Atto 3 is the #1 EV sold. BYD also won New Zealand’s Car of the Year award for the Atto 3 and is making headway in emerging markets around the world, including South America and Southeast Asia. In Indonesia for example, BYD recently outbid Tesla to supply EVs for the country’s largest taxi operator. Beyond BYD, China’s SAIC, which owns the British brand MG, won UK Car of the Year for its MG4 EV.
The end product of China’s efforts has been EVs that are on par with their foreign competitors’ performance, but at substantially — and artificially — lower costs. BYD’s Atto 3 sells for €38,000 in Germany, making it 10-20% cheaper than VW’s similar all-electric ID.4. The combination of a massive and protected domestic market, generous incentives including a credit system that allows automakers to sell vehicles below cost, and localized supply chains give PRC firms a leg up in the competition - a key hurdle for incumbent carmakers. At the end of the day, building its competitiveness in EVs also serves Beijing’s strategic goals of creating a strong export market, while reducing its dependence on foreign automakers.
How did China do it?
The PRC’s rise to prominence in the global EV industry follows many of the same industrial policy moves it made to lead in other strategic technology sectors, such as fifth-generation (5G) telecommunications infrastructure. In the case of 5G, between deep government support – including massive state subsidies and below-market loans – and a large domestic market, Huawei was able to overtake the global market to become, at its prime, one of the world’s only end-to-end 5G infrastructure providers. Beijing is employing many of the same tactics in its march to dominate the EV industry, which, paired with some competitor missteps, have allowed it to become a center of gravity in the global EV industry:
Deep Government Support. China’s EV milestones today are the product of deep and sustained government support, dating as far back to Beijing’s 2006 The National Medium- and Long-Term Plan for the Development of Science and Technology (2006-2020). Since then, EVs have been featured in each major succeeding industrial plan. In 2014, President Xi Jinping explained that EVs were the only way for China to transition “from a big automobile country to an automobile power.” Beijing’s 2021 industrial plan for the EV sector set a target for 20 percent of vehicle sales to be electric by 2025, but the PRC is on track to surpass that target this year, well ahead of schedule. These industrial plans have been underpinned by subsidies, government procurement contracts, tax breaks, preferential access to raw materials, and tariffs on foreign imports, all of which are pages from Beijing’s industrial policy playbook designed to bolster its domestic industries.
Outbound and Inbound EV Investments. China has also benefited enormously from access to foreign technology and expertise, which helped accelerate its indigenous EV production. Foreign automakers continue to pour investments into China, the largest auto market in the world, amid stiffening competition from their domestic rivals and despite risks to their intellectual property. Tesla launched its Gigafactory in Shanghai in 2019 and has plans to expand production. Just last month, Volkswagen announced plans to build a one billion euro procurement and R&D center in northeastern China. In addition to inbound foreign investments, PRC auto makers have been making outbound investments for more than a decade and they are starting to pay off. Hangzhou-based automaker Geely famously acquired Swedish car manufacturer Volvo in 2010 and a few years later, PRC auto parts company Wanxiang won the bankruptcy auction for the assets of failed U.S.-automaker Fisker. Today, Volvo’s Polestar and Fisker’s Ocean are emerging to be major contenders in the EV industry.
Dominance in Critical Minerals and Battery Production. China’s dominance in the critical materials that feed into the most expensive part of any electric vehicle – the battery, which according to some estimates makes up to a third of the cost of the EV – is a major competitive advantage to the country’s EV development. PRC firms dominate the upstream supply chain by controlling both the mining and processing of key materials: China has more than an 80 percent market share. Furthermore, China also has the majority of the refinery capacity in the world for battery components. Beyond critical minerals, PRC firms lead global battery production, accounting for about 80 percent of the world’s capacity. Today, six of the top ten battery producers by global market share are Chinese companies. PRC battery giant CATL became the world’s largest battery producer less than a decade after its founding thanks to astronomical levels of support from Beijing. CATL, BYD, and other firms have also taken the technological lead for novel battery chemistries, granting them a formidable advantage.
Incumbent Missteps
The PRC’s rise in the EV sector has also importantly benefited from competitors failing to think more long term about the automotive industry and making missteps while navigating the innovator’s dilemma. In Japan, industry leaders hesitated to embrace EV technology, concerned that it would undermine Japan’s leading position in standard hybrid vehicles. Today, none of Japan’s automakers rank in the top 20 for global EV sales.
In Europe, while the European Union (EU) has increased its share of the global EV market, European automakers are struggling to keep production on pace to meet growing demand. European carmakers have incurred transition costs to production plants and supply chains — as well as lowered barriers to entering what was traditionally a unique diesel engine market – making them more susceptible to foreign competitors, including those from the PRC. In addition, despite setting ambitious targets and offering government support for EVs, the EU quickly became dependent on PRC battery firms like CATL that helped drive the ascendance of China’s EV producers. An EU focus on subsidies for consumers led to less attention on support for infrastructure, battery production, and critical mineral access. The recent EU Critical Raw Materials Act is evidence of a course correction, but one arriving late in the game.
In the United States, inconsistent policies have given the PRC inroads in the competition. In 2012, the U.S. government allowed a PRC firm to acquire A123 Systems, an early U.S. innovator in lithium-ion batteries, transferring valuable battery technology to its new PRC parent company. In terms of government support, while the PRC government provided significant and consistent support for EVs over the decades, the U.S. government track record has been more mixed. Washington has offered some support via consumer tax credits to boost demand, but the federal government has made fewer large-scale investments in key EV infrastructure, particularly charging stations, to sway public perceptions and support EV supply. Furthermore, the U.S. led in lithium production necessary for today’s EVs until the 1990’s. Yet now, China plays an outsized role in supplying and refining the critical minerals throughout the EV supply chain.
What’s at Stake in the EV Competition and What’s Next?
Of course, all of this is more than just about making and selling cars. EVs represent a convergence of almost all of the general purpose technologies SCSP identified that will shape the future of innovation: artificial intelligence, microelectronics, advanced networks, new energy storage and production, and smart manufacturing. Tech leadership in EVs will likely lead to new innovations up and down the technology stack, from next-generation battery technologies to software operating systems, from the Internet of Vehicles to the future of autonomy. Economic leadership in EVs will be a springboard for new jobs, a new and transformed industrial base, and new forms of prosperity. Geopolitically, leadership in EVs will forge new pathways toward energy transition and energy security – transnational issues that reach beyond the United States and China but have ripple effects across Europe, Asia, and the rest of the world. As the Director-General for Energy at the European Commission said at a recent conference: “there is no energy transition without energy security, and there is no energy security without energy transition.”
The tectonic shifts in the automotive sector toward EVs should be a call to action – and a call for the United States and its allies and partners to organize to compete with an increasingly sophisticated PRC rival in an automotive technology that will have a transformative effect on the future of innovation. Cases like that of South Korea, home of competitive battery companies, like LG Energy Solution, Samsung SDI, and SK, and which provide government support to EV adoption, show the importance of collective action to counterbalance the market size and economic malpractices of China. As one South Korean-based researcher noted, “It’s difficult to compete with China in quantity” given the size of the Chinese market and the PRC’s preference for domestic firms.
The good news is that the United States and its allies and partners are not sitting idly by. The United States and the European Union are mending their differences over the Inflation Reduction Act, which has breathed new life into the U.S. EV industry. Washington and Tokyo are also finding ways to cooperate more closely on EV supply chains. Looking ahead, the United States and its allies and partners should continue striving to shore up political support to better position their respective EV industries to compete, be it through nearshoring, friendshoring, or the bolstering of guardrails to reduce dependencies on the PRC. America should also do more to jumpstart the EV innovation ecosystem, including spurring R&D for new battery technologies. Anything short of doing more to strengthen national core competencies in EV technology risks falling asleep at the wheel.
Combustible engines? Yes, I have seen some cars on fire, but did you mean "combustion engines" in your email prelim, perhaps?