What China’s chip strategy gets right

China’s chip industry has long been held up as an example of the country’s technological weakness, a vulnerability that has been targeted by US export controls. Yet ever more signs are emerging of Chinese progress in this sprawling and immensely complex supply chain. Increasingly, Chinese companies seem not only capable of import substitution, but of competing with foreign industry leaders. This is despite the hurdles of both US export controls and of Chinese firms’ starting disadvantage as latecomers to a globalised chip supply chain that has high entry barriers and entrenched incumbent firms in many niches.

This conflicts with the common portrayal of the Chinese state and its industrial policy as stifling and counterproductive for technological development. The flaws in Chinese industrial policy – inefficiency and wastefulness, market distortion and ‘overcapacity’, – have been written on extensively and don’t require repeating here. Instead, we should look at what Chinese policy has gotten right, and what lessons Europe can draw in its quest to build its own chip sector for the future.

Supply chain ecosystems

Chinese industrial policy in recent decades has focused as much on building supply chain ecosystems and an enabling environment, as on quantitative targets or developing discrete technologies. The growth of interrelated supply chains creates demand for the domestic chip sector’s products and provides the supporting elements (batteries, sensors, materials, components, wireless solutions, specialised software platforms, and so on) for chips to work in different applications, such as highly networked vehicles or robots. Industrial policy for the chip sector has addressed steps throughout the entire production process, rather than focusing only on a few outputs. 

This holistic approach is a far more prominent feature of Chinese policy than ‘picking winners’, which the state previously did in the chip sector with unimpressive results. Even where a direct technological link is not immediately apparent, factor endowments – such as skilled labour, technological advances and availability of inputs for more complex products – developed by state policy create more options and potentially a competitive advantage for firms in China’s chip sector. Abundant and cheap electricity, for example, is an important factor in the growing competitiveness of Chinese artificial intelligence (AI) hardware and AI models, despite constrained access to cutting-edge chips.

Having large numbers of domestic vendors throughout interlinked supply chains reduces costs and enables rapid product design and production scaling, due to ready availability of inputs and components. Investment in advanced computing capacity by US, and increasingly EU, companies is growing much faster than profitable applications for the AI functions enabled by that capacity. By contrast, China is focusing on putting its smaller computing capacity to use in fields like service robots, education delivery, manufacturing automation, and city management. 

In response, a growing chorus of US technology leaders is urging American industry to shift its efforts in AI and robotics towards implementation and production scaling, more comparable to the Chinese approach. Or, as the CEO of the EU’s most valuable company, German multinational software corporation SAP, recently said, Europe should not expect to harness the AI revolution simply by building data centres, but needs to work at applying AI to existing industries.  Building broad-based markets helps local companies grow and attracts foreign technology providers, making the whole economy more dynamic and attractive.

Adaptability

Chinese industrial policy has also learnt from past failures and adapted to changing conditions, leading to better results. Policy has evolved from the Mao-era command economy to a system in which the state’s role is better described as ‘grand steerage’, where the state guides and funds key areas but also leaves a large space for market forces and private enterprise. A focus on state-owned enterprises and state-led research and development has given way to the broad ecosystem incentives described above, an emphasis on developing technical standards frameworks, and other measures to lower entry barriers for private firms, address their resource deficits, and help them to scale up their operations.

Most recently, in response to the inability of long-running state-led programmes to import substitutes for critical technologies like advanced lithography, the government has concentrated its support on a handful of the most demonstrably successful firms. According to recent media reports, the result may be a major expansion of Chinese leading-edge chip production over the coming year. The authorities have also ruthlessly cleaned house at China’s flagship state-managed ‘Big Fund’ for leading chip sector investment.

A ‘fast follower’

Finally, China’s policy for the chip sector has accounted for the global conditions of the industry. By the mid-2010s, it had settled on a ‘fast follower’ approach that did not aim to compete head-to-head with foreign chip sector leaders or even to provide for the domestic industry’s needs. Instead, Chinese industry plugged into the globalised chip production chain to create business and learning opportunities for domestic firms, allowing them to accumulate the skills and resources needed to move up the technology ladder. 

China’s chip sector is still benefiting from foreign collaborations, including with leading European chip vendors that are more, rather than less, incentivised to operate in China as Chinese firms’ capabilities increase. And Chinese industry has benefited critically from Chinese labour trained abroad and foreign passport holders attracted to China.

All the above approaches align with recommendations in the European Court of Auditors’ progress report of April 2025 for the EU’s microchips strategy. These include setting ‘realistic objectives taking into account … [the] EU industry’s short- and long-term needs, global competition and other crucial factors, such as energy cost and raw material supply.’ 

The European Commission is currently reviewing the implementation and results of the 2022 Chips Act ahead of next year’s reporting deadline. It must chart the path forward against conditions in the global chip sector and the many industries that use chips. These conditions include the expanding Chinese role across these interlinked supply chains and technological stacks.  Europe needs to cut costs, remove structural obstacles to firms scaling across the single market, and face the fact that most chip production will stay in Asia for years, as noted by the CEO of the EU’s leading chip sector firm, ASML. Besides, Europe’s economic size alone will not meet today’s challenges, according to Mario Draghi, the former European Central Bank chief. The EU needs to take action to convert its size into industry outcomes, especially for strategic technologies such as chips. A sensible step on the way would be openness to learn from a state that has successfully converted economic scale into technological and market power.