For the project “Price and Quality Competition from China – How Can German Firms react?” German firm-level data is used to examine how the increasing import competition from China affects innovation and firm performance in German firms. We aim to disentangle four important mechanisms, which have been neglected by prior research. To estimate causal effects, we propose to use recent advances in micro-econometric methods and employ several new instruments. We regard the empirical setting as particularly relevant since China is set to become the largest economy in the world and Germany is the largest economy and trading partner in Europe. As China is Germany’s top trading partner, analyzing the impact of China’s innovation-led growth on German firm performance is important. However, given the current level of state influence in China, firms’ decision not fully respond to market signals. Therefore, a thorough understanding of China’s institutional context and underlying economic mechanisms is crucial. More generally, we hope that our methodological attempts to identify effects will be applicable in the field of economics of innovation and beyond.