Germany on Wednesday announced it was blocking the sale of a semiconductor factory to a Chinese buyer.
Chancellor Olaf Scholz’s cabinet vetoed the €84.5 million ($84.5m) deal to acquire German company Elmos.
It comes amid a debate about how far to maintain economic ties with China in view of its geopolitical rivalry with the West.
Economy Minister Robert Habeck said Germany had to act to stop critical technology falling into the wrong hands.
“Germany is and will remain open for business, but we are not naive either,” Mr Habeck said.
Mr Scholz, who visited China last week, recently defied criticism to allow a Chinese company to buy a stake in a Hamburg shipping terminal.
However, Elmos was notified this week that approval for the sale to Silex Microsystems, a subsidiary of China's Sai Microelectronics, would be denied.
It said the veto was a “new development” as officials had previously signalled that the deal could go ahead.
A second, unnamed company also had a foreign investment bid blocked at Wednesday's cabinet meeting.
A Chinese Foreign Ministry spokesman, Zhao Lijian, had no comment on the Elmos sale in particular but urged Mr Scholz's government to treat Chinese companies equally.
Germany should offer a “fair, open and non-discriminatory market environment” for all companies and avoid “using national security as a pretext for protectionism,” he said.
Silex had planned to buy out an Elmos factory in Dortmund that manufactures semiconductor wafers.
The US has placed limits on semiconductor business with China as it tries to boost its own electronics industry.
Foreign Minister Annalena Baerbock has expressed concern that Germany will repeat the mistakes that left it reliant on Russia.
Nonetheless, Mr Scholz has said that Germany does not want to decouple from China despite the political concerns.
His trip made him the first western leader to see Chinese President Xi Jinping in Beijing since the start of the coronavirus pandemic.
“A significant amount of trade between Germany and China concerns products where there is neither a lack of alternative suppliers nor a risk of dangerous monopolies,” he said before his visit.
“But where risky dependencies have developed — for important raw materials, some rare earths or certain cutting-edge technologies, for example — our businesses are rightly putting their supply chains on a broader footing now.”