Volkswagen, like most major carmakers, currently builds and sells cars in joint-ventures with Chinese companies, as dictated by Chinese law. However, the Chinese government intends for home-grown local brands, such as Geely and Chery, to have an increased market share, from the current 30 per cent, to 40 per cent by 2015, which is where Volkswagen's new China-specific small car brand comes in.

Volkswagen has not decided on the name yet, but the motto of the new company is said to be "Volkswagen für die Volksrepublik", or Volkswagen for the People's Republic. The new brand will specialise in small cars, and is targeted at the growing number of Chinese consumers outside of large cities like Beijing and Shanghai who are beginning to buy small cars.

"The Chinese government has been promoting Chinese brands for some time. We are currently in talks with our Chinese partners. In general, we see a local brand as an opportunity to enter new market segments, especially those we have not been able to get into so far," VW China CEO Karl-Thomas Neumann said.

The move is not the first by a major carmaker, with brands such as Honda and General Motors already setting up their own China-specific brands with their Chinese partners. Honda recently launched the Everus, a brand developed by Guangqi Honda, a partnership between Honda Motor and the Guangzhou Automobile Group, and will begin sales of the Everus S1 later this year. GM meanwhile has Baojun, which is a creation between the Detroit automaker and the Shanghai Automotive Industry Cooperation, and SAIC-GM's Baojun 630, based on the Buick Excelle, will also go on sale this year.