SHANGHAI -- As it battles rival General Motors (IW 500/4) to be the top foreign automaker in the world's biggest car market, Volkswagen (IW 1000/10) announced on Tuesday it will build a plant in central China.

The plant in the city of Changsha will start production in early 2016 with an annual output capacity of 300,000 vehicles.

The move comes as VW battles GM for dominance in the huge Chinese market, despite worries about over-capacity. VW delivered 2.81 million vehicles in the country last year while GM sold 2.84 million, making them its biggest foreign automakers.

GM said this month it would build a $1.3 billion Cadillac plant in Shanghai after the Chinese government approved the project, as it seeks more luxury auto sales -- which at present are dominated by German brands.

"The production expansion of foreign carmakers shows they see growth opportunities in China's car market,"  said Jia Xinguang, managing director of industry group the China Automobile Dealers Association.

China's annual auto sales rose only 4.3% year-on-year to 19.31 million units in 2012, hit by limits on numbers imposed by some cities to ease traffic congestion and tackle pollution.

But management consulting firm McKinsey last year predicted China's passenger car market alone will grow an average eight percent annually to 2020.

VW currently has 12 vehicle and component plants in China, and the Changsha plant is a joint venture with Shanghai-based SAIC Motor, one of its existing Chinese partners.

"The location of Changsha may be a result of Volkswagen's strategy to move production inland to central and western China and its consideration of local policies, which might offer tax incentives to support the investment," Jia said.

An environmental assessment report conducted last year by the Hunan Research Academy of Environmental Sciences and posted on its website put the investment at 12.1 billion yuan (US$2.0 billion).

VW's head for China, Jochem Heizmann, said last month the company was negotiating with Changsha authorities over the factory, part of its scheme to build seven new plants in the country, Dow Jones Newswires reported.

VW produced 2.6 million vehicles in China last year, with the rest of sales coming from imports, according to the group's annual report.

It delivered nearly 770,000 vehicles in China in the first quarter of 2013, up more than 21% from the same period last year, according to an earlier statement.

Copyright Agence France-Presse, 2013