* European Commission has another week to decide complaint
* Chinese industry has denied any unfair competition
* Premier Wen defends rare earths exports policy
By Andreas Rinke
TIANJIN, China, Aug 31 (Reuters) - Chancellor Angela Merkel said on Friday that Germany had no interest in starting a trade war with Beijing over solar exports to Europe, but stressed that China must take action to address distortions to fair competition in the sector.
Beijing was also forced to defend its rare earths exports policy on the second and final day of Merkel's China trip, with Premier Wen Jiabao saying China was not intentionally holding back exports amid a supply squeeze that has driven up prices.
China accounts for more than 90 percent of the global supply of rare earths - essential for the defence, electronics and renewable-energy industries.
During a visit to Wen's home city of Tianjin, just outside of Beijing, Merkel made clear that China needed to make concessions if it wanted to prevent EU action over the solar spat.
The European Commission has until next Friday to decide whether to launch an investigation into a complaint brought by European solar firms and people familiar with the case believe it may well go ahead and do so.
On Thursday, Merkel told reporters after talks with Wen that she favoured negotiations over confrontation in the matter, comments that were welcomed by the Chinese premier but stoked concern in the European industry.
But on Friday she appeared to row back on her conciliatory tone, saying Chinese solar firms needed to recognise that subsidies, such as bottom-rate bank loans, distorted competition and violated European law.
"We are not out of the woods yet," she said. "My plea is that everyone be transparent, that they lay their cards on the table about how they produce."
Last month a group of European solar companies, led by Germany's SolarWorld, filed an anti-dumping complaint against Chinese rivals with the European Commission.
Chinese solar firms have called on the Chinese government to retaliate if Brussels decides to act on the complaint. The United States imposed duties on solar panel imports from China in May after a similar initiative led by SolarWorld there.
"Chancellor Merkel's comments may not be all that it takes to prevent (trade) Commissioner Karel De Gucht from opening the investigation," Vasiliki Avgoustidi, associate director at Berwin Leighton Paisner LLP in Brussels, said.
In the last few years, Western solar firms have accused Chinese peers of receiving lavish credit lines to offer modules cheaply in Europe while protecting their own market.
Almost 60 percent of China's solar exports, worth $35.8 billion, were shipped to the EU last year.
CHINA DEFENDS RARE EARTHS POLICY
In another contentious trade matter concerning China's rare earths, Wen said Beijing did not intend to curb its exports and wants the issue resolved via cooperation rather than by filing complaints.
The World Trade Organization has said it will look into complaints made by Europe, Japan and the United States over China's limits on exports of rare earths.
China has been reining in its exports in recent years, drawing the ire of trade partners who say the curbs are unfair.
China says the export restrictions are needed to help protect the environment. It released a new round of rare earths export quotas this month, raising its 2012 export quota to 30,996 tonnes, despite a crackdown on small producers.
"China is not restricting rare earth exports intentionally," the official Xinhua news agency paraphrased Wen as saying. "The country has and is still offering a large portion of rare earth on the world market."
Beijing has said it will abide by the outcome of an ongoing WTO investigation, but will continue to tighten regulation of the industry.
"I support China and Germany to cooperate on the development and use of rare earth as well as the utilization of high technology in this process. This is much better than filing trade complaints," Wen added.
Despite the 30,184 tonne export quota in 2011, China said it shipped only 18,600 tonnes that year. The squeeze on supply has led, in part, to a fourfold increase in export prices over the past two years.