"Having completed a thorough and comprehensive review, (Deutz and Volvo) have now agreed that the planned production company should be wound up given the weak prevailing market situation in China," Deutz said in a statement.
The two partners had not yet invested substantial sums in the joint venture, which had been expected to be set up at the end of this year, the statement added.
Nevertheless, Deutz insisted that it remained "convinced of the Chinese market's long-term potential."
It will therefore continue to use "Chinese production facilities in order to meet local demand," it said.
Since 2007, Deutz has been operating a joint venture with First Automotive Works (FAW) Group, one of China's leading vehicle manufacturers.
The venture, Deutz (Dalian) Engine Co., makes three- to eight-litre diesel engines, primarily for the Chinese market.
Earlier this month, Sweden's Volvo, the world's second-largest maker of trucks, reported a sharp fall in annual profits and announced 1,000 redundancies in its construction equipment business following falling demand from China.
The group's net profits plunged 41 percent in 2014 to 2.1 billion kronor ($254 million, 223 million euros) compared to the previous year.
In November, Volvo indicated that it was setting aside 400 million euros to cover a potential antitrust fine from the European Union in the event that it was found guilty in an EU investigation into price rigging with competitors.
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