The answer to this, according to Diamond, has to do with the fact that China dominated its area whereas no European country was able to completely dominate Europe. This led to competition between the various European countries, a competition which led to technological growth.
In China, for example, the government could stop using mechanical devices in the late 15th century. When they did this, it did not hurt them because there was no country that could defeat them by using mechanical devices to get rich or powerful. Contrast this with the situation in Europe. If a country rejected mechanical devices, it would be destroyed (militarily or economically) by its neighbors who would use the devices to get ahead. European countries could not, therefore, afford to turn their backs on technology the way that China could. Similarly, it was in the best interests of the European countries to try to push ahead with new technologies to try to gain advantages. China did not have to do this.
So, China fell behind (Diamond says) because it had no competition. European countries had to compete fiercely to keep up with one another. This led Europe to move ahead of China in technology.