HIGHER WAGES, LABOR SHORTAGES AND THE END OF CHEAP LABOR IN CHINA
Demands for higher wages and labor shortages have robbed China competitive advantages in the global economy by raising production costs and the prices of a wide range of consumer goods that China exports. According to Helen Qiao, chief economist for Goldman Sachs in Hong Kong, real wages for manufacturing workers in China have grown nearly 12 percent per year. Bill Powell wrote in Time, “That's the result of an economy that's been growing by double digits annually for two decades, fueled domestically by a frenzied infrastructure and housing build-out — one that, for now anyway, continues apace — combined with what was for a time an almost unquenchable thirst for Chinese exports in the developed world. Add to that the fact that in the five largest manufacturing provinces, the Chinese government — worried about an ever widening gap between rich and poor — has raised the minimum wage 14 percent to 21 percent in the past year. To Harley Seyedin, president of the American Chamber of Commerce in South China, the conclusion is inescapable: "The era of cheap labor in China is over."[Source: Bill Powell, Time, June 26, 2011]
"Mind you," Powell wrote, "that doesn't mean that labor costs in China, even in the most expensive parts of the country like Guangdong province, are higher than in most other places, particularly in the developed world. They aren't. The average manufacturing wage in China is still only about $3.10 an hour, (compared with $22.30 in the U.S.), though in the eastern part of the country, it's up to 50 percent more than that. The hourly cost advantage, while still significant, is shrinking rapidly. For the vast majority of companies, whether small, medium-size or huge multinationals, the decision about where to produce a product is always driven by multiple factors, of which the cost of labor is but one. "For lots of companies over the past two decades, the disparity was such that labor costs often drove the decision," says economist Daniel Rosen, the China director and principal of the Rhodium Group, a a New York City — based consulting firm. "Now, increasingly, that's no longer the case."
The factory model has run into some serious limitations, says Huang Yasheng, a professor of management at M.I.T. and the author of “Capitalism With Chinese Characteristics”. Now, they have to find a new model and move to a more innovative economy, Professor Huang said. The problem, though, is that those kinds of companies don’t create a lot of opportunities for young, migrant workers.
China’s Days as World’s Factory Finished?
Young Liu, the chairman of Hon Hai Precision Industry Co. (Foxconn), the main supplier for Apple and many other foreign tech companies, said it’s gradually adding more capacity outside of China, the main base of production for iPhones, Dell computers and Nintendo Switches. The proportion outside the country in August 2020 was 30 percent, up from 25 percent in June, 2019. One reason for this is the shift of manufacturing to Southeast Asia and other regions to avoid escalating tariffs on Chinese-made goods headed to U.S. markets, Liu said: “No matter if it’s India, Southeast Asia or the Americas, there will be a manufacturing ecosystem in each,” Liu said, adding that while China will still play a key role in Foxconn’s manufacturing empire, the country’s “days as the world’s factory are done.” [Source: Bloomberg, August 12, 2020]
Bloomberg reported: “Intensifying trade tensions between Washington and Beijing have pushed device manufacturers to diversify their production bases away from China, and Liu last year said that Apple’s most prized product, the iPhone, can be made outside China if needed.
“Foxconn has been shaking up its traditionally China-focused operations. Hon Hai is among Apple assembly partners that plan to expand operations in India, potentially helping the iPhone maker grow its presence in the country of 1.3 billion and shift some of the U.S. company’s supply chain outside of China as ties between Washington and Beijing fray.
Closed Factories in China
Many of the companies that closed down had problems meeting their payroll before they closed and shut down owing workers months of back pay that workers never got. Many of the owners who skipped town in Guangdong were from Taiwan and Hong Kong; many of those in Shandong were from South Korea.
The situation has been exacerbated by a glut of factories built with foreign investment and approved by local officials anxious to generate new jobs.
The toy industry was hard hit by the economic crisis in 2008 and 2009 According to Xinhua, 3,631 toy exporters — 52.7 percent of the industry’s enterprises — went out of business in 2008 because of higher production costs, wage increases for workers and the rising value of the yuan. Smart Union Group, which has three large factories, closed down, leaving 8,700 workers without jobs. After workers protested in the streets the government promised to pay them $4 million in back wages and help them find new jobs.
Shoes and textiles have also suffered. About 500 of the 3,000 shoe factories in the Guangdong county of Huidong shut down in 2007 and early 2008 and one sixth of the 44,200 textile firms surveyed lost money and two thirds barely broke even.
In Wenzhou 500 of the 600 factories that produced lighter closed up shop in 2007 and 2008. This occurred as result of too many factories and competition and the high cost of copper and zinc used to make the lighters.
Chinese Cheap Labor Industries Move Outside of China
Companies are aiming to stay ahead of the trend by moving inland to cheaper areas in China or to other developing countries. Some have even returned back home to the West. Wham-0, for example, decided to bring half of its Frisbee production and some production of other products back to the United States. Some high-end firms, such as biotech and drug companies, are moving out of China because of the cost and better incentives offered elsewhere. In some sectors there isn’t that much point doing business in China anymore. The cost of printing a 334-page, 23-centimeter-square hardcover book in China, for example, is around 45 cents, excluding shipping. The cost of producing the same book in the United States is about 65 cents.
Some cheap labor factories industries are moving to Vietnam, India or Bangladesh, where labor is even cheaper than in China. But many are staying put in the clusters of industries along China’s coast because of easy access to parts and materials. China’s improving infrastructure enables goods to be moved around the country and is particularly efficient shipping them overseas. “The effect can be seen on labor intensive light industries such as in textiles, handbag and shoe makers as well as electronics,” William Lo, an analyst at Ample Capital, told Reuters. “These manufacturers may choose some cheaper cost countries such as Vietnam and India.”
Many makers of toys, trinkets and cheap shoes have already moved to places like Vietnam, Cambodia and Indonesia. Bill Powell wrote in Time, “The changing economics of Made in China will benefit both the rich and poor world. Countries like Cambodia, Laos, India and Vietnam are picking up some of the cheapest labor manufacturing left by the Chinese. The owner of Guangzhou Fortunique, which supplies some of the U.S.'s biggest health care companies, told Time he has been considering moving to Cambodia. "We've seen our wage costs in China go up nearly 50 percent in the last two years alone," he says. "It's harder to keep workers on now, and it's more expensive to attract new ones. It's gotten to the point where I'm actively looking for alternatives. I think I'll be out of here entirely in a couple of years." [Source: Bill Powell, Time, June 26, 2011]
Toymaking, of course, along with footwear and textiles, was among the first industries to head to China as the cheapest source of reliable production. It's a labor-intensive, relatively low-tech industry — one that most economists assumed would be gone forever once it left. But a look at how the economics have changed over the past decade sheds some light on why companies like Wham-O are deciding to return. According to the BCG study, in 2000, China's average wage rate was 36 percent of the U.S.'s, adjusted for productivity. By the end of 2010, that gap had shrunk to 48 percent, and BCG estimates that it will be 69 percent in 2015. "So while the discussion in the short term favors China," says Hal Sirkin, senior partner at BCG and the author of the recent study, "the spread is getting down to a smaller and smaller number. Increasingly what you're seeing [in corporate boardrooms] is a discussion not necessarily about closing production in China but about 'Where I will locate my next plant?'"
A survey by restructuring firm Alix Partners found that labor in China is more expensive than labor in Mexico, India, Vietnam, Russia and Romania, with some of these countries also having the advantage of being near markets in North America and Europe. Some Chinese companies have begun outsourcing outside of China. Taking advantages of cheap labor, investment incentives and unrestricted exports, the Chinese-owned Nile Textile Company set up a factory along the Suez Canal in Port said, Egypt to produce ready-made garments and has been able to outcompete many rivals back home in China. As of 2009, about 950 Chinese companies had set up shop in Egyptian free trade zones. The Nile Textile Company employs 600 workers, 20 percent of them Chinese and the rest Egyptians. Workers earn about $130 to $150 a month. Access to cheap raw materials (namely Middle Eastern oil and Egyptian cotton) and nearness to good markets help it reduce costs. Most of its goods have a “made in Egypt” label and are exported to the United States.
Higher-end industries and goods requiring advanced production techniques, swift turnaround times and sophisticated supply chains, however, are likely to remain in China for now, Lo told Reuters. Rapid urbanization and economic development in China's interior has helped drive up wages and reduced the incentives for workers to uproot and seek work in coastal factory hubs. [Source: James Pomfret, Reuters, January 31, 2011]
Positive Effects of the End of Cheap Labor
Bill Powell wrote in Time, “Perhaps the most important effect of rising wages in China is that they will put more money in people's pockets, which is something that's in the interest of everyone — most emphatically Beijing's major trading partners, who urgently need China to increase its consumption in order to reduce drastic imbalances in global trade. As much as higher wages may cut into the bottom line of exporters like Charles Hubbs and thousands of Chinese-owned companies across a wide range of industries, the process is the inevitable result of China's becoming a wealthier country with a stronger currency. "It's exactly what needs to happen," says Rosen. [Source: Bill Powell, Time, June 26, 2011]
Many multinationals, meanwhile, have long since begun to focus their China manufacturing operations on the vast Chinese market. That HP factory in Chongqing produces its laptops only for the home market. In a survey eight years ago, the American Chamber of Commerce in South China found that 75 percent of its members were focused mainly on export markets. By last year, that number had flipped: 75 percent of 1,800 respondents now say their manufacturing operations in China are focused on serving the Chinese market. That's mainly because China's workers are steadily getting richer. For them, and pretty much everyone else concerned, that's the rarest of commodities in a troubled global economy: good news.
Some Chinese officials — aware that Beijing's Communist Party leaders including Premier Wen Jiabao advocate raising rural wages to reduce income inequality and speed China's transformation into a consumption driven-economy — seem willing to let low-margin industries wither away. “A moderate increase in the minimum wage will bolster the momentum of industrial transformation and upgrading,” Ou Zhenzhi, head of Guangdong's labor and social security bureau, was quoted as saying by the Southern Metropolis Daily, “A lot of sweatshop factories will go out of business and more value-added enterprises will eventually take their place,” said Crothall at the China labor Bulletin. “It (the Pearl River Delta) has got to up its game if it wants to maintain its position as China's premier employer.” [Source: James Pomfret, Reuters, January 31, 2011]
Retooling for Higher Value Products in China
In recent years many factories have started training their work forces, investing in sophisticated machinery and retooling their factories to make higher-value products. Some companies feel they have no choice but to follow this trend as the rising costs of labor and materials and low selling prices have made it hard to make money in cheap-labor industries. Ground zero for this trend is in Shenzhen and Dongguan, former cheap-labor factory centers.
Describing a new $70 million apparel factory in Dongguan Michael Shuman wrote in Time, “Nowhere to be found are the stereotypes of Chinese industry: the buzzing hive of menial laborers, medieval working conditions and outmoded equipment. The factory’s pristine white floors and brightly-lit aisles look more like a modern office suite than a clothing factory. In one corner, automated cutting machines slice out fabric for men’s pants, a process that wastes less material and requires only about half the staff needed to cut patterns by hand. In another section of the plant, a computerized system of ceiling tracks ferries the pants on hangers between sewing stations instead of having workers pass the pieces along. At the end of the assembly line, the high-quality garments emerge sporting brand names like L.L. Bean and Dockers.”
BYD, a Shenzhen-based company that became the world’s second largest battery maker in less than a decade, is even more ambitious. It has built a 1.6-million-square-foot assembly plant and has hired Italian-trained car designers to make plug-in hybrid cars. Hasee is a computer maker that was founded in 2002 and is already producing 100,000 laptops a month. By pouring it resources into research, focusing on innovative computers such as laptops that sell for less than $370 it hopes to be the world’s largest computer maker by 2020.
Chinese companies are expanding into software, biotechnology, medical devices and supercomputers. They are developing a passenger jet, several models of automobiles and opening up sophisticated chip plants as Japan and South Korea did before. Andy Rothman, a longtime China analyst, told the New York Times, “When a country is in its early stages of development, as China was 20 years ago, having an export processing center is good for growth. But there’s a point when that’s no longer appropriate. Now China’s saying, “We don’t want to be the world’s sweatshop for junk any more.”
Factors pushing China’s drive to produce more sophisticated products include the rising value of the yuan, the high cost of labor, labor shortages, new labor laws that mandate overtime and severance pay, the movement of workers to factories in the interior, high fuel and material costs, higher shipping costs, criticism over shoddy products and safety, efforts to clean up the environment — all of which make it hard to make money off cheap products and thus pushes companies to modernize and become more productive and efficient.
In its favor China possesses an array of ambitious entrepreneurs, fiercely competitive domestic markets and hundreds of thousands of highly trained engineers. The government is driving the process forward by tightening pollution regulations and encouraging companies to invest in expensive new machinery, often providing the money from state-owned banks to finance such upgrades. Beijing is discouraging the establishment of cheap-labor factories in southern China by ending tax breaks there.
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Image Sources: 1) Wikicommons 3, 5, 7) China Labor Watch; 2, 6, 8) Nolls China website http://www.paulnoll.com/China/index.html ; 4) University of Chicago
Text Sources: New York Times, Washington Post, Los Angeles Times, Times of London, National Geographic, The New Yorker, Time, Newsweek, Reuters, AP, Lonely Planet Guides, Compton’s Encyclopedia and various books and other publications.
Last updated April 2012