In a response to the much blogged and tweeted Economist article “Is the era of cheap Chinese labour over?“, Economist guest contributor Tyler Cowen answers the question intelligently in his response “The important thing is Chinese productivity is rising“.
Anyway, the money quote comes at the end of the article:
In the question stated above, “cheap” is a misleading word. The more productive China becomes, the cheaper its labour will be, at least relative to what you get.
There was some balanced perspective on the China labor situation from a July 1 Reuters article.
Just wanted to share some of the main points:
“China is still an attractive option for most companies looking for an effective manufacturing base, although many companies have been pursuing a China plus one or a China plus two strategy in recent years to diversify their manufacturing operations,” said Geoffrey Crothall of the China Labour Bulletin in Hong Kong, which advocates for improved workers’ rights.
“I really don’t think we’re going to see companies suddenly leaving China en masse.”
The SCMP shows that chasing cheap labor may be too expensive
A pair of recent articles in the South China Morning Post offer some more perspective on the much-predicted exodus of manufacturing from the Pearl River Delta and why, for the most part, it just ain’t gonna happen. (a paid subscription is required to access SCMP articles, but a 14-day free trial is available).
One article, Minimum wage rise doesn’t worry all China plants, is mainly about how minimum wage hikes don’t affect those who aren’t complying with the minimum wage law. It also also discusses the how two manufacturing groups well established in the PRD, garments and toys, are likely to react to rising labor costs.
First, according to the article, garment makers (40% labor content) gotta hit the highway…
Willy Lin Sun-mo, vice-chairman of the Hong Kong Textile Council, said: ‘Now, setting up a factory 500km from Hong Kong is okay, but several years ago, most Hong Kong factories were in a 100km radius from Hong Kong. The only way is to move further away. There is nothing much we can do. Rules are rules, so Hong Kong manufacturers have to pay.’
Hong Kong garment factories had difficulty paying ever increasing wages, as labour accounted for 40 per cent of the cost of a garment, he said. ‘If all garment factories have to raise salaries by double digits overnight, how can they compete?’
but toy makers (20% labor content) ain’t going nowhere…
A Hong Kong toy executive said he knew of a handful of toy factories that moved from Dongguan to more remote cities in Guangdong this year, namely Heyuan, Shaoguan and Qingyuan.
Toys are among Hong Kong’s biggest export industries and most toy factories are in Guangdong.
The impact of the minimum wage increase had not been too severe on Hong Kong’s toy industry, said the executive. Labour accounted for 20 per cent of the cost of making a toy, he estimated.
The toy industry was informed of the wage rise months ago, so they factored it into the cost of their products, said the executive. ‘We will raise the prices of our toys by about 5 per cent. Customers have to accept the higher prices because all toy factories in China are affected.’ [Note from DJL: I wonder how much of that 5% increase could be offset by gaining efficiencies in the manufacturing processes.]
The second article, Factories likely to stay in Pearl River Delta, shows why moving factories out of the PRD just to chase cheaper labor probably doesn’t make economic sense. Among the economists cited are Paul Krugman.
US economics Nobel Prize winner Paul Krugman, in his book Geography and Trade, says it is often uneconomical to move manufacturing from costly but established manufacturing coastal areas to lower-cost distant locations.
It is more profitable for manufacturers to keep factories in places like the Pearl River Delta than to relocate to cheaper but more remote places. The reason: convenient and cheap transport infrastructure, a large pool of migrant workers and a network of small to medium-sized manufacturers. Thus, the cost of setting up a new factory in Xinjiang is higher than keeping one in southern China.
It goes on to to quote Willy Lin Sun-mo, as did the previous article. This time, however, it quotes him to illustrate that even for labor intensive industries that need to move, moving out to chase cheap labor may incur hidden or at least less obvious costs:
Knitwear maker Willy Lin Sun-mo, chairman of the Textile Council of Hong Kong said: “A sophisticated supply chain takes decades to develop, just like the Pearl River Delta, which took some 25 years to come to what it is today.”
Lin set up a knitwear plant in Jiangxi province about 18 months ago to take advantage of the labour market but said he had managed to employ only half the 3,000 staff needed. “Labour shortage is not just a problem in Guangdong,” he said. “Insufficient labourers mean higher wages, a big threat to manufacturers.”
Danny Lau Tat-pong, chairman of the Hong Kong Small and Medium Enterprises Association, said relocation made sense theoretically but doubted that many firms would make such a costly move…
Yes, labor costs have increased, and it will mean readjustments for many factories. I’m still guessing, though, that relatively few will move from the PRD’s mature manufacturing infrastructure to “cheaper” places with questionable transportation facilities and without the extensive network of integrated parts, materials and service providers to which they are accustomed.
By the way, a related SinoFactory posts from the past may be of interest: Coming to China, but NOT for cheap labor!
Once again, the sky in the PRD seems to be falling. The breathless reporting about labor issues in China once again lays bare the western media’s propensity for myopia and mis-focus when it comes to reporting on China. But this time I can’t just blame the media… lots of people who actually manage facilities here are bitching and moaning about rising labor costs and worker empowerment, describing it as an an existential threat, which for most of us, it is not.
OK, for some at the very low-end of manufacturing in the Pearl River Delta, maybe it will force a change in strategy or location, but not for all. Actually, not for most. Sure, if labor accounts for a large portion of your overall manufacturing costs and if there are places (like Vietnam) where manufacturing the same products are done much cheaper, then you are probably in the wrong business and/or the wrong industrial environment. But for most in this situation, the writing has been on the wall for a long time, and the recent labor cost increases are no shock. In fact, if you run one of of those facilities, you are probably already operating outside of the Pearl River Delta, or are planning to move.
But for those of us who have not packed up and gone home (or elsewhere) the Pearl River Delta’s shifting away from ultra-cheap labor– a shift away from the unsustainable, which has been going on for some years now– may be less damaging than conventional wisdom holds, and may actually be, in some ways, beneficial for our bottom lines.
Some reality checks:
Reality check #1: Rising labor costs may not be that significant to your business. You need to asks what percentage of your manufacturing costs are direct labor. If it’s 10%, and your direct labor costs increase 20%, your overall cost increase is only 2%. If you were to pass this on, in it’s entirety, to your customer, he would suffer a price increase of UNDER 2% (since your margin is not included in the calculation). Seems elementary, but then again, I’ve been talking to lots of people who seem surprised at this type of analysis.
Reality check #2: Whatever the cost increase, you can probably offset this increase, in whole or in part, by reducing waste and thereby adding value to your products and/or processes.
Reality check #3: If your labor costs are rising, your competitors’ labor costs are rising at the same time. Assuming that China is still the only game in town (for most of us it still is– see Reality check #4) market forces should help to ensure that rising labor costs do not squeeze profits unduly in the long run. The sky is not falling on you, it’s lowering on everyone.
Reality check #4: Yes, Vietnam (the only serious competition to China) has lower labor costs than China and for some, manufacturing in Vietnam will be more competitive than in China. But not for everyone . There are other costs incurred in Vietnam that offset low labor rates, such as lower productivity and the costs associated with a relative lack of infrastructure and maturity in the supply chain.
Reality check #5: Again, with regards to Vietnam. What will likely happen when so many manufacturers from Taiwan, Korea, Japan and China make the move to Vietnam and start “consuming” the finite labor supply? Won’t market forces likely increase the labor rates there?
And the following leaps of faith:
Leap of faith #1: Better compensated workers will be more stable, and more willing to contribute to the company’s bottom line. These workers will be more likely to see a future in your facility, and will be more likely to learn how to create more value for the company in order to advance themselves.
Leap of faith #2: A better compensated workforce may become more integrated into the local community, having finally shed itself of “migrant” status (a process which has already started). It is likely that more of these workers will be renting their own off-site apartments, eating their own food, and enjoying entertainment of their own choosing. If this happens manufacturers could spend less on “lifestyle” and concentrate more on improving worker compensation, working environment, and efficient operations.
Leap of faith #3: As workers become more a part of their community, the industrial districts in which they work may see an improvement in their overall environments. People are less likely to litter where they live, and are more likely to ensure that local governments ensure security in the areas where they live and have put down roots, especially those whose children live there also. That will improve the working conditions for everyone.
I’m not saying that China will stay the manufacturing king-of-the-hill in perpetuity. Of course everything changes, in ways both predictable and surprising. I’m just saying that the there is more— a lot more– to competitive manufacturing than “cheap labor”.
For some more background and commentary, please check out this post on China Law Blog.
For a contrary view (one example of many) check this out.
Consider the source, but according to an article in today’s Global Times (a fairly new English-language paper published in the PRC) western manufacturers are increasing their outsourcing activities in China:
Foreign countries have started outsourcing to China again after a brief slowdown last year.
The first nine months of the year saw 3,287 new enterprises providing services that have been outsourced to China launched, offering 585,000 new jobs. International service contracts won by Chinese enterprises in the first nine months are valued at $12.7 billion, up 212 percent from the same period last year, according to Ministry of Commerce (MOFCOM) figures released Tuesday.
As of the end of September, there were 8,060 enterprises with 1.4 million employees operating in the outsourcing industry.
The rest of the article cites the existing and potential threats to China’s outsourcing business, namely India with it’s large English speaking population, but others as well.
For those of us operating the the Pearl River Delta, where most of this outsourcing is being performed, it might mean that the PRD is still an attractive place to set up export-oriented manufacturing. At the very least, since we assume that the GT writes what Beijing wants written, it means that the authorities are still interested in making China an attractive destination for western export manufacturing.
According to a CNN report, NAFTA, proximity to the U.S. market, and lower costs (largely the results of inverse currency fluctuations of the peso and yuan) have tipped the scales in favor of Mexico (and against China) as the new manufacturing destination of choice for U.S.- bound products.
There is talk that the Beijing and and Guangdong governments are starting to play hard-to-get with foreign investors, downplaying their importance in upgrading China’s manufacturing, R&D and local market offerings.
However one report in The Japan Times indicates that Dongguan, at least, is still welcoming foreign investment.
A vice mayor of the Chinese industrial city of Dongguan urged Japanese manufacturers Friday to expand on its turf and exploit its domestic market to help the city recover from the global economic crisis and fall in exports.
“We are looking for more Japanese manufacturers to build R&D (research and development) centers in our city and create domestic brands, securing distribution routes,” Jiang Ling, vice mayor of Dongguan in Guangzhou Province, said at a news conference in a hotel in Minato Ward, Tokyo.
In many ways, what Jiang is saying is in lockstep with what the central and Guangdong governments seem to be promoting– focus on domestic consumption, R&D and high-tech manufacturing.
But what makes Jiang’s comments interesting are that he’s actively courting foreign investment, stating clearly that it essential for the area’s recovery. Moreover, he’s speaking on behalf of Dongguan’s townships and villages, and these are the organizations which will be interpreting and implementing whatever policies flow down from Beijing and Guangzhou.
While this doesn’t mean that Dongguan is a good place to set up labor-intensive manufacturing, it does indicate that Dongguan, at least, is still Foreign Investment friendly.
This China Daily article quotes Guangdong governor Huang HuaHua and Guangdong Party Chief, Wang Yang making it very clear that the pre-downturn initiatives aimed at moving the province’s manufacturing base up the value chain will continue.
With the outline of the reform plan for the Pearl River Delta formally approved by the central government at the end of last year, the delta scheme has now been adopted as part of the nation’s overall development strategy. This will see the nine cities in southern China’s Guangdong province transformed into advanced manufacturing and modern service centers.
The article doesn’t talk about what they plan to do about the low-value exporting factories currently operating here, but Huang was quoted by People Daily in April saying:
…the province will step up efforts to achieve a change in development pattern by evolving self-innovative industry and upgrading industrial structure, while boosting the transfer of labor-intensive industries in the delta region to less developed regions and transferring labor forces from the agricultural to the manufacturing sector as well as from the rural area to the delta region. [italics mine]
For me it raises the following questions:
A post on the Financial Times “Dragonbeat” blog helps to rectify the “migrant workers gone wild” media fest of the past few months. These guys are getting it right. Anyone interested in this topic should read the FT article. (h/t to Danwei)
My comment on the post:
[There] was never an apparent trend toward violence on the part of unemployed workers in Southern China. There were a few protests, and very little violence, by workers who were abandoned without severance pay. As these few anecdotes echoed between blog and newspaper and back again, it seemed as if the trend toward worker violence was growing. Actually, it was the same few recycled anecdotes over and over again.
Those of us who live and work here in Southern China (I run a factory in Dongguan) could see first hand how distorted and repetitive the media story was.
Yes there are many unemployed. No, they are not threatening anyone and never were. Not news to anyone living here.
The real news here is how so many of the media outlets, new and old alike, have lazily copied and amplified one another’s inaccuracies.
Newspapers complain about free content on the internet pushing them out of business. Maybe it’s just poor quality ruining their business.
I’ve argued in the past that the labor unrest in Dongguan and Shenzhen was overplayed and over-emphasised by the western media. Here’s another article, “Violent unrest rocks China as crisis hits” which contradicts my view.
It just doesn’t scare me as it might. As with the articles of the past, it highlights a few anecdotes (albeit fresh ones) about unpaid workers protesting, official malfeasance in controlling the press, an extortion scheme perpetrated by an unemployed worker.
I guess if I didn’t live here and have the perspective that I do, this article might send shivers up my spine.
Maybe not.
