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American Shipper

China, plus one: From textiles to microchips

   In China, two important metrics continue to rise: workers’ wages and the value of goods it exports to the rest of the world.
   These figures put context behind the rise of the “China, plus one” strategy, where multinational companies continue to use the country’s manufacturing prowess but reduce their dependence on its workers by adding a lower-cost Asian economy into the mix.
   During the past decade, wages for the average Chinese worker have more than tripled while export volume has grown somewhere in the neighborhood of 350 percent, according to data gathered on TradingEconomics.com. While its export growth has many causes (practically all of them rooted in the growth of globalization), the wage growth is a comparatively straightforward testament to the increasing skill of China’s labor force and the maturation of its manufacturing infrastructure.
   These two metrics are on a collision course, with wages set to prevail as policymakers in China continue to steer the country from an export-oriented economy to a consumption-oriented one.
   This will do a little more than just crack a window for other Asian countries to capitalize on. It will throw the door wide open. 
   Today, China is no longer the world’s undisputed epicenter for low-cost manufacturing. Wages have risen, and will continue to rise, because of three distinct factors:

  • Demographic trends—China’s workers are getting older and becoming more educated. The average age of the country’s migrant workers, which drive China’s manufacturing sector, increased to 38.3 years in 2014 from 35.5 years five years earlier, according to a survey from China’s National Bureau of Statistics. The bureau also found that the percentage of the migrant workforce which has high school degrees or greater, or jobs in the higher-paying service sector, has edged up.
  • Government policy—China’s family-planning policy, a controversial measure enacted in 1980 to control its population, is partially responsible for the changing demographics that are affecting its workforce today. But recent policy measures do, too. Local governments routinely increase their minimum wage, and in 2013 China’s central bank ended its historic restrictions on interest rates. China’s policymakers want to go from a manufacturing-oriented economy to a consumer-driven one, and this necessitates higher wages than multinational enterprises have traditionally enjoyed.
  • Competition—Countries in Southeast Asia have been proactive in luring business away from China through tax incentives and other improvements. Large corporations have a vested interest in improving infrastructure there, and they are stepping up. A recent UN report observed multinationals “have become a major force in enhancing regional connectivity in the sub-region, through cross-border investment in infrastructure.”

   Meanwhile, labor protests in China have risen drastically over the past three years. While it isn’t exactly a matter of a country with a population of 1.35 billion people having a labor shortage, China’s workers are clearly becoming comfortable at demanding better pay and benefits. 
   On top of the rising labor costs and increasing worker protests, the costs of real estate and regulatory compliance across China have also been on an upward trajectory. 
   Foxconn’s recent move toward using industrial robots to transport materials and assemble components on its production lines illustrates China’s manufacturing labor is becoming more expensive—and, as a result, companies are using productivity-enhancing technology. 
   These trends, put together, show why reducing dependence on China for the manufacture of goods is a strategic shift many multinational firms have already made, or will soon. 2013 was a watershed year for “China, plus one” strategies, as foreign direct investment inflows to the five largest economies in Southeast Asia finally eclipsed that of China. 
   Examples of this trend are plenty.
   Intel made headlines in 2006 by committing $1 billion in capital to a facility in Ho Chi Minh City, Vietnam. When that facility was ready to open in 2010, the company simultaneously opened a larger one in China’s Liaoning province. The China factory makes processors, while the Vietnam plant assembles components. 
   Both Samsung and LG are reportedly shifting their production from Thailand to Vietnam because of the latter’s proximity to China-based suppliers. These moves reflect an increasing appetite for a pan-Asian supply chain that transcends China. 
   Southeast Asian nations offer large populations, strong GDPs, heavy export volumes, and—perhaps most importantly—industry diversification. The countries that comprise the region have varied vertical market specialties, from cars (Thailand) and business processes (Philippines) to textiles (Vietnam) and 3D-printing (Singapore). 
   Intel’s strategy illustrates a typical “China-plus-one” strategy: manufacturing is not moved from China; slivers of it are headed towards neighboring countries—or even further inland. 
   Chongqing and Chengdu stand out as inland cities where labor is still in robust supply at low rates, thanks to a mix of government incentives, workers’ desire to remain closer to home, and policy that has very gradually relaxed the household registration system which historically made it difficult for China’s workers to migrate into cities. 

Source: China Labor Bulletin.

   The result of all of this is that companies must go inland as opposed to waiting for the labor to come to them. Danone, Carrefour, HSBC, Honda, and Ford are global companies that have operations in Chongqing; and Nokia, Sony, Toyota, Motorola, Microsoft, Lafarge, Volkswagen, DHL, Texas Instruments, and Astellas are in Chengdu, according to the Journal of China. Ericsson has manufacturing operations in both regions.
   “China, plus one,” and its cousin, “China, but further inland,” describe the consequences of the country’s strategic shift towards higher-end manufacturing in order to transform its broader economy. There are important policy considerations to make or break the strategy. 
   For instance, a recent series of CEO interviews conducted by the World Economic Forum found executives believe China has “an urgent need to redefine the role of state-owned enterprises” to successfully make this transition. Among the policy solutions they proposed was applying market principles to the transfer pricing of goods and services along entire supply chains, as well as deregulation more broadly.
   The “China, plus one” trend is in full swing, and its underlying drivers are secular and will accelerate in the coming decades. Companies that reorient their strategies accordingly will be poised to exploit this phenomenon. 
   Ruda heads Thomson Reuters’ global trade management business, ONESOURCE Global Trade. He can be reached by email.

This column was published in the August 2015 issue of American Shipper.

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