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American Shipper

Unrest causes unease

Unrest causes unease



Labor issues in China have manufacturers weighing options, but not an exodus from coastal China.



By Eric Johnson


      It was a mental image China's government would have rather not have beamed around the world: employees of a renowned electronics manufacturer committing suicide en masse due to what was characterized as poor pay and even poorer working conditions.

      The company in question, Taiwan-based Foxconn, is a maker of components that go into consumer products of nearly every major brand of electronics, like Apple, Dell and HP.

      Foxconn, and its parent, Hon Hai Precision, operate a string of factories throughout China, and reports have suggested as many as 12 employees nationwide have committed or attempted suicide this year.

      Elsewhere, labor unrest has hit China's automotive export industry, with widely publicized employee strikes over working conditions and pay occurring at Honda and Toyota parts manufacturers and assembly plants in June.

      The incidents have shone an unwelcome light on an issue that's been gradually bubbling below China's surface. As the country becomes more affluent, how big a share of the pie do the workers who have turned China into a global exporting powerhouse deserve?

      Evidence suggests they haven't been getting their due. For instance, in 1999, the ratio of Chinese laborers' income to the gross domestic product was 53 percent, the Los Angeles Times reported in June. Today, it's 40 percent, compared with 57 percent in the United States.

      And for foreign companies operating in China, what do the labor problems mean? Are they a watershed moment in China's economic development? Will they push companies to relocate to other sourcing spots in Asia? Or will the labor problems in more mature, expensive coastal regions push more manufacturing activities into interior China?

      There are a lot of questions and few answers.

      For one, it's not clear whether the problems are a short-term issue that can be resolved with minimal fuss, or whether it will compel some companies to move out of China.

      'Anecdotally, you hear companies describing their specific predicament in a tone that implies 'it's time for us to leave China' or 'it's time to explore the China-plus-one strategy,' ' said Shanghai-based Pilar Dieter, director of strategy consulting firm Alaris Consulting. 'But the reality is the issues you face in China could be 10 times more complex in other low-cost country, Asia-based markets.'

      That said, Dieter acknowledged that manufacturing development is increasing in China's interior.

      'You can see it happening right now,' she said. 'Factories, manufacturing hubs and export processing zones are sprouting up in areas outside of the typical coastal regions.'

      But she argues that development is coming in addition to, not at the expense of, existing and established markets in the traditional coastal power regions like the Yangtze and Pearl River deltas and the Bohai Bay. Dieter said some of Alaris' clients who are already ensconced in China are primarily looking to augment their presence by moving inland, rather than picking up sticks and moving altogether.

      'A lot of multinationals are headquartered in the Yangtze region with government relations operations in Beijin,' she said. 'But as they evaluate their expansion strategy, they're looking at inland alternatives for building out new factories or distribution facilities. It's not necessarily a shift from the coast. They are looking to leverage the operational network, corporate relations, and logistics infrastructure they have already established on the coast.'

      She said even global companies hit by the recession in western regions continue to experience growth opportunities in Asia. These firms are going to capitalize on the growth opportunities that persist for them there. And they're injecting these investments in China's interior.'

      But Dieter acknowledged her clients have voiced concern over recent labor unrest. 'A lot of multinationals are making sure that they are doing everything correctly, but also that they aren't being taken advantage of,' she said.

      Companies have taken notice of Foxconn's reported pledge, in response to concerns over working conditions, to raise salaries by as much as 30 percent.

      'Multinationals are accountable to their shareholders, and they are worried about labor issues. But their operational decisions are typically driven by costs,' Dieter said.



Aspiration. The labor problems might be creating an image problem for Beijing, but it's not necessarily a bad thing that workers are aspiring for more, said Sunny Ho, executive director of the Hong Kong Shippers' Council.

      'The central government wants Chinese workers to improve their earnings,' Ho said. 'This is in response to the widening gap between the haves and the have-nots in the mainland. Indeed there are alarms of increasing social unrest and demonstrations are not uncommon nowadays.'

      Ho said the larger issue is the government's goal of migrating the country's manufacturing industry to higher-end products that create higher-paying jobs.

      'The Chinese government doesn't mind some manufacturing activities to move to other places because of the rapid rising trade surplus after China's accession to WTO in late 2001, increasing protectionism, and increasing market share for certain types of consumer products,' Ho said.

      He said the government will be targeting the movement of commodity groups that are overwhelmingly export-oriented, as well as ones that are labor-intensive and provide few value-added opportunities, and those where pollution and resource usage are higher (particularly products that require resources that China lacks).

      Indeed, others have suggested many of the current problems are rooted in the country's economic transition.

      'The strikes have been concentrated in a few areas and companies, but there are broader pent-up problems,' Chang Kai, a labor relations professor at Renmin University in Beijing who advised workers striking at a Honda parts factory, told Reuters in early July. 'Rather than just focus on the strikes, we need to address the broader problems.'

      The Reuters report went on to say that 'labor costs in China have been rising anyway and, partly encouraged by a government that wants to turn farmers and workers into more confident consumers, that is likely to continue.'


'A lot of multinationals are making sure that they are doing everything correctly, but also that they aren't being taken advantage of.'
Pilar Dieter
director,
Alaris Consulting

      A Financial Times editorial in mid-June also crystallized the issue.

      'Wage rises on the scale being sought will have little effect on the world's consumers,' the editorial said. 'Labor costs are only about 5 percent of the retail price of China's main exports ' electronics and other consumer goods. The Chinese pay claims are not going to price an iPad out of anyone's reach.

      'As for China's own competitive position, higher wage inflation may push some low-value business to India or Vietnam ' or poorer parts of China, which have plenty of room to develop basic industries ' but this is unlikely to cause too much disruption. The pay claims so far have in any case been concentrated, as one would expect, in higher-value production.

      'Pressure for higher pay in China, as long as it reflects higher productivity, is a feature, not a bug. China was preceded down the development path by Japan, Singapore, South Korea, Indonesia, Malaysia and Thailand. It will be followed by Vietnam, hopefully Laos, perhaps one day Burma, and, who knows, eventually even North Korea. Chinese workers are not racing to the bottom. They are beginning to rise towards the top.'

      Ho said the atmosphere is 'sensitive' because the labor issue could 'go wild.' However, he pointed to areas where China holds significant advantages over countries with lower labor costs.

      'The labor cost for many industries is not the main cost item,' he said. 'Indeed, China's wage level is much higher than many Southeast Asian countries ' at least double that of Thailand, Vietnam, Indonesia or the Philippines. However, Chinese workers are more disciplined and productive. In addition, the competitive advantages come from the superb supply chain in China. Every type of part, supplier, vendor and logistics service provider is there and complete.'

      But even though labor costs are not a big line item, when profit margins are already tight, any added costs can pinch.

      'Electronics companies are trying to figure out how to deal with the higher costs,' Jenny Lai, a technology analyst at Hong Kong investment bank CLSA, told the New York Times in early July. 'They're already squeezed, so squeezing more costs out of the system won't be easy.'

      Lai said a company like Apple can cope better than most tech companies because it has better profit margins and pricing power to absorb higher production costs. Makers of personal computers, cell phones and other electronics deal with slimmer profit margins, as do makers of goods in other industries, such as toys, textiles and furniture.

      'The challenges are going to be much bigger for them,' Lai said.

      Companies like Foxconn and Honda 'have responded (to the labor unrest) by raising the salaries, and this is a dramatic increase of the salary level,' Yasheng Huang, a professor at MIT Sloan, told the New York Times in a June interview. 'It's not going to make the Chinese export model completely ineffective. Because China has a very efficient supply chain ' a network of suppliers operating in close proximity with each other ' it will be hard to replace these suppliers quickly in other countries. But nevertheless rising labor costs, in due time, may motivate foreign firms to consider alternative sourcing sites.'

      In the interview, Huang also presented an interested social evolutionary development that may answer why the strikes are happening now, some 20 years after the export culture in China began to intensify.

      Huang suggested the earliest migrant workers to flood the factories in southern China came from a rural background, and that factory work, while hard, was often less back-breaking than, say, planting rice. The unrest in recent weeks has been predominantly driven by a second generation of workers who may have never experienced the hardships of agrarian work and find present working conditions and pay unacceptable.

      'They're just between 19 and 24, he said. 'And these are the people who have not spent a lot of time planting rice. They don't have their parent's perspectives, so there's less tolerance of this level of stress and the style of the work.'

      Older generations might have looked at factory jobs as a temporary arrangement ' a two-year stint to make money, then back home ' whereas the younger generation sees these jobs as their careers he added.



Movement Inevitable. While China undoubtedly retains advantages over its rivals, it's tough to deny that production, especially of lower-end goods, has been moving to other nations, or at least to less-developed parts of China.

      'The Chinese factory labor unrest story is an interesting one, though not entirely new, and is added on top of the other factors (that have) manufacturers considering where sourcing should be in the future,' said Paul Bingham, managing director of world trade and transportation markets for IHS Global Insight. 'Some of the coastal China factories are likely no longer competitive in the way they used to be as costs of living, combined with the central government's push for export manufacturing to grow inland, are pressuring them.

      'We believe that both Chinese provinces to the west and other low-cost countries ' for example, Vietnam ' are already benefiting from the sourcing refinement strategies of importers and manufacturers around the world.'

      Indeed, there's so much play between the factors driving different sourcing locations in China that it's tough to pinpoint whether things like better mobility and better pay will make coastal China more or less attractive. For instance, as factories rise in interior China, migrant workers who moved from the interior to the coast for work are finding job opportunities closer to their homes. That's resulting in more employee turnover in coastal regions, which have already been experiencing worker shortages for years (the 2009 recession notwithstanding).

      High-speed rail connections are bringing cities closer together ' again, it's too early to tell if that would enable workers from inland China to more easily access jobs on the coast, or whether a better rail network would induce companies to move their operations inland.

      In either case, Dieter said companies can't be seduced merely by the promise of lower wages in interior China.

      'We've focused on logistics costs and the arbitrage between lower labor costs and higher logistics costs,' she said. 'Indeed, the further I move away from my export port, the more expensive it will be to move product along that greater distance. Firms have to ask themselves what gains will be achieved in addition to reduced labor costs. Perhaps better access to supply or market penetration at new points of demand. And do those benefits financially outweigh the increased logistics costs?'

      Dieter said multinational companies ' many with long histories in China's more developed regions ' are being lured into interior regions by enticements from provincial governments. These include traditional business bait like tax breaks or access to low- or zero-rate liquidity, but governments are also rumored to be offering inducements like housing compensation for factory employees.



Structural Change? But the question remains: Will the labor unrest in 2010 represent a point where China's development as a sourcing nation has structurally changed? Dieter isn't so sure.

      'China's development has been incremental and I see it continuing that way,' she said. 'This is another stepping-stone on the rapidly evolving path that it's been going down. It might be taking a sharper turn rather than a gradual lane merge in this instance, but the combination of so many macroeconomic effects that are in play in this nation ' like currency appreciation, trade relations, domestic GDP growth targets and so on ' play a bigger part in the development of the Chinese economy than the single variable of China's 'Go West' migration alone.'

      She said the labor issues this year will likely be viewed as a significant, but not monumental moment in China's development.

      'It's another event along the path that will ultimately bring China to where it's going in 15 years' time,' she said. 'Like the Asian financial crisis, or the bird flu, they were noteworthy but didn't have a dramatic effect on the China we see today.'

      Bingham, however, said the unrest might be significant.

      'The recent labor unrest, because it has been very widely reported in the press ' unlike some past incidents ' may be a blip in terms of labor stability, but it adds to the perception problem coastal China has in sustaining its previous first-choice default location for China sourcing decisions,' he said.

      But Ho said that China's domestic market may have the biggest pull yet on manufacturers,

      'The future depends on how far things go' with labor unrest, Ho said. 'But China is developing its domestic market, which is growing fast at the moment. Who would be able to tap this market other than the producers who are already here?'

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