August 1, 2008 – Today’s NY Times has an interesting front-page article on China’s focus on innovation. The crux of the article is that due to Chinese government incentives and disincentives, many low / no-tech product manufacturers are closing or leaving China; while Chinese companies are focusing on technological innovation. That China has such ambitions isn’t a surprise. What disturbs me is the pace at which China hopes to accomplish a significant transition.
The article points out that in April, Credit Suisse forecasts one-third of all export-oriented manufacturers in China would close within three years.
Part of policymakers’ rationale for spurring the shift is that they want to create high-tech, high-skill jobs. Given that manufacturing semiconductors is less labor intensive than manufacturing T-shirts, even if each low-tech factory closing were matched by a high-tech factory opening, it appears that there could be a lot of laborers out of work. If CS’ forecast above is correct, how does encouraging a rapid shift away from low-tech product manufacturing jibe with the authorities’ primary goal of ensuring social stability?
June 24, 208 - Last night, AMR Research, a U.S.-based research firm, released the results of a survey of manufacturers on supply chain risks. The survey concluded that China and the U.S. are the geographies that present the largest risks to supply chains. In fact, the U.S. was rated as riskier than China – 35% of survey respondents cited the U.S. as most risky, while 28% cited China. The factors that hurt the U.S. were rising transportation costs, deteriorating infrastructure, and a weakening economy. The factors hurting China were product quality issues and political unrest.
34% of the survey respondents stated that they planned to “near shore” – or bring closer to home – portions of their supply chains. This could be a significant trend developing – high transportation costs (primarily caused by rising energy prices) could be tilting the scales back in favor of manufacturing closer to destination markets. This bears watching to see whether and to what extent the trend becomes major.
There is a little more bad news in the report. 49% of the companies that plan to source from China cited low labor costs as their primary reason. This is one of the biggest (if not THE biggest) myth of China business. Click here to read article on Top Myths About Doing Business in China.
Low labor costs do not represent the bulk of savings for most foreign manufacturers or buyers. Many goods still have significant mechanical input. Moreover, the productivity of a Chinese manufacturing worker is generally nowhere close to that of a Western worker. Rather, China’s manufacturing advantage is usually in more flexible manufacturing models; lower-priced land, buildings, and utilities; and, the presence of an unparalleled supply chain. The bad news is either that: survey respondents may be disappointed by the lack of labor savings – particularly because with China’s new labor law and inflation, worker costs are increasing rapidly – and thus increase near shoring; or, China is going to have a difficult time climbing the value chain in manufacturing, continuing to produce lower value-added goods that have greater proportions of human input.
The good news (as I see it) is that there are still large efficiency gains to be made by China in moving goods throughout the supply chain. Although China’s logistics sector is improving, it still has a long way to go. Much of the problem is regulatory. Individual provinces are permitted to impose restrictions on transportation companies from other provinces. As a result, goods often change trucks at the borders of provinces, thereby increasing time and costs. The logistics sector remains one of the more difficult for foreigners to enter due to government policies. Therefore, if push comes to shove, there is room to counter price rises in international transportation and labor.