January 30, 2014 12:00 am JST

Sticking around

YUKIO NOGUCHI

Wages are rising rapidly in China, and it is resulting in changes for the "factory to the world."

     According to the World Economic Trends spring 2012 report published by Japan's Cabinet Office, China's nominal wage growth rate between 2007 and 2008 was high at an average of about 18%. It declined to nearly 10% with the global financial crisis, but returned to close to 15% in 2011. Wage levels in China's interior are lower than in coastal areas, but the interior is making up for this by having wage rates grow faster than their coastal counterparts.

     The Survey of Japanese-Affiliated Companies in Asia and Oceania (fiscal 2013 survey; published Dec. 12, 2013) conducted by the Japan External Trade Organization (Jetro) states that Japanese affiliated manufacturers in China had across-the-board pay increases of 10% on the year in fiscal 2013, which lasts through March 2014. 

     The argument is that the high wage growth is the result of the Chinese economy reaching the Lewisian turning point. This means that excess rural labor has bottomed out due to industrialization. Since the summer of 2009, it has been difficult to recruit seasonal workers from rural areas in China, indicating a labor shortage. But this is not exactly a result of a Lewisian turning point. Industrialization has advanced, yes, but the situation in China is also a result of its one-child policy, which is resulting in an aging population that is becoming a serious problem for the country.

     To determine whether surplus labor in China has been completely exhausted, the Cabinet Office carried out an analysis in its World Economic Trends autumn 2013 report.

     China's real wage growth rate in urban areas was below the economic growth rate until the 1990s -- real gross domestic product was about 10% while real wage growth rate was about 5%. However, in the early 2000s, real wages rose by about 15%, exceeding economic growth. Since around 2005, real wages have grown by about 10%, about the same level as real GDP. Therefore, it can be interpreted that from around 2000, the supply of labor began its shift from an excess to a shortage.

     "The challenge in making more use of excess labor in rural areas is to devise measures to enhance the flow of labor such as by implementing family registration system reform," the Cabinet Office report states. 

Rising tide, everywhere

Media reports say that many multinational companies with factories in China are considering shifts in production to outside of China as a way to fight rising labor costs. China has effectively lost its advantage in terms of labor costs compared with other countries in Asia. India, Vietnam and Myanmar are the three most favored locations. The strategy of branching out from China to reduce risks is called "China plus one." Continued wage growth in China is likely to accelerate this trend.

      Low wages were never expected to last forever in China, but the effects on business are not simple to pin down. There are several things that need to be considered.

     First, wage growth rates are also high in other Asian countries. According to the Jetro survey, across-the-board pay increase rates among manufacturers in Indonesia, Vietnam, India, Bangladesh and Pakistan are higher than that of China. The increase reached nearly 30% in Indonesia. Though it should also be noted that the growth rates in Thailand, Malaysia, and the Philippines are lower than that in China.

     Second, though rising, manufacturing wages in China are still much lower than those in developed countries and newly industrializing economies.

     According to Jetro, the basic wage for a factory worker in China is about one-tenth that of a worker in Australia and one-fifth that of a worker in South Korea. Even if the wage growth rate in China is high, the gap in wages with developed countries and newly industrializing economies will remain for the time being.

     Third, wages are only one factor for companies when deciding where to build factories. The quality of workers and social infrastructure play major roles as well.

     In particular, companies have reported difficulties in finding diligent workers in India and Myanmar. When one reads books and reports about workers in China, one comes across descriptions as follows. In Africa, people take a nap after working for four hours. In contrast, people in China go to work before 8 a.m. and work until midnight or even later into the morning hours. And still, these reports say, workers seek out even more overtime work. Young people looking for work ask for more overtime as well. If there is, they work it. If not, they go asking at another factory. If there are too many day offs, workers leave for factories with more work hours.

     Not all workers in China are this driven, but the reputation among global businesses is set -- China works hard.

Making it worth it

The supply chain is also crucial. The Jan. 21, 2012 edition of The New York Times reported the production activity of Apple in China in great detail. According to the article, Apple decided to assemble iPads at a Foxconn Technology Group plant in China because it has the necessary supply chain for parts and materials.

     It is also important that global companies can secure, in addition to unskilled workers, a large number of midlevel engineers.

     Therefore, even if wages in China are rising, it does not necessarily mean that companies will move their factories in China to other countries. There are cases in which companies are trying to work out the problem in China such as by relocating factories from coastal areas to the interior or by improving labor productivity with more machinery.

     The assembly cost of an iPad is thought to account for less than 3% of the total cost. This means that if Foxconn, which handles the assembly work, increases wages by 20% and passes all of this on to Apple's end, it would push up the manufacturing cost by only 0.6%. For Apple, it is likely more important that it maintains a reliable production system, even if it gets slightly more expensive to do so. Given all this, China's status as the factory to the world looks likely to stay intact for some time.

Yukio Noguchi is an adviser to the Institute of Financial Studies, Waseda University.