The Emergence and the Implications of China as the World's Factory - Example

The emergence and the implications of China as the worlds factory Introduction The term “world’s factory” for China was coined in a white paper from the Japanese Ministry of International Trade and Industry (Williamson 2011), and going by the statistics, the statement is not unjustified either. China is one the few countries that have been able to maintain economic growth every year in the past decade despite economic downturn in early 2000s and the financial crisis of 2007-2008. While the domestic demand has fuelled this growth, a large part of this continued growth has been because of the continued growth of manufacturing exports from China. Over the last two decades, China has become the biggest producer of manufacturing goods in the world with a global manufacturing share of 19.8% (MercoPress 2011). Meaning that 1 in 5 manufactured products today are made in China - clearly, China has emerged as the world’s factory. The early years of China’s emergence as a manufacturing hub According to some reports, around 1850, China had a 30% share of global manufacturing but lost its edge by the end of the 19th century and its share of global manufacturing stood at 6%. By 1930, it was as low as 3%. Then, in 1980s, China opened its economy and began welcoming foreign investments. The world’s factory saw its first emergence as a potential export hub when manufacturers from Hong Kong began to move their apparel and toy manufacturing units to South China in order to take advantage of the low wages there. In the 1990s, the scope expanded to several other merchandise categories as China improved its infrastructure and quality of labour while keeping the wages low. Due to lower assembly costs of manufactured goods, electronics companies from Korea, apparel manufacturers from Hong Kong, and computer manufacturers from Taiwan shifted most of their manufacturing operations to China. The key manufacturing activity was to import the manufacturing components, process them, and export back. In 2000, these processed components formed 55% of the Chinese exports and 41% of the total imports of China were actually for reprocessing them for exports. From 1993 to 2002, China’s manufacturing exports jumped from $60 billion to $320 billion with office and telecom equipments accounting for $52 billion. In terms of Foreign Direct Investment (FDI), in 1990 China received 18% of all Asian FDI, and by 1999, China had a lion share of 61% of all Asian FDI. By the 2001-2002, most of the biggest brands in the goods industries invested heavily in China to secure their manufacturing. For example, by 2001, the investment of Japanese electronics major Toshiba in China totalled more than $1 billion – in 37 factories in China. Similarly, by 2002, Motorola, a leading mobile handset manufacturer, had invested $3.4 billion in China as their global production base and had purchased goods worth $4 billion from 17 suppliers in China. Philips, the electronics major, had invested $2.4 billion in 17 joint ventures and 12 wholly owned subsidiaries manufacturing goods for them. Nestle, with nearly $1 billion of investment had 21 plants in China. A 2002 survey of Korean manufacturers showed that 44% of them had moved some/large part of their production to China. For example, Samsung had invested $2.6 billion in 26 plants in China where it employed 41,000 people. The recent past has seen China truly emerge as the world’s factory The early growth witnessed by China as a global manufacturing hub was only a glimpse of what lay ahead. As more and more companies realised the importance of shifting their manufacturing base to China, the growth of China as a “world’s factory” saw exponential gains in the first decade of the 21st century. While the domestic demand has certainly increased in China, the exports of manufactured goods have also seen exponential growth. Figure 1 below shows the increase in China’s exports of manufactured goods in real dollars from 1992 to 2009. It is clear that the growth in the recent years until 2008 has far outpaced the growth seen in the initial years. Figure 1: China’s exports of manufactured goods by category HT denotes High-technology industries, MHT denotes Medium-high-technology industries, MLT denotes Medium-low-technology industries, LT denotes Low-technology industries Source: Xianhai, Gajou 2011 From 2000 to 2008, Chinese exports of manufactured goods have increased 7-fold. Naturally, the global consumption/demand of these goods has not increased at the same pace. Thus, it means that China’s share of manufacturing many of these goods must have increased several folds and that several categories of these manufactured goods are now mostly produced exclusively in China and exported to the rest of the world. This is confirmed by the data shown in Table 1 below which shows that for some categories of goods, China is the largest producer of these goods. Table 1: China’s share (in 2008) of total global production for select goods Goods Chinas share of total global production (%) Energy Saving Lamps 90% Sports Shoes 80% Small Home Appliances 80% Air Conditioners 70% Toys 70% Glasses 70% Gifts 60% Personal Computers 50% Containers 50% Shoes 50% Cell Phones 48% Electrical Products 45% Electric Components 39% Furniture 28% LCD TVs 19% Source: Scott 2011 Reasons for China’s emergence as world’s factory There are several reasons that have enabled China’s emergence as the world’s factory. Some of the main reasons are described below: 1) Labour force: One of main reasons why China gained prominence as an attractive manufacturing destination was the abundant availability of labour. The workers for factories are available for significantly lower wages compared to workers’ wages in the developed economies. According to certain estimates, the average hourly wages in China are $1.32 compared to $32 in the US (McMillan 2011). Next, these workers are highly disciplined and hardworking (HKTDC 2011).Further, China has a large pool of highly educated and highly skilled workers – China has more students in tertiary education than US (Brown, Lauder & Ashton 2007). This is also evident from Figure 1 where it is interesting to note that the relative share of high technology goods (pharmaceuticals, office and computing industry, radio, TV and communication equipments, medical and precision instruments, and aircraft industry goods) in total manufacturing exports has increased over the years meaning that China has evolved from a mere “assembly plant” to a more technology and research integrated factory with highly skilled labour. 2) Infrastructure: No country can expect to become a large manufacturing hub if it does not have adequate infrastructure to support the movement of goods and people. In this regard, China had rapidly developed its infrastructure to ensure that manufacturers can easily move exports/imports within the country with intensive infrastructure development in roads, rails, and air transport. Each year, China spends 10% of its GDP on developing its infrastructure (PWC & FICCI 2009). 3) Government programs for FDI encouragement: China introduced incentive programs for FDI as far back as in 1986 (Ali & Guo 2005). The Chinese government is estimated to have provided subsidies worth $7.1 billion to the steel industry alone. The result of this is that from a net importer until a few years ago, today, China is a net exporter of steel on the global market. Further, the government provides favourable tax policies, grants, and other subsidies specially aimed at boosting exports (PWC & FICCI 2009). 4) Low capital cost for local investment: China has kept borrowing cost for industries historically low enabling industries to borrow large sums easily. Further, most of this lending is done by state owned bank and this ensures a regular flow of capital to the industry thereby making investments in manufacturing sector easy. 5) Special Economic Zones (SEZ) for setting up industries: China has 54 SEZs across the country where it encourages companies to set up manufacturing facilities. In these regions, China ensures flexible labour laws, and allows several other benefits to encourage exports. 6) Strong domestic demand: While exports have largely contributed to China’s emergence as manufacturing hub, the domestic demand has also been strong thereby encouraging companies to keep their manufacturing operations in the country. For example, the number of domestic sales of several home appliances is nearly equal to the number of units exported. Table 2 below shows the domestic sales and export volumes for some consumer durables. Table 2: China’s domestic sales and export volumes   Number of units in millions (in 2007) Manufactured goods Domestic sales volumes Export volumes Air Conditioner 32,1 36,7 Refrigerators 26,8 16,3 Washing machines 21,2 13,3 Televisions 40,6 47,9 Mobiles 168 483 Source: PWC & FICCI 2009 7) Currency peg: Until 2005, China pegged its currency to the US dollar thereby maintaining its exports at artificially cheap rates. Even when it relented in 2005, it only partially floated its currency on the market. Therefore, China is still able to maintained cheap exports thereby making manufacturing in China attractive. Implications of China’s emergence as world’s factory China’s emergence as the world’s factory has not only impacted China itself but also rest of the world. Below are some of the key implications of this emergence: Implications for Chinese economy A. China as a future economic superpower: Today, China is now the second largest economy in the world, behind USA thanks to the Chinese manufacturing sector which keeps the Chinese economy growing even during global slowdowns. Estimates suggest that China, on the back of this growth, is expected to become the largest economy in the world between 2020 and 2030 (McCurry & Kollewe 2011). B. Employment and regional economic development: Another important implication has been that China has been able to generate millions of jobs due to setting up of manufacturing facilities. However, this has also meant that most of the development has remained confined to certain areas only (Eastern coast of China) and there are several areas in mainland China where economic development has not reached yet. C. Trade surplus for China and burgeoning foreign reserves: Due to strong manufacturing output, China has been able to consistently generate a trade surplus with several other economies. For example, in 2006, the US had a trade deficit of $232.5 billion with China (Ravenhill, 2010). Also, owing to the strong manufacturing sector, China consistently attracts $50 billion in FDI each year. This has meant increasing foreign reserves for China, which were recorded at $3.2 trillion as of June 2011 (Chinability 2011). Implications for businesses D. Changes in global supply chain structure: Another important implication has been for the businesses. In terms of global manufacturing product procurement and sales, the global supply chains have gotten remodelled in order to get the products from China to local markets in time. This has meant overhauling of entire supply chains for certain businesses that rely heavily on China manufactured products. E. Another key impact this has had is that global businesses are now moving to more service based focus and not worrying much about production. Due to outsourcing of manufacturing to China, these firms are now focussing on oversight of production in China, and much more on their branding, marketing, and communication strategies. Essentially, the developed economies are focussing on high end jobs rather than blue collar jobs. F. Lower cost for consumers: One huge impact China had made globally by being the world’s factory is that it has enabled low priced products for consumers across the world. Without China’s contribution to manufacturing, the product prices today could have been much higher than what they are today. This also has an indirect impact on keeping the global demand going. In fact, it has also helped several large businesses maintain their profits and even evolve their business models especially for discount retailers like Wal-Mart. G. Bargaining power for technology transfer: being the global manufacturing hub armed with a strong domestic market gives China a huge bargaining power. Companies wanting to enter the manufacturing sector in china must do so through joint ventures and allow transfer of technology. Therefore, as we see in the auto sector, most companies are in JV with their competitors and they must transfer their core technologies too in an economy where Intellectual Property Rights (IPR) are virtually inexistent. In the long term, there could be another significant implication of this - emergence of strong Chinese multinationals with advanced tech and a natural manufacturing advantage. Other Global Implications H. Commodity prices: Being the world’s factory makes China a large consumer of several commodities like fuel, steel and other raw materials. This gives China a significant power in influencing the prices for these commodities as their prices become highly dependent on demand from China. I. Political implications: Another important factor of China being a major manufacturing hub is its influence on the power balance in the Asian region and globally. J. Environment efforts: As manufacturing sector is a major contributor to greenhouse gases and other pollutants, being the world’s factory makes China a key player in global efforts for sustainable development. An uncertain Future Several reports suggest that China may be losing its advantage as a global manufacturing hub due to the recent wage increases for after several incidents of strikes and suicides by workers (Barboza 2010). These reports suggest that China may lose its status as world’s factory due to increasing cost of manufacturing here (McMillan 2011). However, even after wage increases, the hourly wages for workers in China remains considerably below that of workers in developed economies. The competition for China to maintain its status as world’s factory, then, is not from developed economies but more from other developing economies like Philippines, Vietnam, Indonesia, and Thailand where workers’ wages are even below those in China (Bayron 2011). However, these countries seldom provide the favourable conditions as for manufacturers in China in terms of both government incentives and availability of suppliers and other resources. It is clear that as wages rise in China, it may no longer remain as attractive a destination for manufacturing from cost point of view and the only way for China to remain competitive in the manufacturing sector is to build on and strengthen its other offerings like infrastructure, technology advancement and skilled labour. References Ali, S. and Guo, W., 2005. Determinants of FDI in China. Journal of Global Business and Technology, Volume 1, Number 2. Barboza, D., 2010. 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South Atlantic News Agency. [Online]. [Accessed: November 2, 2011.] http://en.mercopress.com/2011/03/15/china-became-world-s-top-manufacturing-nation-ending-110-year-us-leadership. Oded, S., April 22, 2005. The Dawn of the Chinese Century. Financial Times. PWC & FICCI, 2009. Assessment of the Comparative Advantage of Various Consumer Goods Produced in India Vis-à-Vis Their Chinese Counterparts. Delhi : PricewaterhouseCoopers. Ravenhill, J., 2010. Global Political Economy. s.l. : OUP Oxford, pp. 362. Scott, J., 2011. Who Will Take Over China’s Role as the World’s Factory Floor? Bellingham : Saturna Capital Corporation. Williamson Global. China - the world’s factory, 2011. [Online]. [Accessed: November 2, 2011.] http://www.williamsonglobal.com/page/china_the_worlds_factory.html. Xianhai, H. and Gajou, Y., 2011. What is used for World Factory to Produce Exports. Hangzhou City : Zhejiang University, China. http://www.hktdc.com/info/web/mi/article.htm?LANGUAGE=en&ARTICLE_ID=1X079TMZ Read More