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The end of cheap China: Low costs eroding

by Dan Harris in 'China Law Blog'

Just read a really excellent Foreign Policy article, entitled, “The end of the Asian Miracle.“ The article is written by Antoine Van Agtmael, “the investment guru who coined the term ‘emerging markets.’” To grossly summarize, the thesis is that the following five pending “game changers” could bode ill for China and bode well for the United States:

  1. The shale gas explosion
  2. The erosion of low-cost advantage
  3. The burden of aging populations
  4. The smartphone revolution
  5. The fighting spirit of smarter competition

I found number two the most interesting because it is the most immediate in the sense that it is already directly relevant to Western manufacturers. According to Van Agtmael,China is no longer the placefor manufacturing,” for the following reasons:

  • A large wage gap remains but even narrowing it will have a big impact. In a dinner speech at the Brookings Institution, Jeff Immelt of GE claimed thatan American factory worker can be competitive at $15 per hour with a $3 worker in China.
  • Unit labor costs in the United States, according to OECD data, have declined from 100 to 88 since 1995, better than anywhere in the developed world except Sweden (80). For comparison, Spain (135) and Italy (120) are much higher. That’s good news for U.S. global competitiveness.
  • According to several manufacturers I met with who have plants in China, China now suffers from a lack of technologically trained manpower. Bangladesh and Vietnam are now lower-cost manufacturing centers than China — even Thailand, the Philippines, and Mexico are becoming wage competitive.
  • Productivity per manufacturing worker is also better in the United States than widely assumed. Hyundai, for example, has car plants in South Korea, the United States, China, and India and “unit per hour” production is actually highest in Alabama.
  • World-class Indian car axle maker Bharat Forge found that Chinese workers in its plants had only 40 percent of the productivity of other workers. The Pune hub (near Mumbai) has become much more competitive because of trained labor and better transportation (a container trip to the port used to take at least two days but now only four hours and the port is more efficient).
  • Of course, China’s enormous competitive advantage is not just in wages but also in its scale for assembly-type production, infrastructure, internal competition, and growing domestic market. These advantages are not going to disappear overnight but are now being questioned.

Many of the above are just various ways of saying the same thing: productivity in China is generally not very good at all, particularly when compared to countries like the United States. I now have a term for the problems that are so often inherent in manufacturing in China: the phantom 20%. I tell clients who are just starting to manufacture in China that in my experience (which really is the experience of my clients), it usually is not worth doing unless the cost savings are projected to be at least 20%. Of course this 20% figure can vary considerably, depending on the risks involved in manufacturing a particular product in China. But the point of all this is that there are a lot of inefficiencies and uncertainties in China of which Western companies new to China often underestimate and those costs can be the difference between cost savings and cost increases.

Definitely not saying you should not manufacture in China, but I am saying that you do need to look at your cost numbers with a jaundiced eye. People have been talking about the end of cheap China for years now (click here for a television interview I gave in China last summer on this topic), but I am definitely feeling as though this is the year that American companies are really starting to account for this and looking elsewhere in Asia for their manufacturing needs.

What are you seeing out there? What China costs were caught you unprepared?


Dan Harris is founder of the Harris & Moure law firm, a boutique international law firm focusing on small and medium sized businesses that operate internationally. China is the fastest growing area for the firm. Dan writes ChinaLawBlog.com as a source of China legal and business information.

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