By Alexandra Harney
Far Eastern Economic Review (Hong Kong)
Chinese factories, whose ultra-low prices have been blamed for millions of job losses and countless plant closures around the world, are falling on hard times. A confluence of unfavorable factors—rising energy, material and payroll costs, an appreciating currency, higher tax rates and tougher environmental and labor regulations—are driving thousands of factories in southern China’s Guangdong province out of business. Some plants are reopening in cheaper areas in inland China; others are packing up and moving to countries like Vietnam and Cambodia. Still others are closing their doors for good.
The Federation of Hong Kong Industries estimates that 10% of the 60,000-70,000 factories Hong Kong-owned factories in Guangdong will close this year. In 2007, nearly 1,000 shoe factories left the region. In any other country, an exodus on this scale would be a national political issue. There would be angry pickets by laid-off employees and complaints from labor unions about how the government’s trade policies were crippling manufacturing.
But in China, the popular response seems to have been relatively muted. “It won’t be too big a problem for the workers,” says Liu Kaiming, executive director of the Institute for Contemporary Observation, a labor advocacy and consultancy group in the southern city of Shenzhen.
How could this be? The short answer is that China’s economy is growing at such a staggering pace that it can absorb the loss of even thousands of factories. While it is difficult to determine precisely how many factories have left Guangdong, those that have closed appear to be small by Chinese standards, employing hundreds, rather than thousands of workers each. It is likely they were not the region’s most efficient or profitable plants.
The longer and more surprising answer is that there are plenty of people who actually wanted these factories to leave anyway. How Guangdong came to be weary of the same factories that Western workers still fear says much about China today. The country’s export manufacturing sector is in the midst of a historic transition as the government reins in preferential policies and costs spiral higher. While this shift is likely to cause some disruption, it is mostly good for China, if not the rest of the world.
In the late 1970s, as China began to reform its economy after decades of turmoil and relative isolation, Guangdong was among the first to see the opportunity. Beijing gave the province more freedom to manage its economy and to attract foreign investment. Chinese leaders also put three out of four of the first “special economic zones” in Guangdong. They hoped these zones, which offered preferential tax rates and exemptions on import duties, would serve as a kind of Venus fly trap for foreign technology and investment.
Their plans worked. Hong Kong investors, facing rising labor costs in the then-British colony, poured millions of dollars into the region, setting up factories and workshops near the border. Tens of millions of workers flooded out of the countryside and into Guangdong. By the mid-1990s, Guangdong was a booming light industrial center, producing a growing share of the world’s consumer goods. Its success also persuaded Taiwanese businessmen like Terry Gou to invest. Today, Mr. Gou’s Shenzhen factory, owned by Hon Hai Precision Industry, employs some 270,000 people and counts Apple, Hewlett-Packard and Nintendo among its customers.
The export-processing industry made Guangdong one of China’s wealthiest regions. But it also brought serious social and environmental problems. With so many cities vying for foreign investment, local officials often looked the other way when factories violated labor and environmental laws to keep investors happy. The tens of millions of migrant workers, living for years at a time in factory-owned dormitories, tested the public infrastructure and the management skills of their employers.
Labor protests and strikes are now common in Guangdong. A yawning income gap and growing pool of disgruntled migrant workers have lifted crime rates. Factories in Guangdong have been struggling to find staff for five years, driving up wages at double-digit rates. Turnover is so high that some factories have to replace their entire workforce every year. The province’s air and water are now filled with the noxious side-effects of its industrial success. And a generation of factory owners from Hong Kong and Taiwan is reaching an age and a standard of wealth that allows for weekday golf games. Many of their children see their future in finance, not factories.
It’s hardly surprising, then, that Guangdong’s leaders, like many senior leaders in Beijing, want to propel the economy up the value chain, away from polluting, resource-draining, labor-intensive light industry and towards innovative, high-technology and service businesses. Over the past two years, Beijing has rolled out a series of policies that effectively end the last three decades of preferential policies toward many export manufacturers. It has slashed export tax rebates, the lifeline of many otherwise unprofitable factories. And it has allowed the yuan to float higher. The Chinese currency rose almost 7% against the dollar in 2007.
And while China still has a long way to go to improve law enforcement, local governments have started monitoring factories’ environmental impact more closely and creating new regulations to better protect workers’ rights. On Jan. 1, Beijing introduced a new contract-labor law which tightened requirements for employers and gave more power to the state-backed union. Foreign investors in southern China say some local governments are now refusing to license highly polluting industries such as leather tanning. Soaring raw material prices have added to the pressure on factories. Even in labor-intensive industries, raw materials can account for 70% of production costs. For the first time in years, manufacturers of many consumer goods are raising their prices to foreign buyers, who are in turn raising retail prices.
None of this means that China will cease to be the workshop of the world. Its advantages—modern infrastructure, a large pool of relatively cheap labor compared to developed countries, and an ecosystem of raw material and parts suppliers—cannot be quickly replicated elsewhere. And the lure of producing for China’s 1.3 billion customers in their own market remains.
The rising costs in Guangdong do mean that export manufacturing will be dispersed more evenly around the country. Kenneth Chan, whose company, Gates 2 China, manages design, supply chains and logistics for multinational companies, says he relies increasingly on factories in the northern city of Tianjin as well as the eastern cities of Ningbo, Wenzhou and Nanjing. Goods from factories in those areas are cheaper than Guangdong, Mr. Chan says, but only by 5% to 10%. As these areas develop, wages have started to rise. In Wuhan, in Hubei province, the urban minimum wage has nearly tripled since 1995.
Nor are workers in inland China pushovers. One of the pillars of Guangdong’s success in export manufacturing has been its reliance on migrants. Because their hukou or household registration was in their rural hometowns, these farmer-workers had no access to state-subsidized health care, education or housing.
Living far from their families, migrants have been willing to log long hours on the assembly line for low pay. Their 18-hour days have been one of China’s key advantages in producing goods so cheaply. But factories that employ local laborers in inland China are less likely to work those hours. Their employees live at home, rather than in dormitories. They have children and parents to care for. Working conditions tend to be better in inland areas, says Mr. Chan, in part because both factory managers and employees are local. It’s harder to crack the whip on somebody you grew up with.
At the same time, China’s younger generation of workers is increasingly willing to stand up for itself. Born after Beijing introduced its one-child policy in 1979, China’s Generation Y comes from smaller families and has grown up in a more prosperous economy. Factory managers and labor advocates say that workers born after 1980, in particular, tend to be more selective about where they work, more assertive and more interested in developing a career instead of just earning money as their parents did.
These workers, while undeniably harder to manage, augur well for working conditions in China’s manufacturing sector because they are more willing to voice their opinions. Employees who care more about their workplace might be tomorrow’s whistleblowers, raising the alarm about product-safety problems or labor and environmental violations.
The current transition should be good for China’s factories in other ways. Many sectors still struggle with excess capacity, which holds prices—and margins—down for everyone. “In the household appliances industry, where I have 30 years’ experience, I still can’t count all of the brands in this sector,” says Yu Yaochang, deputy vice president of Galanz, the world’s largest microwave manufacturer. “But there are certainly hundreds, if not thousands.” Knocking out the least profitable tier of manufacturers should help those left standing to survive. It might even help improve the quality of Chinese exports.
In short, the transition in China’s manufacturing sector will make it seem less exceptional. The challenges facing China’s manufacturing sector and industrialized areas will begin to more closely resemble those of more developed countries: How can we attract the best talent? How do we motivate these people to perform? How do we move from being a producer of commoditized consumer products to design and development, technology and services? What is our competitive advantage?
Guangdong province is already asking these questions. “We have been trying to put quality over quantity in economic development,” the China Daily, the government’s official mouthpiece, quoted Guangdong governor Huang Huahua as saying in February 2007. But innovation is hard to achieve by diktat. Guangdong could, however, do more to protect intellectual-property rights to persuade more high-tech firms to invest there. And to keep the factories it has, it will need to improve its image with migrant workers, who have been moving to other provinces in pursuit of better working conditions.
As Guangdong and other parts of China invest more in higher value-added industries, they will need more engineers, skilled technicians and managers. But China’s labor shortage in this area is more severe than among semi-skilled factory hands in Guangdong. For China’s economy is developing more quickly than its universities. In a 2005 report, McKinsey & Co. argued that though China had 1.6 million young engineers, their education’s emphasis on theory rather than practice left only 160,000 who were suitable to work at a multinational company.
So far, China’s size has been an asset to its progress. But it must balance the need to move into more sophisticated industries with the political and social imperative of keeping the masses gainfully employed.
Ms. Harney is the author of The China Price: The True Cost of Chinese Competitive Advantage (Penguin Press, March 2008).
The Federation of Hong Kong Industries estimates that 10% of the 60,000-70,000 factories Hong Kong-owned factories in Guangdong will close this year. In 2007, nearly 1,000 shoe factories left the region. In any other country, an exodus on this scale would be a national political issue. There would be angry pickets by laid-off employees and complaints from labor unions about how the government’s trade policies were crippling manufacturing.
But in China, the popular response seems to have been relatively muted. “It won’t be too big a problem for the workers,” says Liu Kaiming, executive director of the Institute for Contemporary Observation, a labor advocacy and consultancy group in the southern city of Shenzhen.
How could this be? The short answer is that China’s economy is growing at such a staggering pace that it can absorb the loss of even thousands of factories. While it is difficult to determine precisely how many factories have left Guangdong, those that have closed appear to be small by Chinese standards, employing hundreds, rather than thousands of workers each. It is likely they were not the region’s most efficient or profitable plants.
The longer and more surprising answer is that there are plenty of people who actually wanted these factories to leave anyway. How Guangdong came to be weary of the same factories that Western workers still fear says much about China today. The country’s export manufacturing sector is in the midst of a historic transition as the government reins in preferential policies and costs spiral higher. While this shift is likely to cause some disruption, it is mostly good for China, if not the rest of the world.
In the late 1970s, as China began to reform its economy after decades of turmoil and relative isolation, Guangdong was among the first to see the opportunity. Beijing gave the province more freedom to manage its economy and to attract foreign investment. Chinese leaders also put three out of four of the first “special economic zones” in Guangdong. They hoped these zones, which offered preferential tax rates and exemptions on import duties, would serve as a kind of Venus fly trap for foreign technology and investment.
Their plans worked. Hong Kong investors, facing rising labor costs in the then-British colony, poured millions of dollars into the region, setting up factories and workshops near the border. Tens of millions of workers flooded out of the countryside and into Guangdong. By the mid-1990s, Guangdong was a booming light industrial center, producing a growing share of the world’s consumer goods. Its success also persuaded Taiwanese businessmen like Terry Gou to invest. Today, Mr. Gou’s Shenzhen factory, owned by Hon Hai Precision Industry, employs some 270,000 people and counts Apple, Hewlett-Packard and Nintendo among its customers.
The export-processing industry made Guangdong one of China’s wealthiest regions. But it also brought serious social and environmental problems. With so many cities vying for foreign investment, local officials often looked the other way when factories violated labor and environmental laws to keep investors happy. The tens of millions of migrant workers, living for years at a time in factory-owned dormitories, tested the public infrastructure and the management skills of their employers.
Labor protests and strikes are now common in Guangdong. A yawning income gap and growing pool of disgruntled migrant workers have lifted crime rates. Factories in Guangdong have been struggling to find staff for five years, driving up wages at double-digit rates. Turnover is so high that some factories have to replace their entire workforce every year. The province’s air and water are now filled with the noxious side-effects of its industrial success. And a generation of factory owners from Hong Kong and Taiwan is reaching an age and a standard of wealth that allows for weekday golf games. Many of their children see their future in finance, not factories.
It’s hardly surprising, then, that Guangdong’s leaders, like many senior leaders in Beijing, want to propel the economy up the value chain, away from polluting, resource-draining, labor-intensive light industry and towards innovative, high-technology and service businesses. Over the past two years, Beijing has rolled out a series of policies that effectively end the last three decades of preferential policies toward many export manufacturers. It has slashed export tax rebates, the lifeline of many otherwise unprofitable factories. And it has allowed the yuan to float higher. The Chinese currency rose almost 7% against the dollar in 2007.
And while China still has a long way to go to improve law enforcement, local governments have started monitoring factories’ environmental impact more closely and creating new regulations to better protect workers’ rights. On Jan. 1, Beijing introduced a new contract-labor law which tightened requirements for employers and gave more power to the state-backed union. Foreign investors in southern China say some local governments are now refusing to license highly polluting industries such as leather tanning. Soaring raw material prices have added to the pressure on factories. Even in labor-intensive industries, raw materials can account for 70% of production costs. For the first time in years, manufacturers of many consumer goods are raising their prices to foreign buyers, who are in turn raising retail prices.
None of this means that China will cease to be the workshop of the world. Its advantages—modern infrastructure, a large pool of relatively cheap labor compared to developed countries, and an ecosystem of raw material and parts suppliers—cannot be quickly replicated elsewhere. And the lure of producing for China’s 1.3 billion customers in their own market remains.
The rising costs in Guangdong do mean that export manufacturing will be dispersed more evenly around the country. Kenneth Chan, whose company, Gates 2 China, manages design, supply chains and logistics for multinational companies, says he relies increasingly on factories in the northern city of Tianjin as well as the eastern cities of Ningbo, Wenzhou and Nanjing. Goods from factories in those areas are cheaper than Guangdong, Mr. Chan says, but only by 5% to 10%. As these areas develop, wages have started to rise. In Wuhan, in Hubei province, the urban minimum wage has nearly tripled since 1995.
Nor are workers in inland China pushovers. One of the pillars of Guangdong’s success in export manufacturing has been its reliance on migrants. Because their hukou or household registration was in their rural hometowns, these farmer-workers had no access to state-subsidized health care, education or housing.
Living far from their families, migrants have been willing to log long hours on the assembly line for low pay. Their 18-hour days have been one of China’s key advantages in producing goods so cheaply. But factories that employ local laborers in inland China are less likely to work those hours. Their employees live at home, rather than in dormitories. They have children and parents to care for. Working conditions tend to be better in inland areas, says Mr. Chan, in part because both factory managers and employees are local. It’s harder to crack the whip on somebody you grew up with.
At the same time, China’s younger generation of workers is increasingly willing to stand up for itself. Born after Beijing introduced its one-child policy in 1979, China’s Generation Y comes from smaller families and has grown up in a more prosperous economy. Factory managers and labor advocates say that workers born after 1980, in particular, tend to be more selective about where they work, more assertive and more interested in developing a career instead of just earning money as their parents did.
These workers, while undeniably harder to manage, augur well for working conditions in China’s manufacturing sector because they are more willing to voice their opinions. Employees who care more about their workplace might be tomorrow’s whistleblowers, raising the alarm about product-safety problems or labor and environmental violations.
The current transition should be good for China’s factories in other ways. Many sectors still struggle with excess capacity, which holds prices—and margins—down for everyone. “In the household appliances industry, where I have 30 years’ experience, I still can’t count all of the brands in this sector,” says Yu Yaochang, deputy vice president of Galanz, the world’s largest microwave manufacturer. “But there are certainly hundreds, if not thousands.” Knocking out the least profitable tier of manufacturers should help those left standing to survive. It might even help improve the quality of Chinese exports.
In short, the transition in China’s manufacturing sector will make it seem less exceptional. The challenges facing China’s manufacturing sector and industrialized areas will begin to more closely resemble those of more developed countries: How can we attract the best talent? How do we motivate these people to perform? How do we move from being a producer of commoditized consumer products to design and development, technology and services? What is our competitive advantage?
Guangdong province is already asking these questions. “We have been trying to put quality over quantity in economic development,” the China Daily, the government’s official mouthpiece, quoted Guangdong governor Huang Huahua as saying in February 2007. But innovation is hard to achieve by diktat. Guangdong could, however, do more to protect intellectual-property rights to persuade more high-tech firms to invest there. And to keep the factories it has, it will need to improve its image with migrant workers, who have been moving to other provinces in pursuit of better working conditions.
As Guangdong and other parts of China invest more in higher value-added industries, they will need more engineers, skilled technicians and managers. But China’s labor shortage in this area is more severe than among semi-skilled factory hands in Guangdong. For China’s economy is developing more quickly than its universities. In a 2005 report, McKinsey & Co. argued that though China had 1.6 million young engineers, their education’s emphasis on theory rather than practice left only 160,000 who were suitable to work at a multinational company.
So far, China’s size has been an asset to its progress. But it must balance the need to move into more sophisticated industries with the political and social imperative of keeping the masses gainfully employed.
Ms. Harney is the author of The China Price: The True Cost of Chinese Competitive Advantage (Penguin Press, March 2008).
