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Rising wages in China are a positive sign of an economy in transition

September 29, 2011

It’s not until you see the growth in retail, marvel at the rate and scope of infrastructure investment, tour the factories and meet with the people that you begin to understand the momentum and excitement that is going on in China.

The first time I visited China (1995) bicycles clogged the streets of Shanghai. I visited small appliance manufacturers where the most basic manufacturing processes were taking place.

I’ve been back several times since then and the progress is astounding. Shanghai holds its own with any modern city in the world and the streets are now full of cars.

The phenomenal growth is the result of China’s ability to execute on a number of factors well. Its fundamental basis of success through has been through the ability of the government to focus its efforts on specific areas of the economy (infrastructure and exports) combined with a willingness for its people to support shared sacrifice for a better tomorrow.

This is demonstrated by China’s low levels of consumption (estimated at 36% today by the World Bank) and high level of investment (46%).

One of the mis-perceptions I think people have of China is that the average manufacturing production worker’s wages are low but so are their living costs so they have a good quality of life.

This couldn’t be farther from the truth. China’s manufacturing boom is coming from high levels of government investment in specific segment of industry, a weak Yuan, and a prolonged sacrifice in the standard of living from millions of hard-working people.

But painful changes in several macro-economic conditions and a populace that recognizes not everyone is sharing in the sacrifice equally is forcing the government to re-calibrate its strategy:

The prolonged global slowdown has exposed a gap in China’s strategy: It can’t fix weak demand with low labor rates and a controlled currency. 

A real estate bubble is making housing very expensive, especially in the larger cities.

Unrelenting inflation in food prices.

Increasing political pressure from the U.S. to increase valuation of the Yuan.

More manufacturing jobs than people in coastal regions. It’s a rough estimate, but a common number is that there are 1.2 jobs for every person. This is driving up wages as people jump from job to job.

Rather than footnote every point. I’ll share one of my sources for Chinese economic statistics. The rest is fairly well-known.

The government recognizes decisive action must take place. In its most recent 5 year plan, it is trying to combat these issues. China wants to increase wages and benefits to level out income disparity between its wealthiest and poorest groups.

It is also trying to reduce the cost of consumption by slowly increasing the valuation of the Yuan. This will provide increased purchasing power to its people, reducing basic food costs as well as making it more attractive to purchase goods.

It hopes to not only begin to improve the quality of life for lower-income groups, but to also shed its dependency on exports and internal investments by growing the consumption component of its GDP.

The plan is good but expect the ride to be bumpy.

First, for those companies that make a living based on the advantage of having the lowest labor costs in the world. This is a challenge. FoxConn who employs 1 million people recently announced that it would begin replacing people with robots. This was reported in an aptly titled piece by The Economist:  Robots don’t complain or demand higher wages or kill themselves”

During my recent trip, I spoke to several labor intensive manufacturers who were moving out of China to the next lowest cost country such as Vietnam and Bangladesh. Others are looking to find ways to increase productivity.

That kind of response from business is a problem for China because the only thing worse than underpaying people is creating an economic situation that forces them out of a job. China is trying to transition its economy to industries that have higher economic value-add so that it can increase the standard of living without relying on low-cost labor.

The second issue for China is that people save too much. Yes, it’s great discipline. But I assure you, the Chinese have an affinity for the finer things in life just like the rest of us. The high savings rate is because there is no social safety net in terms of healthcare or retirement. The government has recognized this as well and is mulling over how to provide benefits for 1.3 Billion people so that they spend a little more now.

This all provides a little relief to the American worker. A weakening dollar, domestic wages that have stagnated and its main manufacturing rival experiencing large wage increases result in more U.S jobs. To read about the experience of one American manufacturer that moved to China, read this:

High wages causing job drain. A government forced to consider large sums of Treasure spent on healthcare and retirement benefits. Corporations making profit based decisions that cause pain among the populace. That all sounds so familiar.

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