End of Made-in-China? Not so fast!

Frantic media analyses that the Made-in-China story will be derailed by recent double-digit wage hikes and labour unrest in some factories are greatly exaggerated and low on economic wisdom, say analysts.

Although recent wage hikes — of the magnitude of 30-40% in some cases, but more generally 20% — do reflect cyclically overheated labour market demand, the average wage growth this year is lower than in the past two decades and raises no red flags, they add. Nor, in their estimation, will these higher wages immediately translate into higher inflation, in China or elsewhere.

“The China Cassandras are in full voice about the domestic and global inflation implications of the wage hikes... but this is not something to be alarmed about,” reasons Societe General economist Glenn Maguire.

Despite the recent hype, there is nothing really new in the rise in rural migrant wages, adds UBS economist Jonathan Anderson.

“By 2004-05, rural migrant wages were already growing at a double-digit pace, and our estimates show annual increases of nearly 15% over the subsequent few years.” That continued until 2008, when the global financial crisis threatened to take down the China export manufacturing.

Before the subprime crisis, the convention was that provinces in China would announce a minimum wage rise every year, recalls Maguire. The crisis put an end to that, but with China having achieved the “greatest success of any economy” in stimulating its domestic economy, provinces are returning to the historical practice of double-digit wage growth.

“This is not alarming,” assures Maguire. “In fact, it is the historic norm.”

If China were still producing T-shirts for WalMart at $1 each, wage increases of the order that were witnessed recently would of course be “clearly unsustainable,” concedes Maguire. But the two companies where recent wage hikes grabbed the headlines following labour unrest — Honda and Foxconn — produce high value-added durables, in which wages are only a small component.

Illustratively, Foxconn has announced that a 30% payrise will result in a profit margin drop of a measly 1%. Compare that with China’s industrial profit growth, which is currently running at 120% y-o-y, and the magnitude of wage hike is put in perspective.

Anderson additionally points out that over the past few years, when China witnessed relatively rapid wage increase, the export-oriented light manufacturing sector — which accounts for the single largest concentration of migrant labour in China — did not see a dramatic reversal of its fortunes in its export markets in the US and European Union.

This is despite the fact that light manufacturing industries did not
accept lower margins to prop up market share; in fact, with the exception of 2008, these industries actually saw a trend increase in profitability over the past five years, adds Anderson. “What’s more, margins in the most labour-intensive sectors — textiles, food processing, furniture and toys — have risen the most.” 

So how did Chinese exporters keep gaining market share and healthy profit margins despite higher wages? By hiking dollar pricing of export goods — not just on account of higher wages, but because of higher commodity prices and the effect of changes in the renminbi exchange rate. Chinese export prices were rising by nearly 6% in 2007-08, and after a brief break in 2008-09, dollar export prices are re-accelerating today, he points out.

These dollar price increases will, of course, eventually lead to greater pressure on China’s export story, concedes Anderson. “But this is a process measured over the course of many years.” 
It may make sense to argue that wages will continue to rise, that producers can’t pass on costs forever, and that traditional sectors will experience rising competitiveness losses down the road. But it’s far, far too early to talk about a severe impact on the economy, he reckons.