Of China, five-star factories and sweatshops

Or, how China is able to offer goods at such low prices to the world with its shadow factories

MUMBAI: China has become the factory of the whole world because of a simple fact. It can produce things at a cost that none of the other countries around the world seem to be able to match. Hence, ‘profit’ hungry corporations across the world find it logical to outsource all their production to China.

So what is it that ensures that factories in China produce at such a low cost? Conventional logic would tell us that China has access to ‘cheap’ labour and thus it can produce at such a low cost. But labour in India is not very expensive either. So why can’t India match China on price?

Alexandra Harney, in her book, The China Price —The True Cost of Chinese Competitive Advantage, manages to come up with the right answers.

Harney poits out that ‘shadow’ factories are the major reason why China is able to produce goods at such low cost. Shadow factories are shadows to five-star factories.
Chinese entrepreneurs have five-star factories that meet the ethical standards of the big companies they cater to. Harney takes the example of a Wal-Mart executive who went to visit a factory that sold goods to Wal-Mart.

“Her job was to determine whether the factory was producing according to Wal-Mart’s ethical standards—which include a strict ban on child or slave labour and rules on occupational hazards, working hours and payment of minimum wages. The Wal-Mart executive’s visit represented two contrary forces pulling on global supply chains in labour intensive products today: the demand from consumers and companies for goods at a cheap price, and the fear of news leaking out about the unsavoury way they may have been made. Wal-Mart was inspecting the factory to make sure it wasn’t a sweatshop,” writes Harney.

What the Wal-Mart executive was inspecting wasn’t a sweatshop, but it was a five-star factory, for demonstration purposes. As Harney writes, “Everything Wal-Mart saw would be real; it just wouldn’t represent the whole picture. In China, they call them “five-star factories” —as good as a five-star hotel. Sometimes they’re known as ‘model’ or ‘demonstration’ factories.”

These five-star factories ensure they meet the ethical standards of western companies.
But, this is not where the real production takes place. The real production takes place in a shadow factory.

“Another factory owned by the same manager was humming with activity. This factory was making the same products for Wal-Mart as the factory the auditor saw, but under wholly different conditions and a cloak of secrecy. Tucked away in a gated business park, the factory is not registered with the Chinese government. Its 500 employees work on a single floor, without safety equipment or insurance and in excess of the legal working hours. They are paid a daily rather than a monthly wage. No one from Wal-Mart has ever seen this factory, though Wal-Mart buys much of the factory’s output, according to its owner. Officially, this factory does not even exist,” writes the author. 

And most foreign companies which outsource to China buy goods produced by shadow factories, without knowing about it or for that matter just ignoring it. “One auditor who has been monitoring factories in China for over a decade estimates 99% of factories have a “shadow’ to meet the retailers’ demands,” she writes.

But, why there is a need for the shadow factories? The primary reason is that it keeps costs low.

As Harney writes, “Shoppers expect continual price declines, so the retailers, and the middlemen that supply them, demand continual prices declines from their suppliers. If one factory can’t provide that, they find another that can. Retailers come to believe that this process can continue indefinitely.”

It need not be said that demanding lower prices and meeting standards and cutting prices regularly are clearly at odds. Hence the need for five-star and shadow factories. Five-star factories that meet the ethical standards set by the western companies and shadow factories that meet the actual demand and maintain a lower cost of production.

Harney quotes one of the factory owners to explain this phenomenon. “If every factory needs to reach the legal standard, the cost of production will not be that low… So most factories will have two factories: One is for demonstration, one is for actual
production…The government already knows everyone cheats, even themselves.”

k_vivek@dnaindia.net