They were doing so to prepare for an urgent meeting of the Politburo on the status of the economy to be held prior to the Olympics. Considering the enormous importance and priority that the government gave to the Games, the economic indicators must have been particularly alarming to the leadership.

Indeed, year on year export growth had slowed down from 28.1 per cent in May to 17.6 percent the next month. In June, producer price inflation reached 8.8 per cent and the Consumer Price Index was at 7.1 per cent, though lower than the May’s 7.7 per cent.

Inflation, a stronger Yuan and the slowing world economy combined with a drive to enforce new labour laws and payment of workers’ social welfare have been increasing the costs of production in China.

This combination of factors has taken a toll on the labour-intensive enterprises relying on cheap labour from the poor regions of China. Some 100,000 factories in Guangdong province have reportedly closed since the beginning of 2008. In Zhejiang, the estimate is of 60,000 closures. All in all, around 20 million Chinese low-skilled workers have lost their jobs since the beginning of the year. The Adidas decision to move its production out of China is the most publicised illustration of this trend.

So, is China’s time as a low cost country up? Is China’s production machine not turning into the next Workshop of the World? And if so, where is China going?

No more Low Cost

China’s very low-cost opportunities are probably over. Cheapest t-shirts, toys, household appliances and shoes may well be produced at lower costs in Indonesia, Bangladesh and Vietnam. India is also a candidate for lowest cost productions, but poor logistics and infrastructure still make it unattractive to export large quantities out of India.

Yet, when production requires a good level of service and quality, not only lowest costs, China still offers the best -quality/price/service ratio for an important range of products. The salaries for qualified workers able to produce European levels of quality remain 10 times lower in China than in Europe, even though management remunerations are only two to five times lower. In addition, while China’s official rate inflation dropped to 4.9 per cent year on year in August, Vietnam’s stood at 27 per cent and India’s at 13 per cent.

International businesses recognise this situation and continue to invest in China. As one example, the Sino-German Chamber of Commerce indicates that 90 per cent of German companies in China are planning to increase their investments in the country.

Still, the Chinese leadership is faced with a difficult situation, more complex than the one generated by the 1997 Asian financial crisis. The environment has decayed and societal issues such as psychological ailments and low working motivation have appeared. Public protests are increasing.

In order to maintain stability and provide opportunities to the hundreds of million of Chinese who did not yet benefit from the economic development of the coastal areas, 8% GDP growth is needed by Chinese economists’ estimates.

In addition, with low cost factories closing, opportunities for unqualified work are lacking and the outlook for export growth to developed economies is rather grim. A growing number of specialists expect that the U.S. bailouts of financial institutions will slow down the recovery, so that the West may well be entering a period of very low growth.

Leadership Agenda

To keep developing the country at the requisite speed, the Chinese leadership is aggressively pursuing key programmes:

•    The development of universities and technological innovation to improve margins and allow Chinese producers to conquer new higher-tech export markets.

•    Extensive infrastructure investment in transportation (ports, metros, bullet trains, power plants, communication networks) will continue increasing the overall efficiency of the economy, and reduce costs while generating considerable employment.

•    Interior development will generate economic opportunities in the central and western regions of the country, and further stimulate domestic consumption.
 
In total, 9 to 10 per cent growth will probably be achieved in 2008, while growth in 2009 will be closer to 8 per cent. Next year will almost feel like a recession for the Chinese after the 12 per cent growth they experienced in 2007. Still, seen from the outside, China will continue to grow very fast at a time when the developed world is going into slow motion.

It is not the time yet to discount China. For the years to come, it will continue to offer some of the best available opportunities – and challenges.

Nicolas Musy is Managing Director of the Swiss Center Shanghai.
 

Last update : Sunday, 05 October 2008

Keywords : Economy, Investment, Manufacturing, Development, Inflation

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