Category Archives: China

What Impact Will the SFTZ Have on Trade?

As of September 29, 2013, the Shanghai Free Trade Zone is now open for business, but what impact will it have on trade? Opinions are mixed.

CNBC states that the Shanghai Free Trade Zone is No Match for Hong Kong, even though it is a 28.8 square kilometre district that many hoped would rival Hong Kong. Why? For starters, there will be no special tax treatments while Hong Kong’s 16% personal income tax will continue to retain talent and headquarters of global banks. Secondly, many much-needed* reforms in China, such as reforms on state-owned enterprises, public finance, land ownership, and the Hukou system won’t be part of the FTZ.

KPMG issued a special tax alert when the “China (Shanghai) Pilot Free Trade Zone was Officially Launched” with their observations. KPMG’s opinion on the zone that was designed to improve investment facilitations to meet international standards, deregulate currency exchange controls, and improve efficiency and flexibility in terms of government regulatory controls and legal environment specification include the following:

  • financial institutions will develop innovative financial services and products to allow China to be more competitive on a global basis once further reforms w.r.t. the convertibility of the RMBi is improved
  • allowed industries will have simplified administrative procedures to provide greater convenience for investors once the filing mechanism is implemented
  • the government may develop preferential policies towards promoted industries
  • breakthrough reforms are required in terms of foreign exchange control

In other words, they expect that, in time the zone, for preferred industries, will simplify and enhance trade while providing companies access to new, and innovative, financial services. However, for now, the benefits are limited.

Time, said that Shanghai has a Free-Trade Zone, so Now What?, noting that there is great concern among Chinese policymakers about opening the inexperienced domestic financial sector too quickly to the global marketplace. As a result, it is therefore hard to gauge at this point how far and how fast the Shanghai free-trade zone will be allowed to develop, and there’s even more uncertainty about when any reforms attempted there will be introduced on a wider scale. In addition, many analysts expect the reforms to come slowly and have doubts about how readily they could be applied to China as a whole.

Conclusion, the zone has great potential, but at the present time, it’s not likely to take off too fast until the reforms are decided and made known. Any differing opinions?

* In the opinions of some.

China is Not to Blame for Our Manufacturing Woes

Laurence Edwards and Robert Z Lawrence of the Peterson Institute for International Economics, and authors of Rising Tide, Is Growth in Emerging Economies Good for the United States, have put a presentation based on their book online that, among other things, clearly demonstrates that China is Not the cause of our manufacturing woes. Given that 86% of North America based companies have a supply chain that relies upon key parts from China (as noted in the Risk Management Monitor) and that a number of prominent economists (including Samuelson, Summers, and Krugman) have stated that growing trade (especially with low-cost countries, with China being #1 for many years) reduces wages, welfare, and jobs, this might be hard to believe. But it’s true. In fact, China outsourcing has had essentially zero impact on North American manufacturing. How can this be?

Consider this chart which shows the manufacturing share in establishment employment from 1961 – 2010. When you look at the forecast based upon the fitted trend line of market share from 1961 to 1979, and the actual share of manufacturing employment, you see that the forecast was dead on! (Moreover, the trend has been repeated around the world – including Sweden, the Netherlands, and Germany.)

Manufacturing Job Trend

This data suggests that the reason for the decline in manufacturing is a common, pervasive, cause. Specifically, productivity growth. Automation is reducing the amount of labor required to produce goods. If the amount of labour required to produce goods decreases, the only way that jobs could retain constant is if demand increased. But this didn’t happen because, let’s face it, most people only want one fridge, one car, and one iPhone. (Yes, some people want two, or three, but not ten, or more, and when you consider the increase in manufacturing productivity over the last fifty years, for many goods, we’d have to buy ten to maintain the same level of manufacturing employment.)

But we could afford to buy more, as the productivity increases have, relatively speaking, brought many prices down (adjusted for inflation). So why haven’t losses slowed? Because we buy services instead. We eat out more, take limos, and pay carriers to give us 4G service. And that’s the real reason manufacturing jobs have declined, because service jobs grew. So, in this case, we can’t blame China, even though they have taken a very large amount of North American dollars over the past 30 years.

A Proven Blueprint for Country-Based Global Domination of a Chosen Industry

  1. Become a leading outsourcing destination through low-cost labour.
  2. Patiently build up your cash reserve over a couple of decades.
  3. Through raw material subsidies and free loans, flood the global market with cheap, excess capacity so you become the primary source.

This is exactly how China became:

  • a global leader in solar, steel, glass, paper and auto parts,
  • the world’s largest exporter in 2009 (when it surpassed Germany),
  • the world’s second largest manufacturer in 2010 (when it overtook Japan), and
  • built up the largest foreign-exchange reserves in the world in that same year.

As per this recent post over on the HBR blogs on How Chinese Subsidies Changed the World, since 2001, when China joined the WTO, subsidies have financed over 20% of the expansion of the country’s manufacturing capacity. The state has willingly paid the price of economic inefficiency to accomplish political, social, economic, and diplomatic goals. As a result, huge Chinese subsidies have led to massive excess global capacity, increased exports, and depressed worldwide prices, and have hollowed out other countries’ industrial bases. For example, in 2000, China was a net importer of steel with 13% of world imports and 16% of global output. By 2007, after 27B of energy subsidies, it had become the world’s largest producer, consumer, and exporter of steel. It now produces 50% of the world’s steel, and with no scale economy or technological edge, still sells steel for 25% less than the U.S. or the EU.

This government support of private industry has helped China skyrocket to the second largest producer of GDP faster than anyone expected and will quickly propel it into the top spot. But there is hope for America. All it has to do to regain it’s glory as the largest economic superpower in the world is to:

  1. Take advantage of China’s rising wages and increasing unemployment and start promoting its “low cost labour”.
  2. Patiently wait as China, India, and other fast-growing economies follow its example and outsource everything over the next two decades, grabbing as much renminbi, rupee, and other foreign currency as it can over the next two decades.
  3. Subsidize raw material, manufacturing, and energy production like mad in key industries and begin the climb back up the GDP ladder.

At the rate things are going, China is going to overtake the US before Obama’s term is up, not in the 2020’s like everyone was originally predicting. There’s no stopping them. America’s only hope is to realize economies are often cyclical and take advantage of its next opportunity to get back on top.

Even China Knows that You Should Home (Market) Source!

SI has been telling you since 2007 that you should be Home Sourcing. SI has outlined the Advantages of Home Country Sourcing, shared a great post on Home-Shoring from the Manufacturing Innovation Blog, and given you another reason to source close to home. But have you listened? For the most part, no.

But you should, or this is another area where China is going to eat your lunch too. As per this recent article over on the Washington Post that asked if U.S. Manufacturing [is] Making a Comeback, a Chinese company has just set up a factory in the United States!

This January, Lenovo (which acquired IBM’s PC business in 2005), a Beijing-based computer maker, opened a new manufacturing line in Whitsett, N.C. to handle assembly of PCs, tablets, workstations, and servers. Why? According to Jay Parker, President for North America, it needs the flexibility to assemble units for speedy delivery. But, more importantly, the math adds up. Chinese wages are on the rise, the risk of loss to piracy (at sea) is increasing every year, and we have reached the point where the higher North American labour costs can be offset by savings on logistics. And Chinese companies know logistics costs as good as anyone. (As per Sunday’s post on China Packaged Goods, with a [major] stake in 16 global ports, thousands of shipping lanes, and a fifth of the world’s container fleet, China pretty much sets the prices for Ocean shipping these days.) A barrel of crude oil that was $27 in 1993 and $35 in 2003 is now $88 in 2013, inflation adjusted. That’s over a 3X increase since the early stages of the outsourcing craze. And China wages have increased so much in China over the last decade that a new study just found that labour costs are now 20% lower in Mexico. (Source: SCDigest) Plus, the wage gap between China and North America is expected to shrink to a mere $7 per hour by 2015! When you factor in logistics costs and loss due to theft, IP theft, and (ocean) piracy, that’s nothing! (Especially when the US is on pace to have lower manufacturing costs than Europe and Japan by 2015! There’s a reason Nissan, Honda, and Toyota are exporting from the US. That’s right, exporting from, not importing into.)

When you add it all up, and consider the production efficiencies that come from our ability to constantly innovate better processes, it just makes sense to bring (last stage) manufacturing back to North America. (Especially when the productivity of North American workers keeps rising.) Maybe you still outsource key components, but you certainly don’t outsource washing machine production, for example. The last thing you do is ship empty space or dead-weight.

CPG: China Packaged Goods

It used to be just “Made in China”. Now it’s also “Shipped From China” and “Shipped to China”. No matter how you look at it, China’s almost always in the equation.

What is SI talking about? In addition to being the primary outsourcing destination for many North American & European MultiNational Organizations, and one of the biggest manufacturers in the world in many areas of CPG, China is now a major driving force behind the global shipping industry. As per this recent article over on the Economist on China’s Foreign Ports, China has a significant influence over sixteen (16) major ports all over the world.

In addition to the major ports of:

  • Shanghai
  • Hong Kong / Shenzhen

China also has a (mainland) stake in:

  • Singapore
  • Djibouti
  • Chittagong (India)
  • Kyaukpyu (Myanmar)
  • Hambantota (Sri Lanka)
  • Colombo (Sri Lanka)
  • Gwadar (Pakistan)
  • Karachi (Pakistan)
  • Tin Can (Nigeria)
  • Lome (Togo)
  • Piraeus (Greece)
  • Antwerp/Zeebrugge (Belgium)
  • Seattle (USA)
  • Los Angeles (USA)

Thus, in addition to being the world’s largest exporter and second-largest importer, in addition to controlling a fifth of the world’s container fleet through giant state-owned lines, and in addition to building 41% of the ships built in 2012, it’s going to control a significant percentage of the global shipping routes. Moreover, in addition to the mainland China stake in the above ports, privately owned conglomerates in China and Hong Kong – including Hutchison Whampoa, China Merchants Holdings, and China Shipping Terminal, are also buying stakes in global ports. These firms also own stakes in Suez, Terminal Link, and a forthcoming port in Tanzania.

In other words, at the end of the day, China will have a stake in every step of the global (Consumer Purchased Goods) supply chain. It will supply at least some of the raw materials (as it controls some global markets, such as rare earth metals where close to 90% come from China), make some of the parts, assemble one or more subcomponents, ship it from a port it controls, on a ship it built, to a port it controls — where the goods will be unloaded using equipment where components came from China, put on a truck where the steel came from China, and delivered to the store where a China Conglomerate owns a minority stake. We might as well just accept the reality and form the Alliance today. Why wait?