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China’s ‘third wave’ to impact global inflation
Florence Chong, Editor, ATI Magazine
13-08-2008
SHANGHAI – China has entered the "third wave" of reform to upgrade its industry and shed its image as the world's sweatshop.
Beijing has offered incentives to selected industries which it intends to nurture, and has taken stringent measures to weed out small to medium-sized "dirty" industry, according to CLSA's Shanghai-based economist, Andy Rothman. The shift in emphasis will have the greatest adverse impact on Guangdong, which derives 40 per cent of its GDP from export receipts of these industries, many owned by Hong Kong companies.
As China strives to move up the value chain, an inevitable side-effect will be global inflation, writes Rothman in the latest edition of the CLSA Asia Pacific Markets report.
China, which once carried a stigma as on exporter of deflation, will soon be blamed for rising global inflation as global consumers are made to pay more for Chinese-made goods, Rothman says. The price of Chinese-made goods will continue to rise. In his paper, Retooling China, Rothman says 59 per cent of small export manufacturers are expected to raise prices this year, up from 47 per cent in the second half of last year.This will result in higher retail prices around the world.
"Now all of us will have to pay part of the cost of higher Chinese wages and limits on overtime. And as Beijing enforces pollution controls, we will all have to start paying part of that expense too," says Rothman. Over the past 20 years, global consumers have benefitted from low-priced goods made by Chinese factories that paid low wages and often polluted at will.
"Now, the third wave of restructuring means that global consumers will have to pay the cost of enforcing China's minimum wage and overtime limits, as well as the cost of social insurance for Mainland workers," says Rothman.
The third wave of restructuring will lead to greater enforcement of China's pollution-control regulations, and foreign consumers will have to start paying for the true cost of producing goods in China. The CLSA report quotes one Guangdong-based supply chain manager as saying that even the big global discount retailers are starting to accept price hikes – after years of insisting on annual price cuts.
Rothman says the third wave, just getting under way, is an effort to push China's manufacturing platform up the value-added chain, to contribute more to domestic growth and create higher-paying jobs.
He says the goal is to "shut small manufacturers who pollute, use scarce resources and abuse workers – this doesn't mean China will quickly go high-tech, but Beijing no longer wants to be the world's sweatshop for junk".
Economic growth has been quite unbalanced over the last 30 years, with the coastal region benefitting from economic development. The inequality between the coastal region and the interior has doubled over the last 30 years.
Rothman says the poorest 10 per cent own just 1.4 per cent of China's wealth, compared with the elite 10 per cent, who own 45 per cent of that wealth. Some 35 per cent of wealth is in the hands of one per cent of Chinese.
Export contribution to the Chinese economy has continued to shrink as domestic consumption gains in importance. In 2004, Rothman says, exports accounted for only 2.4 per cent of growth, yet GDP rose by 10-11 per cent. In 2003, there was a negative contribution from net exports – but GDP growth was 11-12 per cent.
This, in turn, could affect Hong Kong, given that 47 per cent of Hong Kong-owned companies in the Pearl River Delta say the deposit requirements may cause their businesses to become unprofitable.
Guangdong Province will suffer "disproportionately", with the value of total exports accounting for 90 per cent of its GDP.
Over the past year, Beijing has started to eliminate export subsidies and to lift export taxes, Thousands of goods, largely low-value-added processed projects which previously received rebates on the value-added tax (VAT), have been withdrawn. They cover sectors from aluminium and coke to shoes and clothing, chemicals and many kinds of steel and plastics.
Leather exports, for example, fell 38 per cent in value and 33 per cent by volume last year after the withdrawal of rebates. The leather processing industry is seen as a culprit of water pollution. Cancellation of rebates was backed by a ban on the import of rawhide for re-export processing.
The Government has also begun requiring firms processing dirty goods to pay an upfront cash deposit to guarantee future tax payments.
In contrast, the Government offers tax rebates and others incentives for sectors such as information technology and alternative energy. It is offering massive subsidies for manufacturers of energy-efficient light bulbs. China produces about 70 per cent of the world’s light bulbs.
Meanwhile, a new Employment Contract Law which came into effect this year has opened the floodgates for worker claims. The number of labour arbitration cases filed in every province rose by at least 50 per cent year-on-year in the first two months of this year.
"In Guangdong Province, the number of cases tripled, while Shanghai saw a 92 per cent increase. Last year, close to 30,000 cases in Shanghai were accepted for arbitration, involving mostly 40,000 employees," says Rothman.
The textile industry is an example of a sector suffering from a combination of Government pressure, rising raw materials costs and over-capacity – limiting the ability to pass on higher input costs. The latest Government initiatives affect not just light manufacturers; small steel mills are also impacted. The Government has removed a 10 per cent tax rebate for semi-finished steel products – and imposed a new 20 per cent export tax.
One factor mitigating the impact of manufacturing layoffs is the shrinking size of the working age population. The size of the 15-34 age group dropped from 442 million in 2000 to 384 million in 2006 – down 13 per cent in just six years.
"It is difficult to imagine a more important force affecting real investment returns than the end of China's role in depressing inflation globally. Just this one changing factor will have an enormous impact on asset prices and asset allocation that will last for decades," says Rothman.
Copyright ©, ATI Online, July 2008 |
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