China To Prices. "Get Real."
For years, whenever someone in the United States would complain about how China was "taking our jobs," I would mention China was also subsidizing our products. That is changing rapidly.
In, "Paying the China Price, The Full Price," All Roads Lead to China writes on how the real, non-subsidized, price of Chinese goods is starting to reveal itself.
All Roads sees the removal of the following subsidies increasing China product prices:
-- Corporate Tax law - gone are the days of 3 years 100% tax holiday, 2 years 50%. -- VAT rebate reduction - Reducing the VAT rebate from 17% to, in many cases, 0, removing a large export subsidy -- Labor Law - increased the protections of labor with respect to wages, contracts, and welfare -reduced the intangible subsidy that had been a lack of labor protection -- Environmental laws - reduced the subsidy whereby GDP came first, and now firms are being forced into compliance -- Energy Pricing - as we just saw today, energy subsidies are being reduced and manufacturers/ consumers will be forced to absorb -- Banking regulations - the removal of wholesale policy loans has resulted in firms being forced to shutter rather than run at a loss, and has prevented many new entrances that did little else than keep prices low through cut throat pricing -- Real Estate regulations - aim was to give land holders more power in resisting development -which has led to a reduction of supply and thus prices have increased -- Industry specific subsidy removals
I agree with all of these, but will raise Rich one, at least when it comes to foreign businesses in China. In addition to a severe reduction in tax holidays, China is also in the process of dismantling its lower corporate tax rate for foreign companies by raising the rate for foreign businesses.
In particular, I agree with Rich that we are seeing a rapid diminishing of China subsidies. As a capitalist, I applaud this, but as a consumer, I rue having to pay more.
Comments
Wouldn't manufacturing move to a different country if China gets too much more expensive? Or is China so much cheaper that it would still be the cheapest place even after costs increase?
Posted by: Wesley Tanaka | June 23, 2008 3:46 AM
Wesley: My understanding is that in some cases, yes, production will move on to new places. However, there are some companies that have already built their factories and would rather just pass on higher costs than completely relocate their operations. Also, China is special in the sense that having operations there is more than just cheap labor: it's also access to the huge domestic Chinese market.
Posted by: DVA | June 23, 2008 6:23 PM
@Wesley,
This is always the problem in figuring out if moving to a different location offers lasting savings. Ofcourse prices are going up now, this is happening all over the world. We are dealing with two type of organizations. The first one are the branded products that basically outsource most of their manufacturing. They do not own the factories. Local manufacturers have licensing and OEM agreements in place to produce batches of goods at a certain quality/price. These organizations often have several OEM suppliers offering the same goods but located in different countries. This has the advantage of more competition between the OEM suppliers, continuous supply of products in case one OEM manufacturer can not produce, proximity to local markets etc. Changing the location where the bulk of the goods are being manufactured is a matter of awarding contracts. The organizations are relatively footloose as they did not tie up their capital. These are the organizations that jump country relatively easy and you see then changing their manufacturing portfolio all the time in order to maximize profits. The reasons for shifting production can be currency exchange losses, higher transportation costs from one locality or stable costs but a better deal elsewhere. Their actions serve one thing only: the bottom line. Most of their costs are tied up in marketing.
On the other side of the spectrum we have companies that produce their own products in factories that they have build and own or through Joint ventures. These companies take a more holistic approach as to what serves their best interest. IP protection, Quality, supply chains that work better, faster shipping, higher quality personnel etc. For them moving quickly to another location is not an option. They have sophisticated business models, they have their engineering tied up and last but not least a lot of capital tied into a geographical area. They need to make a return and will try to offset higher prices through achieving a higher efficiency in their plant.
What we have seen is a number of companies shifting part of their OEM portfolio to other countries but e.g. in the case of Vietnam we have seen prices rise very, very fast to the extend that there is little to gain in the longer run when more manufacturers are moving that way. It will be a classical pig cycle of overstretched demand, quick investments to supply the infrastructure and facilities, an adjustment in the labor market (takes time to educate people) before prices come crashing down. Not too many companies have the financial resources to wait for such a cycle to end.
Posted by: Laurentius Metaal | June 24, 2008 2:17 AM
..and of course there is a further impact when you consider the rising taxes and dismantling of subsidies with the steady increase in value of the RMB..
Posted by: tmg | June 24, 2008 7:41 PM