Co-blogger Steve Dickinson recently wrote an article for the China Economic Review, entitled, “Farewell to the China Price” [link no longer exists].  In it, he talked extensively on the price changes going on in China and on how those price changes have and will impact foreign businesses.

China’s wages are “abnormally” low and they have nowhere to go but up:
Even though China has a large GDP, this is simply due to the fact that it has a large population. On a per-capita basis, the country ranks 99th out of 183 nations. It is no surprise, therefore, that wages are low.
But salaries in China aren’t just low, they are abnormally low. Typically, a country’s minimum annual wage is 58% of its per capita GDP; in China it is 25% of per capita GDP, good enough for 158th place out of the aforementioned 183 nations.
The gap between the GDP and minimum wage rankings – 99 versus 158 – is perhaps the most telling statistic. For the majority of countries, there is a close correlation between the two rankings; the disparity in China’s case points to grossly inequitable income distribution.
This is borne out by the Gini coefficient numbers, a widely accepted measure of economic disparity. China’s coefficient is 0.47 on a range of 0 (perfectly equal) to 1.0 (perfectly inequal), putting it 83rd out of 134 countries measured.
According to Gini, China’s level of income inequality is higher than in almost every industrialized country in the world.
Though average wages are abnormally low for most, a small and elite subset in China does just fine:
• Wages of civil servants are abnormally high. The average salary of a civil servant in China is six times the minimum wage, compared to a global average of two times.
• Management level salaries in state-owned enterprises (SOEs) are abnormally high. The average SOE manager in China makes 98 times the minimum wage, compared with a global average of five times.
• Within the state sector itself, wage disparity is abnormally high. An SOE banker on average earns 3,000% more than his counterpart at a construction company, compared with a global average disparity of 70%.The pressure is compounded by costs of necessary items being abnormally high relative to wages.
• The UN recommends that it should be possible for an average worker to purchase a home with three to six years of annual income. In Beijing, it is estimated that the average worker would have to toil for 74 years just to buy a place in a suburban multi-story condo block, unfinished, unfurnished and without any amenities.
• The cost of electricity is a good index of the basic utility costs for urban residents. The average cost of 1,000 kilowatt-hours as a proportion of the average monthly wage in the US, South Korea and Japan is 2.67%, 3.19% and 8.19% respectively. In China, by comparison, it is 30.68%.
• The US Department of Agriculture estimates that the average Chinese family spends 28% of its total monthly income on food. While this compares favorably with other developing countries, the number is far higher than America’s 6.1%. Food prices remain the key driver of inflation in China, rising 10.3% year-on-year in January as the newly revised consumer price index rose 4.9%. The figure is well above the traditional central government target of 3%, and even above its revisedtarget of 4% for 2011. This makes wage growth an even more pressing social issue.
Steve sees China making foreign-owned enterprises and privately owned companies as the target for raising wages:
The obvious easy target is foreign-owned enterprises and privately owned export-orientedmanufacturers. Wages are already increasing in these sectors and it appears that the process has only just begun.
Governments in Guangzhou, Shanghai and Beijing are already experimenting with mandatory union collective wage bargaining, with the hopes of 80% coverage within three years.
Though the end result is of course unknown, Liu’s proposal for a doubling of worker wages within five years appears to be entirely reasonable. In fact, the increase could be much more significant in the foreign and export-oriented sector.
These changes will have big impacts on foreign firms, particularly those engaged in China manufacturing:
What does this mean for foreign firms? Much of the attractiveness of China as a location for manufacturing has relied almost entirely on abnormally low wages. Recent estimates indicate that on average labor accounts for about 50% of the cost of manufactured goods globally; in China this figure has been as low as 10% over the past 10 years. As wages increase, the attractiveness of China to low-end factory owners will fall.
For other businesses, the situation is less clear. Even taking into account impending wage inflation, it will be many years before Chinese salaries rise anywhere near the level of the developed world. And a wage increase commensurate with China’s overall economic development will not, on its own, make the country an unattractive place in which to do business.
On the other hand, it may well be possible that abnormally low wages have masked other, more fundamental issues related to manufacturing in China. For example, recent data suggests that the economy is remarkably inefficient and its workers unproductive. Once the artificial inducement of low wages is removed, it is entirely possible that these inefficiencies will cause some businesses to decide that operating in China makes no economic sense.
This kind of analysis needs to be done immediately, since there is little question as to the direction of wages over the next five years.
What do you think?
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Dan Harris

I am a founder of Harris Bricken, an international law firm with lawyers in Los Angeles, Portland, San Francisco, Seattle, China and Spain.

I mostly represent companies doing business in emerging market countries. It has taken me many years to build my network and it takes constant communication and travel to maintain it. My work has been as varied as securing the release of two improperly held helicopters in Papua New Guinea, setting up a legal framework to move slag from Canada to Poland’s interior, overseeing hundreds of litigation and arbitration matters in Korea, helping someone avoid terrorism charges in Japan, and seizing fish product in China to collect on a debt.

I was named as one of only three Washington State Amazing Lawyers in International Law, I am AV rated by Martindale-Hubbell Law Directory (its highest rating), I am rated 10.0 by AVVO.com (its highest rating), and I am a SuperLawyer.

I am a frequent writer and public speaker on doing business in Asia and I constantly travel between the United States and Asia. I most commonly speak on China law issues and I am the lead writer of the award winning China Law Blog (www.chinalawblog.com). Forbes Magazine, Fortune Magazine, the Wall Street Journal, Investors Business Daily, Business Week, The National Law Journal, The Washington Post, The ABA Journal, The Economist, Newsweek, NPR, The New York Times and Inside Counsel have all interviewed me regarding various aspects of my international law practice.

I am licensed in Washington, Illinois, and Alaska.

In tandem with the international law team at my firm, I focus on setting up/registering companies overseas (via WFOEs, Rep Offices or Joint Ventures), drafting international contracts (NDAs, OEM Agreements, licensing, distribution, etc.), protecting IP (trademarks, trade secrets, copyrights and patents), and overseeing M&A transactions.

  • Greg Basham

    The reality is that industries and capital will continue to chase low cost labour options and economies and countries will have to adjust. The Pearl River Delta shows some signs now of companies moving to lower cost production in India and elsewhere. While this always brings problems of job loss as jobs move it is a reality that cannot be avoided as companies have little loyalty it seems to the areas they are in.
    In our business – pre-employment screening and background checking as well as exit interviewing it still never ceases to amaze me how companies in China and Hong Kong will idly sit by with voluntary job turnover in the 20-30% range as their employee base moves for what we see can be relatively small dollars.
    One thing we know is that money is a complex issue when it comes to motivation and engaged employees. We also know that if companies improve pay in those positions that are turning over rapidly is that money won’t solve all problems but it takes off the table job turnover for small dollars – something we see in some of our clients operations in China. Ability to pay is clearly a factor.
    If factories pay better they can also impose some more rigorous standards when hiring and select the best. We see many Chinese managers simply accepting that workers will not be as good as their resumes suggest and don’t bother to check. This is nonsensical as others will do rigorous checks to avoid bad hires.
    As to wage inequality that too is a huge issue and business leaders have become the newly entitled. When we used to speak of entitlement in our work forces in North America it was usually a reference to labour unions there who were condemned for not seeing the business realities facing the enterprise. Today the unions are pretty much non-factors and the entitled have become the business leaders.

  • AvengerMoJo

    It took more then a dozen jumpers to voice out the low level workers need in a company in China. How difficult do you think it will take the complete industry or even the country to think for the poor? I wish you are right so I can actually buy quality product in mainland instead of buying off amazon and ship that over. Which is still cheaper.

  • SLJ

    This is exactly what is happening. Nice post.

  • Chris

    Capital and enterprises will consider a range of issues of which labour cost is only one. For an enterprise to function effectively a whole chain of supporting infrastructure and partner enterprises need to be in place. China ticks many boxes, even if the cost of labour doubles or triples at the bottom end. Frankly, it will be a very good thing for China and the world for the days of wages of US$100-200 per month to end. China will be probably quite happy to lose the industries that cannot make that adjustment because they deliver little real benefit to the country.
    I agree with Steve that wages (at the bottom end) have been unreasonably and abnormally low.
    I cannot see that too many enterprises will jump ship and set up in other even lower cost locations just yet. We moved several functions to India and the experience was dreadful. Admin, service, customs, logistics and product quality were all awful. It was cheaper to outsource within Europe.
    The continued great attractor for foreign enterprises will be that in China they can manufacture both for the domestic market and the world. This will drive continued investment into China even as labour costs double or triple. In the end, as Steve points out, wage costs of 10% of enterprise income (as it has been for some manufacturing enterprises) is insanely low. Over time these will naturally move to 20, 30, 40 and 50% as in advanced industrial economies.
    Steve was also correct in pointing out that this will force China to address inefficiencies in its economy that have been masked by the low cost of labour. For most enterprises, compliance issues – getting permits, approvals, stamps, etc – occupies far to much management and staff time (though thankfully nothing like India). Staff on-costs of up to 64% (social insurances that add 44% to enterprise labour cost and deduct 20% from staff salary) are the world’s most expensive. Taxation is tough, particularly for compliant enterprises, and overall is quite high when the full range of taxes are paid. In many domestic enterprises capital is deployed quite badly and generates poor returns.
    It is a healthy development that labour now has a choice. I’ve been amazed on recent travels in China that every shop, restaurant, factory and enterprise is actively advertising for staff. Many of the staff recruitment campaigns are well designed and thought out and have begun to address salaries, accommodation, social insurances and other issues of concern to potential employees. Gone are the days of 8 workers to a small dorm room and companies are now having to offer family accommodation, single rooms, insurance etc to bring people on board. Again all healthy. Workers from rural areas now often have plenty of options at home and if they are going to move to industrial regions it needs to be worth their while.

  • Sinofil

    This is old news, already a few years ago, companies started to consider Vietnam as a better option for low cost manufacturing.
    In the 90ties it was a priority for white collars to work for a foreign invested company. Nowadays, man y young people would like to work as civil servants at the tax bureau etc.

  • E. Jones

    Once China’s wages have really risen that is when we will see whether China can become a developed country or not. Will China become economically like Korea or Taiwan or Thailand or some other country.

  • Bruno

    I don’t understand that one actually.
    – Chinese media being hysterical about inflation (mostly food prices, same problem all over the world) while the real problem is still housing price (and Chinese habits of wanting to own a house before marriage, i.e. around 25 year old!) and the resulting effect on people. Aren’t the media controlled in this country?
    – Closer to the topic at hand. Chinese salaries are low? I remember my old Swedish colleagues comparing their salaries – minus all taxes and considering the cost of living in their country with that of their local counterparts (not everage workers of course, but local mid-managers in MNCs paid 20-25k/month at that time, early 2000s)… The Chinese certainly were more well off… I had a few job applicants from Sweden at that time.
    – “The UN recommends that it should be possible for an average worker to purchase a home with three to six years of annual income” – really? I don’t think my parents in France ever came close to that, and I thought we were middle-class. Maybe my personal data is outdated… Take a 4 million apartment in Shanghai (mine – far from luxurious, I have plenty of middle-class Chinese friends with more expensive and multiple houses), or a more modest 2 million apartment, over 6 years this means 300k RMB/year income? Thats what, 25k/month? For an average worker? Again I may not be updated but that sounds not far from European salary levels, while the cost of living is so much lower here.
    All this talk about raising basic income certainly is raising everyone’s expectations. I am not talking about the underpaid construction worker, but regular office employees who are by no means underpaid. If the raise do happen, it will certainly “transform” the economy… (I wonder how I will run by business, time to increase our prices). If it doesn’t materialize, a revolution?
    Thats was just some thoughts, pls bear with me. Cheers,
    /Bruno

  • Mark Button

    This should not have been unexpected. It is what happened to Japan and then to Korea and it will keep happening. A country has low wages only for so long.

  • Jerome Cole

    @Bruno: Only a tiny fraction of the Chinese population makes the kind of wages you are talking about. The fact that those folks can afford apartments does not mean very much.

  • simon

    No wonder the China price is over. We sold them Starbucks. The Chinese workers were so tempted to try American coffee once that they had to demand pay rises so they could afford to pay for our American luxuries.
    Who loses? Not the Americans and not the Chinese. The ones not profiting off the Chinese are the ones loosing!

  • @Bruno
    “possible for an average worker to purchase a home with three to six years of annual income”
    It would be reasonable to assume this means “able to save a deposit and get a loan”, rather than “buy a house free and clear”.

  • Bruno

    @Nicholas
    Quote: It would be reasonable to assume this means “able to save a deposit and get a loan”, rather than “buy a house free and clear”.
    Thanks… This does make sense. I guess I think too much like the “middle class” Chinese (or expat) who paid cash for his many apartments!