Industry news

The China Syndrome: the effect of the meltdown

When next you feel like despairing about rate hikes, spiralling fuel and food prices and other depressing economic woes, spare a thought for the Chinese.

In a year that was supposed to culminate in a triumphant hosting of the world’s elite athletes and a showcase of their peculiar form of entrepreneurial communism, everything seems to have turned sour. During the past few months the Chinese have been living in the kind of interesting times they would dearly like to forget.

It seems that even the elements are conspiring to bring bad karma to the Chinese — with close to 70 000 killed in devastating earthquakes, lakes formed by the quakes are still threatening to flood whole towns.

From glory to humiliation

At a time when China was supposed to be basking in the glory of the limelight generated by the progress of the Olympic torch relay from Olympia to Beijing, over the highest point on earth, Mt Everest, culminating in the lighting of the flame at the opening ceremony on the eight day of the eighth month in the year 2008 (the Chinese enjoy number games).

Instead, the country was humiliated by activists attempting to disrupt the torch relay over the Chinese clampdown against Tibetan protesters and the very people they have worked so hard to impress, expressing doubts if they should attend the Olympic Games in Beijing at all.

For the past few years the entire Beijing had been engaged in an unprecedented spring cleaning exercise in preparation for the Olympic Games. Tourist sites were literally restored tile by tile, the sound of hammers behind screens depicting completed buildings an uninterrupted part of the background sound. The city became a massive construction site. The deadline: in the month before the opening ceremony all tools had to be downed and factories closed so that the city air could clear and Beijing could be presented to the important global visitors in pristine condition.

But now, leaders sensitive to activists’ concerns about Chinese and Tibetan human rights, might be declining the invitation. Even brands associated with the Olympics have been warned that they might become targets of consumer boycotts.

Bad as this may be, the Chinese will overcome these disappointments and setbacks. After all, they survived building the Great Wall.

Of far greater concern is the long term effect on production and world retail prices if China can no longer effectively function as the factory of the world.

There are two factors affecting Chinese production, and by implication, world retailing: a global rise in production costs and consumer activism.

Rising costs

To make matters worse, the increase in production costs in China is not all due to factors that they can contain.

For example, between 2007 and 2008 the price of crude oil increased 44% per barrel, and it is expected to rise a further 23% by next year. The oil price not only affects transport costs, but also the price of rubber — a crucial component in the manufacture of footwear. In addition, there is a worldwide shortage of rubber. This resulted in a rubber price increase of 30-35% over the past year.

Earlier this year the EU introduced Reach legislation, requiring importers to identify and quantify the chemicals used in their products and where they come from — for-cing Chinese factories exporting to Europe to source many of their materials from Europe to meet the stringent standards.

The low labour costs and rather flexible labour legislation had always been the main attraction of manufacturing in China. But, while the Chinese labourers did not engage in industrial action to improve wages, working hours, and factory conditions, others did so on their behalf.

For the past decade consumer groups — mainly operating from US universities — have been staging sporadic protests on behalf of Chinese and other low-paid workers, especially in the garment industry. They targeted their industrial action where it hurt most: at the top international brands manufacture in China and the smart retailers who stock them. This resulted in the brands drawing up codes of conduct for the factories that manufacture for them – these governed minimum wages, working hours, overtime pay, working conditions and all the benefits SA workers will expect to see in a labour contract.

New labour laws

These agreements, however, only covered the factories contracted to manufacture for the brands – those making components and other products, as well as their own brands, were not governed by the same rules.

On 1 January this year, China introduced new labour laws requiring employers to pay higher minimum wages, social security and housing benefits and introduced redundancy payments.

Over the past few years wages have been rising by between 10-15% each year – but in many factories the minimum wage had to increase by 20-25%.

This will have a major impact on the labour intensive textile and clothing factories, as well as footwear manufacturing. Some factory managers say this new law will increase operating costs by up to 30% — for while wages are still relatively low, they comprise about half the cost of a garment.

To add to the factory owners’ human resources agony, the endless supply of cheap Chinese labour seems to be drying up. As agricultural prices increased and taxes on agricultural products were cut, the prospects for farmers improved. Fewer people are therefore interested in leaving the rural areas to go and live in a factory compound and work long hours indoors.

While the Chinese government declared that these labour shortages will force factories to raise productivity, some manufacturers have found that turnaround times slowed down.

Less rebates, more tax

In addition, tax rebates on exports were reduced from 13% to 11%.

And to make their lives even more interesting, Chinese factory managers have to contend with a 14% appreciation in their currency, RMB against the US$ since 2005.

This is expected to result in many fringe factories, operating on small margins, closing down.

Interestingly, this is not necessarily seen as a negative , but rather as a way for the government to force an upgrade to the national industrial structures. Even the textile industry body, the China National Textile & Apparel Council, sees a positive outcome to the trend.

But, this will come at a price — to the brands, the retailers that stock them and their consumers.

Which resulted in many brands starting to look at alternative manufacturing countries like Vietnam and Bangladesh, where wages are lower.

But, the cost of relocating a highly efficient supply chain, introducing the same stringent quality controls and re-implementing labour structures that will satisfy the consumer activists, will come with its own price tag.

For example: about a third of Nike’s footwear were produced in China last year (according to just-style.com) in 180 contracted factories employing more than 210 000 workers. The logistics of relocating is nothing less than a nightmare.

Besides, workers in other Asian countries do not live in a vacuum. Why would they remain content to work for lower wages than their Chinese counterparts?

In March this year, 20 000 employees at a Nike factory in Vietnam went on strike to demand a VND200 000 (R96) increase to their monthly pay of VND9300000 (R446).

Consumer pressure?

While Chinese imports have been closely scrutinised by (mainly US) consumer groups concerned about Chinese worker rights, the Olympic Games and unrest in Tibet have now placed Beijing under another, not very welcome, spotlight.

The worldwide protest during the torch relay took most people by surprise — but time will only tell if the activists will carry out their threat of targeting companies manufacturing in China.

The attention generated by the Olympics might yet prove to be unwelcome. And the Tibetan monks far more troublesome than the Chinese had anticipated.