China's wage inflation could spell India's gain

Feb 16, 2009
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China's wage inflation could spell India's gain

Hong Kong: Wage inflation may be beginning to bite in parts of China, and at least one major electronics manufacturer, which witnessed a spate of suicides by workers at its iPhone-making facility in southern China, is eyeing India as an alternative manufacturing platform.
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"We may look to relocate or expand our plants to low-cost areas in northern China, India and Vietnam," Foxconn International Holdings chairman Samuel Chin said in Hong Kong, after a shareholders meeting. But he would not specify where the factories were being moved out of or where they would be moving into.

Foxconn is the world's largest contract electronics manufacturer, and its parent company Hon Hai Precision Industry, based in Taiwan, already has facilities in Chennai, where it manufactures mobile phones and components.

Foxconn, which recently raised workers' wages following more than 10 instances of suicide by underpaid, overworked employees, would also be looking to pass on the increased wage costs to clients "as much as possible," added Chin.

Japanese carmaker Honda too has had to raise wages in China following a rare strike at its facilities in southern China.

Economists reckon that wage inflation could force some companies to lose their competitiveness in China.

"We expect the rise in wages to exert increasing pressure on the cost structure of manufacturers, forcing factories that are unable to pass on the increased costs to close down, move to inland regions, or leave China," says Credit Suisse economist Dong Tao.
But the wage rises would only affect "labour-intensive/ low-cost commoditised product manufacturers", and not so much producers of "higher value-added, more capital-intensive products," adds Tao.

"The rapid rise in wages at a number of major electronics and car producers in China"¦ is perceived to be negative for China's export competitiveness and may spell an end to the era of a low-cost labour force, but it appears"¦ that the government is supportive of this trend," reasons Tao.

"We think the government is supportive of wage increases among low- to middle-income earners as a means to improve wealth equality and stimulate consumption," he adds. In fact, even as far as back as in March, the government had, in its government work report, revealed its intention to improve labour compensation.

"The purpose of the policy is to strengthen the consumption power of the middle-income group," says Tao. "This fits in with the larger strategy of transforming China's economic structure from being export- and investment-led to being domestic consumption-led."
But although it would be helpful in boosting consumption, increased wages may "aggravate the demand-pull pressure on inflation," says Tao. "With agricultural prices on an uptrend due to higher government procurement prices and improved rural living conditions, the risks of inflation for China are rising, and may surprise on the upside in the future."

UBS economist Wang Tao too acknowledges that "gradual wage increase" will help China move to a more consumption-based economic growth model. But in her estimation, the recent rise in wage pressure reflects mostly cyclical demand-supply factors in the labour market, as well as rising living costs.

"We do not think China is entering into a wage-inflation spiral," says Wang. However, in the short run, profit margins could be squeezed. Over the medium term, demographic changes and shrinking surplus labour will push up relative labour costs and inflation, she adds.

JPMorgan's chairman of China equities and commodities Jing Ulrich points out that since the first quarter of this year, provincial governments in China had begun reinstating annual minimum wage increases, and that 11 provinces had hiked minimum wages by an average or 17% so far this year.

"Wage increases at the lower end of the income spectrum are more likely to promote consumption than salary increases for middle and higher-income households, who would be more inclined to channel additional income towards savings and investments," adds Ulrich.

Concerns that the latest wage worries and labour shortage fears mark the "end of China's cheap labour and the associated growth story" are exaggerated, says Wang. "It may be easy to be alarmist about almost anything, including China, in the current uncertain global environment." But such alarmist fears are overstated, in her estimation.

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