View from China: Chinese Low Labor Cost Economic Model

In our previous post on Chinese views as published in the Beijing based Chinese Business Magazine Caixin Online, Takethe5th found the posting tainted – written by an American and not yet translated into Chinese. The following article is dramatically more authentic – written by a Western-exposed, Chinese journalist and available in Chinese as well as English. Here is critical portions of the postings:

Dismantling Factories in a Dreamweaver Nation

A new generation is challenging China’s labor-squeezing business model and an older generation that apparently doesn’t get it.

A decade ago, I took a group of fund managers to an assembly line at an electronics manufacturing contractor in China. We saw rows and rows of young women hunkered down, concentrating on putting together tiny parts. They had few toilet breaks, and during rest periods they had to sit at their benches.

“They’re all 18,” the line manager told me. “We need nimble fingers. In a few years, we will replace them with another batch of 18-year-olds.”

I wrote a story after that visit. I didn’t judge the situation but stated that a compliant labor force willing to be pushed to the extreme was the fuel for China’s economic miracle. The engine was the mutually beneficial relationship between western companies with technologies, brands and distribution channels, and China-based manufacturing outsourcing companies that specialized in taking advantage of China’s vast, cheap labor force. These included Taiwanese companies, which have been by far the most successful in the original equipment manufacturer (OEM) business.

The fund managers with me on the visit wanted to determine sustainability and profitability before deciding whether to buy the company’s shares. They thought an endless supply of labor would ensure the model’s profitability, and they were bullish about the company. What’s happened in the years since has proven them right….

An even more important factor is labor management. What I observed during my visit 10 years ago was actually the key to economies of scale. To put it bluntly, the key competence of a successful OEM in China is to squeeze labor to the maximum extent possible. That skill is developed within an organization. When a company employs hundreds of thousands from all over China, it needs a massive machine that involves recruiting, housing, training, and worker management on the factory floor.

For example, the factory I visited derives its economies of scale from 1) knowing where to find all the 18-year-old girls, 2) convincing them to stay in factory dormitories, 3) training them to put the parts together, and 4) ensuring that no one takes too many toilet breaks. This is all part of a huge system that can derive considerable economies of scale by processing hundreds of thousands of workers.

The girls at the factory I visited were earning US$ 100 a month, which was not a bad wage. That money could be used to pay for a younger brother’s tuition, a mother’s medical bill and, if circumstance permitted, building a house for the whole family. Each worker was willing to sacrifice herself for the family; she was not living for herself. Essentially, she accepted hardship.

These factors have changed. Today’s young adults are less willing to eat bitterness. They are the first generation to grow up during prosperity, without worrying about food and shelter. Many were pampered by parents sensitive to the one-child policy. They are more like counterparts in other countries, which is good for China’s international relations….

Moreover, rural families are not desperate as they were a decade ago. Siblings are few, and the government pays much more for rural education. Health insurance is decreasing the numbers of families facing financial crises due to sickness. Most rural families have built houses. And familial obligations for today’s rural youth are not as urgent as in the past.

Meanwhile, inflation has severely eroded income value. Today’s rural youth aspire to live in big cities, yet property prices in cities have grown twice as fast as wages. Dreams of owning a house in a comfortable city are becoming more distant.

Recent events at Foxconn and Honda factories are symbols of this new China. The labor force isn’t as plentiful or compliant as before, and the ways that governments and businesses are handling the situations expose their ignorance of a new reality. They still think these are isolated incidents and, through pressure and bribery (such as a little wage increase for all and then firing rebel leaders) can bring the situation back to normal.

They think this way because of a generation gap, and the unusual relationship between local governments and businesses in China. The economy has raced three times faster than western economies did a century ago, and the generation gap seems three times larger as well. Today’s young adults and their parents may as well be from different centuries. But government and business leaders are all from the parental generation, handling labor crises from this old perspective.

The governing class judges everything on short-term, marginal economic improvement rather than according to dreams and long-term goals. Today’s young people are more concerned about what will happen to them in the future. They want to settle down in big cities and have interesting, well-paying jobs – just like their counterparts in other countries. This vast generation gap in perception is the force behind social tension over China’s property bubble as well as factory working conditions.

The current factory system is unable to realize the dreams of today’s young people. China’s factories are often in isolated locations and self-contained. Youths who leave villages for these jobs find themselves more isolated than at home, with little hope of integration into urban communities. Indeed, they are neither in city or village. It’s the most isolated life possible.

The compensation system makes their lives extremely difficult as well. Base pay is low, and only with massive overtime can they expect close to 2,000 yuan a month. They have no time for self improvement or integrating into modern urban life. In a few years, they will lose their youth and jobs, but they still will not have the ability or financial resources to live in cities.

Go here for the complete story.
While watching Jay Leno I often cringed at the “Chinese Child labor” jokes as being too extreme. Since the emergence of the story on Foxconn suicides where 420,000 workers labor in military fashion most notably on Apple and HP electronics, the viewpoint has shifted. And with Foxconn suddenly raising wages by 30% and the NYTimes shedding light on the even grotesquely and gothically worse conditions in North Korea – this story picks up even more creditability. In sum, the Foxconn Suicides may be the tipping point in which China forgoes its cheapest labor-cost economic model and starts to compete on its ability to out innovate the West. The proof of the pudding will be A)more Chinese companies competing with their own products and services on World markets, B)Chinese currency rises and C)whether China starts reining in rampant IP and western goods copying as it seeks to have its own goods sold without pirating on World markets. A) appears much more likely than B) or C).

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