Executive Summary:
The miraculous economic development over the past forty years has transformed China from a poor and backward country into a prosperous and industrialized nation. As China will soon join the ranks of high-income economies classified by the World Bank, mass production of labor-intensive manufacturing may no longer be viable and industrial upgrading to higher value added economic activities is needed to carry forward China's growth in the future. The challenge of a successful structural transformation posed for China also presents a golden opportunity for other developing economies, as they are, given abundant supply of labor, well suited to take over low-skill labor-intensive manufacturing from China. Due to the scarcity of data, the current state of manufacturing relocation from China remains underexplored. By looking through a wide array of "outcome variables" of relocation based on publicly available data and first-hand information gathered through field research, this report evaluates the scale of overseas relocation of Chinese manufacturing production, both from a conceptual point of view and an empirical point of view.
This report finds that the ongoing relocation of labor-intensive manufacturing from China is mainly led by clothing and footwear industries. More specifically, about 25%-35% of clothing manufacturing (in terms of the value of exports) have shifted from China to other countries and regions. Although the scale of relocation is somewhat smaller for footwear, it is estimated to be no less than 15%. Countries that have benefitted most so far are those from Southeast Asia, in particular Vietnam, Cambodia and Myanmar. Africa is in the picture as well, but the scale remains far smaller. Nigeria and Ethiopia are the prime destinations in Africa for Chinese manufacturing relocation. Among the firms that have relocated production capacities abroad, Original Equipment Manufacturers (OEMs) for foreign brands (i.e., firms that are export-oriented) are the most common denominator. Due to the rise of Chinese fashion brands in clothing and footwear, a large number of domestic-serving OEMs have also appeared. Rather than relocating productions offshore, these firms tend to opt for relocation within China to inland regions. Thus, dual-relocation of labor-intensive manufacturing from China's coastal regions has taken place, namely inward relocation to inland regions and outward relocation to other countries.
In accordance with the prediction of the Flying-Geese Paradigm, rising labor costs is one of the key driving forces behind China's manufacturing relocation abroad. It should be stressed that not only has wage rate increased significantly in China in the past 10-15 years, but non-wage labor costs (e.g., the obligation to pay for the social security scheme for the employees) have also surged and inflicted great cost pressure on Chinese labor-intensive manufacturers. The other key driver that is repeatedly mentioned by business owners and experienced industry practitioners is the pressure of the increasingly stringent regulations of environmental protection. It is no secret that the fast-pace industrialization in China has been achieved, to some extent, at the expense of environmental degradation. Strict measures have been put in place since the early 2010s to mitigate pollution resulted from industrial production and greater emphasis is placed on sustainable and green development since then. Due to differences in environmental protection standards in other countries or regions, this has provided another incentive pulling firms to shift their productions offshore. As most of the relocating firms are export-oriented OEMs, favorable tariff rate enjoyed by the recipient countries is also an important driver of the past and ongoing manufacturing relocation from China.
As opposed to clothing and footwear industries, the relocation of other labor-intensive manufacturing industries, such as household appliances, did not take place at a noticeable scale for three key reasons. First, the reliance on labor is much lower and the costs of labor as a share of total production costs are very small. According to on-site interviews with business owners (both large and small household appliances producers), labor costs account for merely 7% to 8% of total production costs. Thus, the impact of rising labor costs on the household appliances industry is quite limited. Second, the complexity and the length of the supply chain of the household appliances industry have made offshore relocation all the more difficult. It is typically the case that 50% or more of the components of household appliances production are sourced externally and by hundreds of (multi-tier) suppliers. Third, the cost of establishing an appliance factory is too high to justify relocation based on labor cost advantages provided in potential recipient countries.
While production automation technologies have advanced at an unprecedented rate and scale, the impacts on clothing and footwear industries are still quite limited and this is especially true if cost-benefit analysis is taken into account (i.e., it may not be economical even if certain production stages or tasks can be automated by machines or robots). Based on in-depth interviews with business owners, the use of machinery or automation technologies in clothing and footwear production is not meant to replace workers, but to equip them with better 'tools' such that labor productivity and product quality can be improved. Even if the installment of machinery could reduce a certain number of workers, this is more of a 'side-effect' rather than a preset goal.
Moreover, according to the projections of business owners and industry practitioners, the vision of having apparel or footwear production fully or largely automated (within a viable cost range) is not yet in sight. Thus, as the Chinese economy keeps on growing and upgrading, industrial relocation from China is expected to continue and SE Asia is likely to remain the most popular destination in the near future. This is because (1) wage rates in SE Asia are still quite competitive vis-à-vis the wage rates in China; (2) favorable tariff rates enjoyed by SE Asian countries is a key factor that will keep motivating (export-oriented) firms shifting productions outside China. The fact that Vietnam has officially signed the CPTPP in January 2019 and the hazy outlook of trade frictions between China and the US would further catalyze China's manufacturing relocation abroad. Large-scale relocation to Africa has not materialized yet, but the potential looms large in the long run, as Africa is projected to host the world's largest pool of labor by 2050, making the continent the most competitive region for labor-intensive manufacturing production. Having said that, international industrial transfers are not manna from heaven. The extent to which the relocation of Chinese manufacturing could reach the African continent depends on various locally-determined binding factors, such as socio-economic stability, business environment and labor discipline. After all, the cost competitiveness of a country hinges on the summation of factor costs of production and transaction costs. Low-cost labor is only a necessary but insufficient condition in attracting production relocation. A successful large-scale transfer of labor-intensive manufacturing from China would require African countries to keep the transaction costs in check such that their latent comparative advantages in labor-intensive manufacturing can be turned into competitive advantages.
Lead author:
Wen Chen（谌文）, Research Fellow at the Institute of New Structural Economics, Peking University
Report can be downloaded here