Manufacturing in China: Should I Stay or Should I Go?

The Chinese government and the manufacturing industry have set many strategic objectives to upgrade the sector. However, China is still state-led rather than been pushed by a rising middle class. The Purchasing Managers’ Index (PMI), which is published by the National Bureau of Statistics, rose to 51.5 in March compared with 50.3 in February and 51.3 in January. The index is considered a key indicator of future trends in China: over 50 indicates an expansion and below 50 points a contraction. The acceleration is linked to “stronger foreign trade, better industrial structure, and increased business purchasing activities” according to Zhao Qinghe, a senior statistician at the NBS. However, it is fair to say that China’s official PMI statistics generally take the pulse of larger companies and state-owned firms. In fact, a survey of private and smaller companies in the world’s second-largest economy showed a less positive picture (activity last month dipped to 51.0 from 51.6 in February). Manufacturing activity took a dip earlier this year because of restrictions placed on factories by Chinese authorities to curb air pollution, which may have influenced the official PMI.

Much of what we think of as being Made in China is only assembled there. What was once done by hand, with the cost of labour rising, it’s now done by machines that are typically made abroad, contributing, most of the time, only a sliver to the overall value of the end-product. In 2010, according to a paper from the Asian Development Bank Institute, China contributed only 3.6 per cent to the value of an iPhone compared to Japan 34%, Germany 17% and South Korea 13%. The ratio has gone up since then, but it’s still less than 10%. The aim is for China to make a significantly larger share of the components that go into products which are assembled in China. By 2025, the government wants Chinese companies to produce 70 per cent of basic core components and basic materials used in goods manufactured locally.

Despite that, managers are facing some problems with their manufacturing operations in China and that they have been interested in diversifying into other countries. Four issues can be identified as the main causes: rising wages, since China can no longer be considered a low wage country (Chinese manufacturing is not significantly cheaper than some parts of the United States, for instance); rising costs, such as rental rates and rising utilities costs, whose cost are being reflected in the price of manufactured products; declining manufacturing quality, coupled with a general decline in service from Chinese manufacturers over the past five years; and increase in scams involving both foreign manufacturers and investors in the manufacturing sector, such as swapping out product components for lower quality items.

Nevertheless, none of the previous issues have been able to convince companies to move out of China. Most had tried some other country in ASEAN region, but each enterprise has either kept its operations in China or moved back to China. The reasons given for this trend are: inadequate supply chain, such as difficulties to obtain all the components required to manufacture on a consistent and price competitive basis; low productivity, though wages in the other countries are cheaper, the skill in manufacturing and the quality of factories is lower than China; lack of engineering and design support, foreign buyers make use of Chinese factories’ staff to deal with final design and commercialization of product, but outside of China there are no similar expertise.

Many entrepreneurs are critical of current manufacturing conditions in China and a good amount has the desire to move out of China, but in the end, none is convinced to leave China because no other country offers the conditions required for small and medium sized companies to produce their product. The conclusion is that, nowadays, China remains the only practical place to do outsource manufacturing. China, on its side, needs a strong and immediate change and to make sure that Chinese workers, private companies and consumers benefit from a new dynamic and open market of goods and services.

Luca Masoero