In China: Moving beyond Low-cost Labour

Jayanthi Iyengar | 27 Jun 2020

The possibility of China losing its low cost advantage is becoming more real with several Chinese official agencies last week endorsing Western media reports of labour shortages in the world's most populous country. This could raise the hopes competing low cost destinations such as India, Vietnam, Thailand, Malaysia and Indonesia of being able to attract investments as foreign companies relocate from China to cheaper manufacturing destinations.

However, these same countries could be miscalculating their own chances, if they fail to take into consideration the speed with which China has been moving up the value chain or the multi-pronged approach its policy makers have instituted to transform the country from a low-cost manufacturing destination to a consumption-driven knowledge-based economy.

Predictions of looming labour shortages are not new to China. Reports of rising wages and acute labor shortages have originated first from the Yangtze River Delta, and later, Pearl River Delta area—the most developed regions of China—since 2003.

Reacting to media reports, the Institute of Population and Labor Economics (IPLE) under the Chinese Social Science Institute conducted a study in 2005. Based on the findings, it warned that the decrease in China's annual labour supply seemed to have started in 2004. This decrease was attributed to a deceleration in birth rates on account of China's one child policy and lower death rates brought on by better quality of life and the desire of the rural Chinese to stay at home on account of higher incomes and opportunities.

The IPLE estimated that by 2011, China would have run out of surplus labour, which had been oiling the wheels of Chinese manufacturing till now, as demand matched supply. It also projected that by 2021, the total annual labour supply would begin to decrease. Since then, other Chinese academic organisations like the Academy of Macroeconomic Research (AMR) under the National Development and Research Commission, have added their weight to IPLE's warning.

However, they have not been taken seriously since the IPLE and AMR are considered to be independent think tanks, despite their heavy affiliations. Besides, it was assumed that even if the developed eastern regions of China were facing a shortage, these mismatches would be temporary. They would be corrected over time as farm labour from the poorer central and western regions of China migrated to the more prosperous East in search of jobs and a better quality of life.

However, most recently, the Development Research Center, which reports directly to the Chinese cabinet conducted a survey, covering 2,749 villages in 17 provinces. The findings of this survey show that on an average, 74 per cent of the villages covered said that they no longer had surplus labourers below the ages of 40 available to work in distant cities.

The survey further revealed  that as against the overall average of 26 per cent, only 24 per cent of the villages in central China and 23.6 per cent in western China claimed to have workers in the under 40s group to spare, as against 28.4 per cent in the East—clearly indicating that labour bowl of central and western China whad dwindled considerably.

By May 2007, the IPLE, drawing heavily on the DRC survey, revised its estimates of surplus labour available in China from 100 million-150 million to 52 million. It also warned that labour shortages would start occurring from 2009 onwards, two years ahead of the earlier projection of 2011.

Clearly, given DRC's standing and the nature of sample involved, it is increasingly becoming clear that China is fast approaching the "Lewisian turning point", where a tapering supply of cheap labourers from the countryside will push up wages and ensure that the country stops earning its population dividend.

This point is also being projected to be one when foreign companies, attracted to China by its cheap labour costs, would reevaluate their investment options and consider relocation of their manufacturing units to other low cost destinations.

Interestingly, estimates of a possible relocation fail to take into consideration the speed with which China is moving up the value chain. While "Made in China" labels were considered to be synonymous with cheap quality products, China has largely stopped being the importer of parts like IC circuits for assembly and re-export. On the contrary, China's fastest growing export sectors in 2006 were aircraft parts, shipbuilding, integrated circuits, cars and car parts, electrical machinery and telecommunication equipment.

In tandem, private Chinese companies like Haier and Lenovo are trying to establish a global presence, while the Chinese government has started to invest heavily in manpower, and emerging technologies. It is incubating start-ups to spearhead innovation and to create a scientific temper in China.

China's 15-year "Medium-to-Long-Term Plan for the Development of Science and Technology", announced in 2006, predicts turning China into an "innovation-oriented society" by the year 2020, and a global leader in science and technology by mid-century. This conversion is being backed by an increase in research and development expenditure over the next 15 years, up from 1.23 per cent of the GDP in 2004 to 2.5 per cent by 2020— by when the country's GDP would be significantly larger. Such budgets are being set aside to turn China into one of the top five countries in the world in terms of new patents registered.

Assuming that only half of the goals set are achieved, the greater wealth, higher consumption and higher levels of technology invested in the country would inevitably lead to higher levels of productivity. Such gains are likely to be accrued everyone, including foreign investors in China. Consequently, a higher wage bill 2009 onwards may not matter much to companies based in China. Instead, a growing middle class, with a cavernous appetite for consumables will create the size and scale necessary to keep the vast majority of China's enterprises profitable.

Jayanthi Iyengar is former Financial Editor and Chief of Bureau of The Economic Times, one of India's largest selling dailies. She is now a transnationally published freelance journalist.

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