China’s shrinking workforce has big repercussions
The coming years will be favourable ones for Chinese workers seeking hefty pay rises. A big contraction in the labour force will help their bargaining position no end, as it upturns China’s economy.
To understand the test confronting China it helps to canvass the work of an economist from the Caribbean island of Saint Lucia who won the Nobel Prize in Economic in 1979 for his theories on development.
The “dual sector model” of Sir Arthur Lewis (1915-91) purports that economies advance without triggering inflation because the expanding industrial sector can scoop up labour from the subsistence primary (agricultural) sector [1].
Basically, an unlimited supply of peasants willing to work in factories for low, but not subsistence, wages allows the industrial sector to power ahead by earning, then reinvesting, excessive profits. But there comes a time when the supply of surplus labour peters out and developing countries confront a labour shortage. The point at which an abundance of labour is about to vanish is known as a “Lewis turning point”.
Among its symptoms: wage increases outstrip productivity, industrial profits decline, investment drops and inflation becomes a threat.
A Lewis turning point can loom ahead for any developing economy. China’s problem is that it is charging towards an unprecedented Lewis turning point. China’s challenge is that the exhaustion of surplus peasant labour is coinciding with what is often called the country’s “demographic time bomb,” a rapid ageing of its 1.3 billion population tied to the three-decades-old, one-child policy.
As the IMF warns, “demographics will be the dominant force driving the depletion of surplus labour” [2] and not industrialisation. Another way to think of this problem is that China is poised to become an aged society before it is rich enough to support an ageing population.
Such are the economic consequences of the decision in the late 1970s to restrict urban couples to one child that is estimated to have reduced China’s population by a third [3].
(Rural couples and ethnic minorities, among others, are allowed more children so the birth rate is higher than a strict one-child policy would allow. The global replacement fertility rate is about 2.1 children per woman. The rate is higher for developing countries because of their lower life expectancies.)
Counter steps
What was the China miracle but the marshalling of cheap labour? The IMF forecasts that China’s present labour surplus of about 150 million people will drop to 30 million by 2020 and that the Lewis turning point will occur about five years after that [4].
The IMF projects that by 2030 China could have a labour shortage of 137 million workers and it envisages scenarios where this number could exceed 200 million people. A more immediate concern from the one-child policy is that China’s core working-age population, those aged between 20- to 39-years-old, is already shrinking.
China’s National Bureau of Statistics said the number of working-age Chinese fell by 3.5 million in 2012 [5]. This trend helps explain the 12% to 15% jump in wages across China in the past decade and the labour shortages dogging manufacturers in coastal provinces.
As the idea of scenarios suggests, China’s government can take steps to slow the arrival of the Lewis turning point, even though the IMF warns the “looming demographic changes are large, irreversible and inevitable in the medium term” [6]
Authorities can relax the one-child policy and encourage greater labour-force participation, especially by loosening restrictions on people moving around China. (The hukou or household registration system segregates urban and rural Chinese economically and socially to prevent political disruption.)
Policymakers can take steps to boost productivity and encourage the services sector to expand. They can skill their citizens and encourage investment in agriculture to free more peasants and in automatic and capital-intensive industries to dilute demand for staff.
Foxconn Technology, a Taiwan-based company that employs about 1.2 million people across China making electronic gadgets for companies such as Apple, Microsoft and Hewlett-Packard, plans to have almost as many robots as people in its factories within three years, to cope with China’s looming labour shortage.
Implications
The consequences for China and the rest of the world of a labour shortage in China play out endlessly. China’s workers will enjoy greater bargaining power and wages will assume a larger proportion of GDP. Strikes at plants run by Japanese car makers and Foxconn are signs that China’s workers can sense the upper hand in negotiations over pay and conditions.
Bad publicity around the world on conditions in Chinese factories following a string of suicides is also forcing foreign companies to improve conditions in China. Higher wages would help policymakers achieve, almost by default, their goal of turning China’s economy into one driven more by consumption than investment and exports.
Rising labour costs imply China will face higher inflation, which is now about 4%. After being a source of deflation for the rest of the world over the past three decades thanks to its cheap toys and shirts, China may export inflation.
While it won’t be like an oil shock in its immediacy, its effect will be just as far-reaching over time. China’s deflation, after all, allowed Alan Greenspan to keep US interest rates low enough to create a housing bubble and trigger a global financial crisis.
A shrinking labour force would imply slower GDP growth (though not necessarily lower GDP-per-capita growth.) Government finances will be stretched as they support more retired people. A slower Chinese economy would signal less demand for commodities, a shift that would hit Australia’s exports and hamper our economic growth. But the rest of the world will gain overall if Chinese workers have more money to spend and businesses invest in automation.
Consumer and capital imports might grow to such an extent that China will become, like Australia, a country that posts record perennial current-account deficits instead of surpluses, a transformation that would herald a major rebalancing in the world economy.
Saved by exports
The big danger is that China fails to boost productivity as the workforce shrinks and economic growth slows to below 5%. Higher wages mean lower profits and less investment. Bigger wages bills, the steeper costs associated with improving working conditions, greater industrial unrest (2,000 workers rioted and 40 were injured at a Foxconn plant making iPhone components in Taiyuan in north China in September) and a disdain for boring factory work among many of China’s young are driving production out of China to elsewhere in Asia and even back to the US.
Workforces in Asian countries such as India, Indonesia and Vietnam are about half the cost of Shanghai’s minimum wage. The Boston Consulting Group said faster inflation and higher wages in China will reduce the cost gap between the US and China from 55% in 2005 to 39% by 2015, a figure that goes even lower in overall terms after adjusting for higher US productivity and become virtually zero for many goods [7].
Companies are already responding to these cost shifts. US chip-maker Intel and Taiwan manufacturers Hon Hai and Compal have just opened factories in Vietnam while General Electric and Apple have moved some production back to the US.
Economists regard developing economies that stagnate after blazing away for a while as falling into the “the middle-income trap” (a theory, it must be said, some analysts are cynical about because economies can get stuck at any income level). A study in 2012 by two Asian Development Bank economists estimates that 35 of 52 middle-income countries in Latin America, the Middle East, Africa and Asia are stuck in this hole [8].
They say economies with diverse, sophisticated and off-beat (or non-standard) export bases best navigate their way through middle-incomeness to become high-income countries. China, the world’s biggest exporter, can boast this attribute because Chinese are innovative, making more sophisticated products, enhancing the quality of their goods and developing brands.
While its lack of rule of law and other flaws associated with its one-party political system will be a drag, China’s export prowess and expected leaps in productivity should help its shrinking workforce enjoy wage increases for years to come, especially among the lower paid even if they don’t push so hard.
Financial information comes from Bloomberg unless stated otherwise.
Important information
References to specific securities should not be taken as recommendations.
Investments in small and emerging markets can be more volatile than investments in developed markets.
Investments in overseas markets can be affected by currency exchange and this may affect the value of your investment.
1 Lewis, W. A. “Economic development with unlimited supplies of labour.” The Manchester School, 22. 1954. Pages 139 to 192.
2 IMF Working Paper. Research Department and Asia and Pacific Department. “Chronicle of a decline foretold: has China reached the Lewis turning point?”. Prepared by Mitali Sas and Papa N’Diaye. January 2013. Page 1.
3 Financial Times. “China performs 330m abortions in 40 years of enforced family planning.” Page 1, 18 March 2013. Online version can be found at http://www.ft.com/intl/cms/s/2/6724580a-8d64-11e2-82d2-00144feabdc0.html#axzz2NrrAWtA5
4 IMF. Op Cit. Page 15. Figure 6. Baseline scenario: surplus labour.
5 The Economist. “Peak toil.” 26 January 2013. http://www.economist.com/news/china/21570750-first-two-articles-about-impact-chinas-one-child-policy-we-look-shrinking
6 IMF. Op. Cit. Page 8.
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China’s shrinking workforce has big repercussions
China’s shrinking workforce has big repercussions
The coming years will be favourable ones for Chinese workers seeking hefty pay rises. A big contraction in the labour force will help their bargaining position no end, as it upturns China’s economy.
To understand the test confronting China it helps to canvass the work of an economist from the Caribbean island of Saint Lucia who won the Nobel Prize in Economic in 1979 for his theories on development.
The “dual sector model” of Sir Arthur Lewis (1915-91) purports that economies advance without triggering inflation because the expanding industrial sector can scoop up labour from the subsistence primary (agricultural) sector [1].
Basically, an unlimited supply of peasants willing to work in factories for low, but not subsistence, wages allows the industrial sector to power ahead by earning, then reinvesting, excessive profits. But there comes a time when the supply of surplus labour peters out and developing countries confront a labour shortage. The point at which an abundance of labour is about to vanish is known as a “Lewis turning point”.
Among its symptoms: wage increases outstrip productivity, industrial profits decline, investment drops and inflation becomes a threat.
A Lewis turning point can loom ahead for any developing economy. China’s problem is that it is charging towards an unprecedented Lewis turning point. China’s challenge is that the exhaustion of surplus peasant labour is coinciding with what is often called the country’s “demographic time bomb,” a rapid ageing of its 1.3 billion population tied to the three-decades-old, one-child policy.
As the IMF warns, “demographics will be the dominant force driving the depletion of surplus labour” [2] and not industrialisation. Another way to think of this problem is that China is poised to become an aged society before it is rich enough to support an ageing population.
Such are the economic consequences of the decision in the late 1970s to restrict urban couples to one child that is estimated to have reduced China’s population by a third [3].
(Rural couples and ethnic minorities, among others, are allowed more children so the birth rate is higher than a strict one-child policy would allow. The global replacement fertility rate is about 2.1 children per woman. The rate is higher for developing countries because of their lower life expectancies.)
Counter steps
What was the China miracle but the marshalling of cheap labour? The IMF forecasts that China’s present labour surplus of about 150 million people will drop to 30 million by 2020 and that the Lewis turning point will occur about five years after that [4].
The IMF projects that by 2030 China could have a labour shortage of 137 million workers and it envisages scenarios where this number could exceed 200 million people. A more immediate concern from the one-child policy is that China’s core working-age population, those aged between 20- to 39-years-old, is already shrinking.
China’s National Bureau of Statistics said the number of working-age Chinese fell by 3.5 million in 2012 [5]. This trend helps explain the 12% to 15% jump in wages across China in the past decade and the labour shortages dogging manufacturers in coastal provinces.
As the idea of scenarios suggests, China’s government can take steps to slow the arrival of the Lewis turning point, even though the IMF warns the “looming demographic changes are large, irreversible and inevitable in the medium term” [6]
Authorities can relax the one-child policy and encourage greater labour-force participation, especially by loosening restrictions on people moving around China. (The hukou or household registration system segregates urban and rural Chinese economically and socially to prevent political disruption.)
Policymakers can take steps to boost productivity and encourage the services sector to expand. They can skill their citizens and encourage investment in agriculture to free more peasants and in automatic and capital-intensive industries to dilute demand for staff.
Foxconn Technology, a Taiwan-based company that employs about 1.2 million people across China making electronic gadgets for companies such as Apple, Microsoft and Hewlett-Packard, plans to have almost as many robots as people in its factories within three years, to cope with China’s looming labour shortage.
Implications
The consequences for China and the rest of the world of a labour shortage in China play out endlessly. China’s workers will enjoy greater bargaining power and wages will assume a larger proportion of GDP. Strikes at plants run by Japanese car makers and Foxconn are signs that China’s workers can sense the upper hand in negotiations over pay and conditions.
Bad publicity around the world on conditions in Chinese factories following a string of suicides is also forcing foreign companies to improve conditions in China. Higher wages would help policymakers achieve, almost by default, their goal of turning China’s economy into one driven more by consumption than investment and exports.
Rising labour costs imply China will face higher inflation, which is now about 4%. After being a source of deflation for the rest of the world over the past three decades thanks to its cheap toys and shirts, China may export inflation.
While it won’t be like an oil shock in its immediacy, its effect will be just as far-reaching over time. China’s deflation, after all, allowed Alan Greenspan to keep US interest rates low enough to create a housing bubble and trigger a global financial crisis.
A shrinking labour force would imply slower GDP growth (though not necessarily lower GDP-per-capita growth.) Government finances will be stretched as they support more retired people. A slower Chinese economy would signal less demand for commodities, a shift that would hit Australia’s exports and hamper our economic growth. But the rest of the world will gain overall if Chinese workers have more money to spend and businesses invest in automation.
Consumer and capital imports might grow to such an extent that China will become, like Australia, a country that posts record perennial current-account deficits instead of surpluses, a transformation that would herald a major rebalancing in the world economy.
Saved by exports
The big danger is that China fails to boost productivity as the workforce shrinks and economic growth slows to below 5%. Higher wages mean lower profits and less investment. Bigger wages bills, the steeper costs associated with improving working conditions, greater industrial unrest (2,000 workers rioted and 40 were injured at a Foxconn plant making iPhone components in Taiyuan in north China in September) and a disdain for boring factory work among many of China’s young are driving production out of China to elsewhere in Asia and even back to the US.
Workforces in Asian countries such as India, Indonesia and Vietnam are about half the cost of Shanghai’s minimum wage. The Boston Consulting Group said faster inflation and higher wages in China will reduce the cost gap between the US and China from 55% in 2005 to 39% by 2015, a figure that goes even lower in overall terms after adjusting for higher US productivity and become virtually zero for many goods [7].
Companies are already responding to these cost shifts. US chip-maker Intel and Taiwan manufacturers Hon Hai and Compal have just opened factories in Vietnam while General Electric and Apple have moved some production back to the US.
Economists regard developing economies that stagnate after blazing away for a while as falling into the “the middle-income trap” (a theory, it must be said, some analysts are cynical about because economies can get stuck at any income level). A study in 2012 by two Asian Development Bank economists estimates that 35 of 52 middle-income countries in Latin America, the Middle East, Africa and Asia are stuck in this hole [8].
They say economies with diverse, sophisticated and off-beat (or non-standard) export bases best navigate their way through middle-incomeness to become high-income countries. China, the world’s biggest exporter, can boast this attribute because Chinese are innovative, making more sophisticated products, enhancing the quality of their goods and developing brands.
While its lack of rule of law and other flaws associated with its one-party political system will be a drag, China’s export prowess and expected leaps in productivity should help its shrinking workforce enjoy wage increases for years to come, especially among the lower paid even if they don’t push so hard.
Financial information comes from Bloomberg unless stated otherwise.
Important information
References to specific securities should not be taken as recommendations.
Investments in small and emerging markets can be more volatile than investments in developed markets.
Investments in overseas markets can be affected by currency exchange and this may affect the value of your investment.
1 Lewis, W. A. “Economic development with unlimited supplies of labour.” The Manchester School, 22. 1954. Pages 139 to 192.
2 IMF Working Paper. Research Department and Asia and Pacific Department. “Chronicle of a decline foretold: has China reached the Lewis turning point?”. Prepared by Mitali Sas and Papa N’Diaye. January 2013. Page 1.
3 Financial Times. “China performs 330m abortions in 40 years of enforced family planning.” Page 1, 18 March 2013. Online version can be found at http://www.ft.com/intl/cms/s/2/6724580a-8d64-11e2-82d2-00144feabdc0.html#axzz2NrrAWtA5
4 IMF. Op Cit. Page 15. Figure 6. Baseline scenario: surplus labour.
5 The Economist. “Peak toil.” 26 January 2013. http://www.economist.com/news/china/21570750-first-two-articles-about-impact-chinas-one-child-policy-we-look-shrinking
6 IMF. Op. Cit. Page 8.
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