China manufacturing contracting, Asia expanding as regional demographic changes kick in
Op-Ed Commentary: Chris Devonshire-Ellis
HSBC’s “Purchasing Managers Index” (PMI) this month has raised a number of issues, not least the continuing China contraction. The Index, which is published monthly, features a number of primary manufacturing bases around the world, and is an opinion-driven piece on how purchasing managers view their local climate in terms of increases or decrease of orders. With a mean of 50 points being “neutral,” any figure posted below that represents a contraction, while any figure above that an expansion. China’s contraction has grabbed the headlines, but it is the other Asian countries featured in the index – and especially Indonesia, India and Vietnam – that really catch the eye: All showed expansion.
This is part of an on-going trend and one that will continue indefinitely. HSBC’s comments concerning China are especially revealing: “January data signalled a deterioration of operating conditions in China’s manufacturing sector. This reflected weaker expansions of both output and new business. Firms also cut staffing levels at the quickest pace since March 2009.” This latter sentence means that China-based manufacturing plants HR departments are considering the slowdown to be more than a monthly blip – they are specifically reducing headcount to minimize on-going operational expenses. That is significant because laying staff off in China is an expensive business – China’s labour laws mean compensation has to be paid.
By contrast, India is showing rather more impressive data – the PMI for India reached 51.4 for March, while Vietnam reached 51 and Indonesia at 50.5. Granted, these figures are not spectacularly above the 50 point line, but given a weak global economy one would not expect them to be. Nonetheless, the fact that both India and Indonesia represent huge labour forces at work, and Vietnam is pursuing an aggressive approach to compete with China shows that these numbers are not just a regional whim. They are, I believe, becoming the new normal. I summarize the reasons why as follows:
The worlds manufacturing workshop for the past twenty years, China has now gone over the hump of the optimum worker age in terms of the number of workers to dependents. This means that for each worker, there are increasing numbers of dependents to support – and China has the fastest growing number of elderly in the world. At present, some 200 million Chinese are over 60, a figure that will increase to a full 30 percent of the total population by 2030. China is also losing workers, another trend that will continue. These demographics alone are shaping the global supply chain.
Because of this, the Chinese government has been active in ensuring that the middle class in China becomes wealthy – and fast – in order for them to cater for and finance the new Chinese dependents. With an antiquated and meagre pension scheme, China is looking for the future middle class to finance its elderly and will be pressing traditional “Chinese” family values of piety towards the aged to encourage them to support this burden. Consequently, China has been increasing the minimum wage each year by between 15-20 percent, a situation expected to continue.
China’s middle class today is some 250 million. In just six years, by 2020, it will have reached 600 million, creating a gigantic consumer market along the way. At present, China’s age dependency ratio is still reasonably healthy at 36 dependents per 100 workers, however it is deteriorating fast and is expected to double by 2030. This means the products they will buy will not necessarily be manufactured anymore in China – the labour cost will prove too much. Existing manufacturing will stay – but the products required by the increase in middle class will be sourced and imported from Asia.
Key Note: China lost 2.4 million workers in 2013, an accelerating trend.
One of those sources will be India. Conversely, as China’s workers age, India’s are young – and it has a massive workforce that is still increasing. India’s age dependency ratio is currently 51.4 – higher than China’s – but is set to drop fast.
As India urbanises, it too will take up much of the demand for global production. It needs too – and in doing so it also needs to improve its infrastructure. China meanwhile needs to keep its aged population happy and be able to provide them with affordable products – one of the primary reasons China has offered to pay for up to 30 percent of India’s total required US$1 trillion infrastructure bill to do so. As Indian infrastructure improves, that young dynamic coming into the labour force will keep wages low. Even today, a worker in Mumbai, one of India’s more expensive cities – will be attracting about US$200 a month – compared to US$760 in Guangzhou. Global manufacturing will increasingly find India attractive as a sustainable and young workforce, coupled with improved infrastructure, starts to kick in and take the weight off China’s shoulders as being the world’s global workshop.
Ford, as an example, have already moved their global production base to Gujarat. HSBC stated that Indian manufacturing moved into a higher gear in January 2014, as new orders expanded at the quickest rate in ten months. Concurrently, exports grew at a solid pace and manufacturers raised their production for the third successive month. The rate of output growth was the strongest in a year.
Key Note: India gained 7 million workers in 2013, an accelerating trend.
India won’t have it all its own way of course, and there is still a lot to accomplish there for the country to properly take advantage of its worker demographic dividend. An alternative is Indonesia, as Foxconn have realised by shifting their total China production of Apple products to Java.
Like India, Indonesia has a massive workforce all coming into the labour market at the same time. As HSBC noted, business conditions in the Indonesian manufacturing sector continued to improve at the start of 2014, and that incoming new business grew at the joint-fastest pace in the history of the PMI series. Additionally, the Indonesian government are prepared to make tax concessions to attract the likes of Foxconn, something that India is less willing to do.
Indonesia’s demographic dividend will see it hit a population of 350 million by 2030, with a favourable age dependency ratio to go with it. Couple with this, Indonesia is a member of ASEAN, which enjoys a Free Trade Agreement with China, reducing tariffs to zero on 90 percent of all products traded. Those future ipads, iphones and iwatches China’s aging population will be using will be manufactured in Indonesia, not China.
Key Note: 60 percent of Indonesia’s population is under 30, and that ratio is increasing.
Vietnam has been attracting manufacturing business away from especially South China for much of the past six years, and this is a trend that will burst into life at the end of next year. Like Indonesia, Vietnam is a member of ASEAN, however differs in that it has not yet fully implemented all the ASEAN free trade agreements at this moment. It is expected to do so by 31st December 2015, by which time all tariffs on 90 percent of products traded between China and Vietnam will cease.
With an average monthly salary of US$150 in Ho Chi Minh City, it will mean an explosion of manufacturing business heading for Vietnam from 2016 onwards – and most of that production with no import duties will be destined for the China market. Vietnam’s infrastructure is improving rapidly, and it shares a common land border with China as well as numerous nearby seaports.
Vietnam’s current labour force is about 49 million of which 45 percent are below 35. The workforce is growing at a rate of about 4 percent per annum. As HSBC note in their PMI report for March, Vietnamese manufacturing growth gathered momentum, highlighted by the strongest rise in output since April 2011, and the fastest rise in purchasing activity in the PMI history.
Key Note: Vietnam will reduce its Corporate Income Tax to 20% by 2016 – 5% lower than China.
These scenarios mean that the manufacturing onus is shifting away from China and to South-East and India. The demographics alone dictate this will happen, while the ASEAN-China free trade agreement encourages this trend even more. The new trend of healthy PMI figures for Asia, and a decline in China is already underway, and will indeed become the new normal. The only question is how manufacturers based in China and Asia will now adapt and reposition themselves to take advantage of these demographic changes, and where to shift production too.
Chris Devonshire-Ellis is the Founding Partner of Dezan Shira & Associates – a specialist foreign direct investment practice providing corporate establishment, business advisory, tax advisory and compliance, accounting, payroll, due diligence and financial review services to multinationals investing in emerging Asia. Since its establishment in 1992, the firm has grown into one of Asia’s most versatile full-service consultancies with operational offices across China, Hong Kong, India, Singapore and Vietnam, in addition to alliances in Indonesia, Malaysia, Philippines and Thailand, as well as liaison offices in Italy and the United States.
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