China is without a doubt the most dynamic emerging market of the decade. For the world’s largest communist state, it must feel like they are sailing a ship driven by the wind in one direction and the tides in another. After tax and regulatory changes last year that would have stopped most economies in their tracks, China’s growth has slowed a fraction — from 11.9% for 2007 to 10.6% for the first quarter 2008. But the story is anything but a gentle reduction in growth. Under the surface, there have been changes in investment with winners and losers all around.
Shoes, textiles, toys, indeed many of the industries that fueled China’s early growth on the back of low labor costs in the coastal regions are either moving inland or leaving the country altogether. Average wages have soared 18.3% from Q1 2007 to Q1 2008. The four wealthiest coastal provinces have benefited from some 90% of the inward investment as foreigners have largely shunned the go west policy started by the government in 2000. Even after spending a trillion RMB on infrastructure projects to open up the western provinces, criticism is widespread of the power failures, substandard roads and congested railways all exacerbated by a fragmented and inefficient transportation industry making costs uncompetitively high for industries sited in the west.
The only major metals producers and processors that are sited inland are those companies started by the state pre market liberalization. Many high labor input manufacturers have moved to Vietnam, Thailand and even India ” which is almost laughable when you look at India’s infrastructure — while at the same time China has slipped from top position in the PWC ranking of most competitive locations for manufacturing with Vietnam now taking top slot. Laborers wages in Vietnam ($104) are 41% lower than in China’s central coastal region of Jiangxi and lower still in India ($87). Even so as some firms move out others move in. Investments in high tech chips, electronics and automobiles have been at the forefront of a 59% surge in direct investment during January to March 2008.
There is a shakeout going on in the metals industry in China following the export tax changes earlier in the year. These curbed exports of certain metals. Furthermore, capacity is being closed down due to power costs and pollution concerns domestically while investments in steel and aluminum are going on abroad unabated. China is ambitiously participating in large scale metals manufacturing projects overseas, like this aluminum smelter in Saudi Arabia. Other power hungry smelting industries are likely to follow in due course as the environment becomes less attractive at home.
Overall this won’t change the total demand for metals, whether China produces them domestically or moves production off shore. But it will change the dynamics and that could have a stabilizing affect on the markets in the years ahead. Diversified production will mean lower exposure to weather or regional power disruptions and importing rather than producing many of these raw materials will help to reign in China’s massive trade surplus.