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China's cheap labor

An ironic cycle

June 2007

On cycles of cheap labor, growth, and inflation in the global economy.
In industrialized countries around the globe, cheap goods of every description now bear the label "Made in China".  It's not a stretch to compare this time with the 1950s, when cheap goods of every description bore the label "Made in Japan".  They were made in Japan because there, in the aftermath of the war, wages were low while industriousness and industrial skills were high.  Their low production costs made it possible for Japan to outcompete the more high-cost western nations in production of many goods.  For a decade or so, they concentrated on low-cost goods, but this nation which before the war had led the world in production of sophisticated military machinery would not be satisfied with producing trinkets.  Although the subsequent rise of Japan's industry was foreseeable, most western manufacturers were caught unprepared when Japan successfully invaded the western markets with motorcycles, cars, consumer electronics and giant oil tankers.  They offered not only competitive goods, but in many cases better goods.

A natural consequence of Japan's economic rise was inflation.  It's a nice irony:  The very feature that made Japanese manufacture attractive – cheap labor – carried within it the seeds of its own extinction.  Japan experienced a seller's market, getting prices for their goods according to how much Europeans and Americans would pay – in all cases far above their own market.  As money flowed in, labor costs in Japan increased, and the "Made in Japan" label disappeared from cheap goods.  Product labels in western stores soon read "Made in Taiwan", and "Made in Korea" followed.  Not surprisingly, these economies also soon outgrew the "cheap labor" role, and followed the Japanese model into more sophisticated and original manufacture and commerce.

So the latest cheap labor market has become China.  We might expect that this, like the earlier instances, would be a short-term situation, with economic development, inflation, and rising labor costs soon shifting the cheap labor advantage to Indo-China and India (which are already competing in this market), and eventually – as these nations' economies take off – to Africa.  Through this kind of cycle much of the less industrialized world would catch up economically, like Japan, and subsequently, for lack of a cheap overseas labor source, manufacturing would return to its energetically most favored site, which might be back home where the consumers are, or wherever the raw materials are located.

We might expect this logical scenario, but then again, China is not like Japan or Taiwan or Korea.  China is a mixed economy where the market operates where and to the extent that the Communist Party finds it convenient.  As economic success in the coastal provinces eventually forecloses cheap labor there, China will move its "guest" manufacturing facilities inland, where, by appropriate manipulation, the state will be able to maintain low wages for the foreseeable future.  As China will maintain its great advantage in technological, management, and financial skills over other low-cost labor markets, Africa may be waiting a long time to benefit as the next cheap labor market.

But manufacturing may yet come home to roost sooner than expected.  The U.S. Bureau of Labor Statistics estimates that on average, a one percent increase in fuel prices leads to a 0.4% increase in total freight rates.  So a doubling of the price of oil may lead to a 40% increase in transportation cost.  Since the demand for oil is skyrocketing – especially in China – and since per capita world oil production has been on the decrease for nearly 20 years, and since this decrease will accelerate in the near future as oil resources become scarcer and more precious, we are near an explosive increase in oil prices.  This increase will, sooner rather than later, seriously reduce the feasibility of fuel-guzzling transport of imports across the oceans.

At that point, Mexico and Central America, which are already busy sewing garments and assembling cars for the North American market, may be expected to take over more of the US's cheap labor manufacturing "needs".  And frankly, that may not be so bad.  I'll suggest that it's much more in American interests to help bring about a strong economy in Mexico than in China.  This will help normalize US-Mexican relations and stem the current Mexican civilian attempt to take back the border states we lifted from them "back in the day".

© 2007 H. Paul Lillebo

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