China hits a welcome turning point
China’s massive supply of cheap labor may at last be drying up, a development that in time will bring higher wages, inflation, a stronger yuan and help to right dangerous global imbalances.
If these trends hasten financial liberalisation they could eventually set the stage for a broader Chinese bubble.
The formerly extremely unequal balance of power between workers and employers in China appears to be shifting.
Workers for a Chinese company which supplies Honda with auto parts have struck and successfully won large wage increases. Other strikes have followed, and firms have often been quick to compromise.
Hon Hai’s Foxconn, an electronics unit that supplies many leading western brands, moved to more than double many salaries as part of a series of reforms after a spate of suicides among workers at its highly regimented factories. Several regions have implemented or are debating increases to the minimum wage, a standard which didn’t even exist in China as recently as 2004.
Much of China’s economic development in the past 25 years has been built on the back, or backs if you like, of rural workers who were desperate to relocate to coastal manufacturing centers, wave upon wave of whom kept wages in check even as the economy boomed.
The one child policy and rapid development of the manufacturing base may finally be about to collide. A US Census Bureau analysis of Chinese data estimates that the number of 15-24 year olds joining the work force will fall by 29 percent over the next decade.
“China is likely experiencing a Lewis Turning Point, after which the disappearance of surplus labour will raise real wage inflation and trigger a rise in wages’ share of income,” Wengsheng Peng, an economist at Barclays Capital in Hong Kong wrote in a note to clients.
“China’s vast size and the differing stages of development of its regional economies suggest that the turning point is likely to be a gradual process lasting many years, or a turning phase, rather than an abrupt shock.”
Named for the Nobel Prize-winning Saint Lucian economist Arthur Lewis, a Lewis Turning Point describes the stage in the development of an emerging economy when labor shortages bring on inflation and slowing growth.
While slower growth brings on its own challenges, the emergence of a newly well paid class of workers helps to drive domestic consumption and the development of the service sector.
This is what the world has been waiting for from China.
SHANGHAI THE NEW YORK OF THE 21ST CENTURY?
To be sure, all of this is highly speculative and will only be known in retrospect. The new labor militancy may simply be the result of workers seeking to make up ground lost during the cyclical downturn of the past two years, when many took pay cuts or received scant raises.
There are some signs of emerging inflation in China, but the headline figure of 3.1 percent, though above government targets, is not yet the kind of stuff to remake the world.
If, however, wage inflation is becoming structural then the arguments to allow the yuan to strengthen against the U.S. dollar will become stronger. Besides pacifying its trade partners, a stronger yuan would make imported goods cheaper, dampening a source of artificial inflation built into China’s policy of pegging the yuan well below its likely value as a free floating currency.
This would be a godsend for the U.S. economy, which has been distorted towards consumption by rates kept low by Chinese policy and which needs desperately to earn its way out of its debt hole by rebuilding exports.
It will be a less attractive prospect for China, but the pill would be sugared if a stronger yuan came along with stronger domestic consumption.
Here is where we get to the bubble part, but maybe not for years. As China transitions to a more service-oriented economy it will want, desperately, to build up that most lucrative part of the service sector, financial services.
With currency and capital controls in place Shanghai will never be able to challenge New York or London as a financial center and the government will have to look on as a portion of even Chinese capital intermediation takes place off shore.
If, on the other hand, China allowed the yuan to float and capital to move freely, things might be very different. As outlined by Societe Generale strategist Dylan Grice last year, currency and capital deregulation could set the stage for a massive bubble.
Money will pour in to an appreciating yuan, and while Chinese growth may be less than it was in the past ten years, it is still likely to be very attractive relative to global norms.
A compelling story, a rising currency, and the world’s biggest and newest middle class – prices could easily spiral. From a Chinese standpoint, from a U.S. standpoint and from a sum of human happiness standpoint, that might just be a bubble worth having.