The End of Cheap China: Economic and Cultural Trends That Will Disrupt the World (4 page)

Chapter 2

CHEAP CHINESE LABOR? NOT ANYMORE

CHINA’S WORKERS ARE DEMANDING BETTER PAY AND BETTER CONDITIONS—AND THEY ARE EARNING THEM

I opened my car door and was punched with jabs of heat that made me feel like I was stepping into a furnace. A thick layer of brackish grime immediately coated the car’s hood. No matter how often I cleaned it, grit from the filth that blankets the whole country—created by endless construction and peasants burning garbage—seemed to swaddle the vehicle instantly.

To my left I saw a balding security guard in a golf cart, signaling me to follow him toward the entrance to what seemed like the world’s largest building. I was about as far as possible from the gilded meeting room at the Okura Garden Hotel. Instead of billionaires and millionaires, I was about to meet the backbone of Chinese society: thousands of factory workers, whose sacrifices while toiling far from home had helped the country gain much-needed foreign hard currency in the 1990s by making products for Americans.

I was visiting the two-million-square-foot Shanghai factory of Laura Furniture, one of the world’s largest furniture manufacturers. Many of the sofas Americans buy come from this factory, or one of its sister facilities down in Guangzhou in southern China. I was there to discuss with Bob, the president of the company, how to deal with rising labor costs and an appreciating renminbi.

The combination of the two was killing Laura Furniture’s margins, Bob had told me on a crackling Skype call the previous week, and he was looking for strategies to adapt to the changing trends. He needed me to come to see their operations and help them figure out what to do.

Bob told me Laura had faced the same problems in America two decades earlier, when rising labor costs and improved global shipping convinced them to shut their factories in the Midwest and relocate to China in search of a limitless supply of cheap labor. The problem was that cheap Chinese labor had started to disappear in recent years, as Chinese workers demanded better pay. In search of even cheaper labor, Laura Furniture had already opened up large plants in Vietnam and Indonesia several years earlier. But they found the workers there less productive and the transportation infrastructure weak, Bob said, forcing them to consider other strategies.

I met Bob at the entrance to the factory. His meaty hand reached out and shook mine vigorously with a hard grip. Bob was in his mid-fifties and looked like he was dressed head to foot in Dockers. He looked fit; probably a former high school football star, I thought, though the creep of middle age and perhaps too many large, American portions of hamburgers and French fries were starting to show on his belly. As Bob and I started to walk the factory floor, I quickly realized I would not need to do my cardio exercises that night. It would take us 30 minutes to walk at a good clip from one end of the floor to the other.

There were over 10,000 workers on the factory floor. Row after row of women bent over long counters, sewing cushions and pillows. Men were nailing armrests and stapling faux wood to make dining and bedroom sets destined for middle-American homes, the kind with gnomes on the lawn and collectibles over fake fireplaces.

The factory was worlds apart from the sweatshop image many Americans have of Chinese factories, and 180 degrees different from the factories I visited when I first arrived in China over a decade earlier. There were no disgusting fumes swamping the work area or unsecured pipes dangling from the ceilings; no slave-driving managers swaggering around, prodding workers to move faster; no chains and bars locking the windows and doors.

Laura’s factory looked more like a giant, modern sports stadium or one of the dazzling airports opening up all over the country. In contrast to the outdoors, where my car was steadily accumulating an extra coating or two of dirt, the work areas were clean and brightly lit. The air was fine to breathe, and didn’t make me cough or cause my throat burn. Workers varnishing wood pieces wore facemasks and were in well-fumigated areas away from the tailors. While the workers were largely silent, it was not because they were afraid to talk; rather, they were intent on doing their jobs and hitting performance targets to get bonuses.

Bob is a real salt-of-the-earth guy. He looks at you straight in the eye when talking. You could easily picture him as the head coach of your child’s Little League baseball team, or maybe as president of your local Kiwanis Club.

As I made my way across the factory floor, still dazzled by the sheer size of the place, Bob pointed out the red safety lights at the top of each workstation. If a problem occurred on the production line, he said, a worker would hit a switch to flick on the red light, and one of the supervisors, clad in an orange smock, would come right over. Production in that work area would stop until the potential hazard was fixed satisfactorily.

Line workers and supervisors were paid not just by how much they produced, Bob told me, but also for the prevention of workplace accidents. Not only was this the right thing to do, he said, but it also met increasing worker and government demand for safer work environments via more-expensive technology and best-practice management methods. It was important for Laura that workers in China felt like they were part of the Laura family, so they brought the same codes of conduct (no swearing, for instance) and regulations from their American operations to China.

Other companies across China were also installing top-notch production lines in their factories, much as Laura had done. In 2008, Aircraft maker Airbus opened a giant plant in Tianjin, its most state-of-the-art factory and its first final-assembly line outside of Europe. Luxury auto firm Mercedes-Benz announced in 2011 that it would invest a further 30 billion renminbi (almost $5 billion) to produce more cars for sale in China, because it could no longer keep up with demand through imports alone.

New factories being erected across the country resulted in an employee’s labor market, because the factories being built needed a dependable workforce. They were offering huge salary increases and bonuses. Bob told me his biggest nightmare was recruiting and retaining talent. Unlike a decade before, when workers seemed to beg for jobs, and lines of them huddled at the factory gates looking for work, he now faced too many disruptions in production because he could not find enough skilled workers. Higher costs were becoming a serious issue, because salaries were going up as Laura had to fend off poaching from other factories nearby. Bob estimated that total labor costs might double by 2015; no longer were they a small part of the operating expense of running a factory in China.

Perhaps counterintuitively, the labor pool actually dried up during the great financial crisis, as Americans and Europeans increased investment in China to offset flagging sales in their home markets. The tight labor pool was evident not just at the low end in factories, but also in the white-collar labor force. Technology companies such as Microsoft, Intel, and Google—even after it stopped offering its search engine in China—have embarked on huge hiring sprees or have set up research and development centers there. Citigroup announced it would triple its head count on the mainland within three years to 10,000, not for back-office needs but to cater to local clients. Pepsi, Coca-Cola, and Disney all have announced multibillion-dollar investments. Investment banks like Goldman Sachs are increasing their business in China even as they pare their ranks in New York and London.

The result is massive competition among employers to hire workers in China—even at the height of the financial crisis, when billionaire investor Warren Buffett declared that America’s economy had fallen off a cliff. It has become so easy for workers to find jobs elsewhere that they job-hop constantly. Desperate for warm bodies, companies are throwing 20 percent or greater salary increases at workers to steal them from other firms, creating huge paydays for executive recruiters and headaches for general managers.

Bob’s human resource problems are mirrored in company after company. My firm conducted interviews in 2010 with human resource managers and senior executives at Fortune 500 companies. More than 70 percent of respondents said they had annual employee turnover of 30 percent or higher. Nearly 90 percent of the companies reported that their biggest obstacle to growth in the coming five years was not the topics the Western media reports about all the time—corruption, copyright infringement, and rising protectionism—but the ability to recruit and retain talent. In comparison, an 11 percent turnover rate in America is considered way too high and detrimental to business.

One Italian general manager of a small production facility making furnishings and accessories for retail stores told me over lunch that 50 percent of his factory workers leave within two months, no matter how much training and pay he offered them. There was always some factory owner who would offer a little more, even for unqualified workers, because demand for warm bodies was so high. The lack of trained workers was hurting his ability to hit growth targets and meet client demand for products. He was so frustrated, he could not sleep at night and was smoking more.

A New Zealand factory owner, who had facilities in southern China that produced electronic road signs, told me he took 10 employees to Dubai as part of a retention strategy. It failed, he said, because in job negotiations with other firms, they all touted that they had been to Dubai to demonstrate that they were worldly, globe-trotting executives. Within three months of the Dubai trip, three of the employees had left. He was shutting many of his factories in China, and looking to markets like Mongolia, where employee turnover was less of a problem and costs were stable.

As I made my way to the Laura Furniture factory dining room, Bob outlined more of the problems his company was facing. Aside from labor costs going up, he explained, the declining U.S. dollar was further eroding margins and hitting his business hard. Because Laura’s factories are all overseas, a declining dollar means his input costs for production in China or Vietnam are going up, while the end price to American consumers is staying the same, or even dropping as he has to discount more to get Americans to open their wallets. Homeowners were putting off buying new furniture, and in all his decades doing business, he had never seen American consumer confidence so low.

It is an understatement to say he was angry at the calls of U.S. government officials (like New York Senator Chuck Schumer) for China to let its currency appreciate, or that he was frustrated with Federal Reserve chief Ben Bernanke’s decision to increase the money supply through quantitative easing. These wrongheaded policies, he said, just caused more investors to flee the greenback and switch their investment portfolios to commodities or foreign markets, where there were greater possibilities to receive higher returns, and which further increased Bob’s input prices. He did not see commodity prices stabilizing in the near future until the greenback regained its strength and the debt situation in the eurozone stabilized.

Breaking it down further, Bob showed how an appreciating renminbi cut into his company’s profits. If salaries, rents, and commodity prices went up at a conservative 10 percent a year, and the renminbi appreciated 5 percent annually, that meant his overall costs would rise 15 percent a year. Rising costs would not be a big problem if he could raise prices in America, but he worried about doing so, with American unemployment still hovering close to 10 percent and consumer confidence at decade lows.

For Bob, the combination of the depreciating dollar and rising costs in China is eroding margins, which means lowering bonuses, salaries, and dividends for American senior management. He told me the problem he was facing was also happening to most of his peers in the American business community who had already shifted production to China.

Once I got Bob going about the state of the global economy, he couldn’t stop. An appreciating renminbi wouldn’t save American jobs either, as economist Paul Krugman had been saying it would on the
New York Times
op-ed page. “That ‘saving American jobs’ argument is ridiculous,” Bob said. “How many firms realistically will go back to America? They’re going to look for even cheaper production locales. Krugman doesn’t understand business, just theory.” As labor costs rose, Laura Furniture had opened factories in cheaper countries like Vietnam and Indonesia, but certainly not America.

Relocating to Vietnam and leaving China completely is not a solution, Bob admitted, frustration creeping into his voice. He said Chinese workers overall have more experienced line managers, and more drive and ability to produce more sophisticated products. “Our Chinese workers produce more pieces with far superior quality, given the same amount of time, than our workers in Vietnam,” he said. “In China, it seems like they know if they do well, they can get promoted and make a lot of money in the future. In Vietnam and Indonesia, the workers do not seem to see that they can go up and make a lot of money eventually, so they move at a more measured pace.”

Equally important, the level of infrastructure development in Vietnam and Indonesia was 30 years behind China’s. “Vietnam just doesn’t have the roads and shipping facilities that China has,” Bob said. He told me Vietnam and Indonesia are efficient markets for relatively simple manufacturing, like apparel or athletic shoes, but not for more complicated or time-sensitive pieces like bedroom sets or the latest electronic gadgets. As a result, Bob was forced to keep all of his higher-end production in China, despite the rising costs, and was planning to raise end prices to American consumers as soon as he could or else take reduced margins. He was now using his factories in Vietnam and Indonesia to reduce costs at the lower end of the production scale.

The shortage of skilled Chinese laborers and subsequent rising costs made me wonder exactly how much the factory workers in China were making now. A senior Chinese seamstress—typically a 22-year-old with four or five years’ experience—earned about $800 a month—three or four times the wages in Vietnam, Bob told me. That is an astounding number, I thought. I recalled from an internal study a colleague of mine had done to benchmark my firm’s starting salaries that entry-level, university-educated workers at white-collar firms like Deloitte and Citigroup made similar wages. I wondered how young Chinese auditors and investment bank analysts and their parents felt when they found out that factory workers sewing cushions or stapling headboards were making more than they were. A university degree was supposed to be their ticket to riches.