Just In Time -- The China Misconnection

For some manufacturers, it's getting too expensive to offshore their production to China.

If part of your competitive strategy is offshoring production work to China because labor is so much cheaper over there, raw materials are easier to acquire and there's a very favorable "renmibi vs. dollar" currency advantage, it might be time to rethink that strategy. While U.S. companies aren't exactly stampeding over each other to exit the dragon, several developing trends indicate that Chinese manufacturers have lost a lot of their luster.

China's problems with quality have been pretty well documented by now, with so many large-scale recalls that they all tend to blur after a while. (You probably heard about the recent heparin recall in the United States, but did you hear about the mass recall of Chinese meat products in Japan, or the roast eel recall in South Korea, or children's face paints recalled in the U.K.?) As we saw with the Mattel toy fiasco last year, the ultimate blame for the recalls doesn't always fall on Chinese shoulders, but nevertheless, until China itself demonstrates its commitment to a Six Sigma-level of quality standards, the "Made in China" tag will continue to raise concerns among consumers throughout the world.

But that's old news, just as concerns with counterfeiting and intellectual property piracy, inadequate infrastructure, and a lack of environmental standards are old news. Today, the problem is much more basic: It's starting to become too expensive to offshore production to China.

According to a new study conducted by Booz Allen Hamilton and the American Chamber of Commerce (AmCham) Shanghai, more than half (54%) of the U.S. companies surveyed believe that China is losing its competitive edge to other low-cost countries in manufacturing. To some extent, success has spoiled the Chinese, with rising costs of labor and raw materials siphoning away some of the main advantages the country had to offer U.S. manufacturers. Concurrently, a stronger renmibi is limiting profit margins for companies who have factories in China.

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See Chain Reactions: David Blanchard's blog about supply chain management.
"The manufacturing philosophy employed by many foreign multinationals in China is in need of an overhaul," says Ronald Haddock, vice president, Booz Allen. "China's changing cost and currency structure have shifted, forcing companies to rethink how they structure their Chinese operations and how they perceive China in their overall global strategy."

In that same survey, 17% of the respondents say that they're seeking other countries with even lower wages and labor costs than China, with Vietnam ranking at the top of the list of alternatives, followed by India. With blue-collar wages up 7.6% in China (admittedly, that's not saying much -- the median hourly wage was 53 cents in 2007, according to the IW/MPI China Manufacturing Study), companies committed to paying the absolute rock-bottom amount for production workers are starting to look elsewhere for their cheap labor.

And while wages are slowly starting to climb in China, so too are job dissatisfaction and turnover among Chinese laborers. A study of Chinese factory workers conducted by researchers at DePaul University and the University of Texas at Arlington suggests that worker shortages and poorer quality of goods and services (if you can imagine that) will be the likely results unless the lot of the average worker improves substantially.

If the Chinese companies don't improve job satisfaction in their factories, notes DePaul University's Bin Jiang, "they will be unable to recruit enough workers. And as China continues to develop, more workers will say no' to traditional low pay, long working hours and poor working conditions." With a labor turnover rate already over 20%, China's factories are not only a prime source of worker dissatisfaction but in fact a serious threat to the supply chains of the multinational companies employing those workers, Jiang states.

Despite all of the above, the vast majority (83%) of multinationals currently in China plan to stay in China, according to the Booz Allen/AmCham survey. The sheer size of the Chinese market is too powerful a lure to U.S. manufacturers for them to just move on to another country. Even so, as costs -- and quality problems -- continue to increase, seeking a Chinese cure to their problems may seem like bad medicine indeed.

David Blanchard is IW's editor-in-chief. He is based in Cleveland. Also see Chain Reactions: David Blanchard's blog about supply chain management.

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