China - 1; Inflation - 0. What About Competitiveness?

by Alaistair Chan, Moody's Analytics, 12 September 2011

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Risk Management

tags:
capital intensive industry export competitiveness exports imports labour intensive industry revealed comparative advantage unit labour cost

Despite the rapid increase in unit labour costs in recent years China has remained very competitive in its exports especially in light manufacturing. Product upgrades and productivity gains have countered the rise in the unit labour cost. There are regional competitors in these markets, but evidence of China losing out is still absent.

In capital intensive industries China is increasing its specialization in relatively low-tech sectors and not yet competing directly with more high-tech neighbours such as Korea.

The development bodes well for China to maintain its competitiveness through continued adjustments.

One of the most frequently asked questions by clients is whether China will be able to maintain its competitiveness in global trade in light of the rising domestic costs. To many, China’s competitive advantage stems mostly from its vast labour supply and low labour cost. Thus, the rise in labour prices should see the start of an end of Chinese exports.

Exporters will either have to cut their margins to keep prices steady and to maintain market shares; or, at some stage, they will have to pass on the higher costs to selling prices, thereby losing market share to lower-cost competitors.

Unit Labour Costs

A look at the conventional price based indicators does point to a deterioration in external competitiveness in recent years. Unit labour costs (ULCs) measured in dollar per unit of output rose 50% between 2004 and 2009, a significant acceleration from the 12% during the previous five years.

The ULCs of other low-cost producers such as Vietnam and Thailand also increased, but Taiwan and Korea experienced a drop. The ULCs of India, Indonesia, and Sri Lanka are much lower than China’s.

But actual evidence of China losing competitiveness is still largely absent. In fact, rising labour costs have gone hand-in-hand with China’s rapid growth in global market share (from 7% in 2005 to 11% in 2010).

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