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Chinese Factories No Longer Cheapest

Fri, 02/22/2008 - 9:00am
Elaine Kurtenbach, AP Business Writer
SHANGHAI, China (AP) — The teddy bears selling for US$1.40 in Shanghai's IKEA store may be just about the cheapest in town, but they're not made in China — they're stitched and stuffed in Indonesia.
 
The fluffy brown toys reflect a new challenge for China: Its huge economy, which has long offered some of the world's lowest manufacturing costs, is losing its claim on cheapness as factories get squeezed by rising prices for energy, materials and labor.
 
Those expenses, plus higher taxes and stricter enforcement of labor and environmental standards, are causing some manufacturers to leave for lower-cost markets such as Vietnam, Indonesia and India.
 
''It's true that we are facing difficulties regarding increased costs in China,'' said Linda Xu, public relations manager in China for Swedish retailer IKEA.
 
Though the competition for lower prices is not new, ''we are constantly having to compete with other countries and suppliers,'' she said.
 
While costs in China are rising nationwide, the greatest pain is being felt in the south, where about 14,000 out of the 50,000 to 60,000 Hong Kong-run factories could close in the next few months, said Polly Ko of the Economic and Trade Office in Guangdong, which neighbors Hong Kong.
 
''Wages are rising, materials cost more. Overall, costs are definitely higher,'' says Duncan Du, general manager of Shenzhen Oriental e-Tecs Ltd., an electronics maker in the southern city of Shenzhen.
 
To adapt, many multinational manufacturers — including Intel Corp., iPod-maker Hon Hai Technology Group and Japanese companies like Canon Inc. and Sony Corp. are expanding operations in Vietnam.
 
Auto parts makers are decamping for the Middle East and Eastern Europe, textile-makers to Bangladesh and India.
 
Thousands of smaller Hong Kong, Taiwan or Chinese-run factories in south China's traditional export hub of Guangdong are closing or moving out.
 
As many as 300 of some 1,000 shoe factories in the Guangdong factory zone of Dongguan have closed down, according to a report by the China Light Industry Council. It said half of the shoe factories set up by Taiwan investors had already shifted production to Vietnam.
 
Costs have climbed so much that three-quarters of businesses surveyed by the American Chamber of Commerce in Shanghai believe China is losing its competitive edge.
 
The higher costs mean Western consumers are bound to face steeper prices for iPods, TVs, tank tops and many other imported products made by small Chinese subcontractors.
 
''Americans continue to want to buy at lower prices,'' said Kevin Burke, president and CEO of the American Apparel and Footwear Association. ''They are used to going to the store during Christmas and getting something cheaper than a year ago.''
 
That's no longer a sure thing.
 
Chinese inflation, meanwhile, has risen to its highest in more than 11 years, jumping 7.1 percent in January, as snowstorms worsened food shortages. The biggest price hikes have been for food, but longer-term pressures on prices for manufactured goods will persist, analysts say.
 
''China needs to reprice its exports and that has to be accepted by international buyers,'' says Andy Xie, an independent economist based in Shanghai.
 
But raising prices is tough for Chinese manufacturers when the quality of their products is suspect after a slew of scandals over tainted or potentially dangerous products.
 
At the same time, despite its huge pool of unskilled rural laborers, China's supply of experienced, skilled talent falls far short of demand. The gap has been pushing wages up by 10 percent to 15 percent a year.
 
A new labor law requiring stronger employment contracts is expected to raise costs even more.
 
Prices for plastics and other materials have climbed 30 percent or more, and electricity rates are surging, too. The government has also slashed export tax rebates — originally given to promote exports — on more than 2,800 products accounting for nearly 40 percent of all Chinese exports.
 
The steady appreciation of China's currency, the yuan, also contributes to the problem.
 
At IKEA's Shanghai store, a stroll down the aisles finds most products made in China, rather than Europe or the U.S. But a growing share of the goods come from less developed markets: stuffed toys from Indonesia, wooden train sets from Bulgaria, colorful rugs and throws from India, bed sheets from Ethiopia, baskets and wooden trays from Vietnam.
 
It also is sourcing from inland cities like Luoyang and Wuhan, outside the traditional export zones of Guangdong and the Yangtze River Delta, near Shanghai. In inland China, wages still lag far behind the richer eastern and southern coastal areas.
 
For many companies, especially those focused on the huge potential Chinese market, leaving the country would be a last resort, says Jonathan Woetzel, co-author of a recent book, ''Operation China,'' that outlines strategies for competing in the country's fast-changing business environment.
 
''You'd have to start over, essentially,'' he said in an interview. ''There's still quite alot of opportunity to take cost out of the system. What we do see is supply chains extending inland, for example, going inland for final assembly.''
 
Despite those strategies, prices for China-made products will likely continue to rise in the next few years, causing companies to increasingly look elsewhere, says UBS economist Jonathan Anderson.
 
''Over the medium-term, where are you going to invest if you're building a factory? Maybe not China anymore. Maybe Bangladesh, Vietnam, Indonesia. Maybe India.''
 
Associated Press writers Anne D'Innocenzio in New York and Cassie Biggs in Hong Kong contributed to this report.
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