It is often reported by the Western media that China is trying to transform its economy from a manufacturing economy into a service economy. In fact, this is more than a little misleading.
I’ve never seen a statistic on the topic but I have to believe that the number of restaurants per capita in China has to be among the highest in the world. They’re everywhere. And they’re all staffed with probably four times as many workers as there ultimately will be as wages continue to rise.
There are certainly more bus drivers and taxi drivers here, both official and ‘black’, than in any three other countries combined. And while modern trade retail is underdeveloped there are street vendors and markets everywhere you look, while at every traffic light at every major intersection in every major city in China you will be barraged by people handing out advertisements for this new apartment complex or that new restaurant.
Every household that can afford one, and there are many, has at least one housekeeper. Gas stations still provide attendants to pump your gas. There is a bank on every corner. And since the air is not pristine and the Chinese are fanatical about their cars, car detailers abound.
And then, of course, there are the armies of people who are sweeping the streets or maintaining the ample landscaping along every major thoroughfare.
In short, if you look at the issue simply in terms of where people are employed, China is a service economy already. The challenge it faces is how to employ the millions of waiters, waitresses, and dishwashers who will be unemployed once the declining pool of workers begins to push wages beyond the tipping point. (China’s labor pool shrank by 9.5 million workers over the last three years.)
What China is really doing is developing a two-prong strategy. The first is urbanization. While countries like the U.S. no longer even count farming as an occupation in its census due to the small number of people who actually work as full-time farmers, half of China’s population still lives in rural areas, many tilling the soil.
And since bringing people out of poverty is really a game of leveraging population density, China is undertaking a massive urbanization program with the objective of having 60% of its residents reside in an urban area by the year 2020.
Now, that doesn’t mean they want to move everyone to Beijing, Shanghai, and Guangzhou. In fact they are trying to strictly limit growth in those existing urban areas because of the pressure that already exists on the environment and the urban infrastructure.
Instead, urbanization in China means bringing the urban to the people. China’s urbanization strategy is a process of developing the smaller cities closer to where the rural population resides now bigger. (Remember that a Tier 3 city in China might be the size of Boston.)
The second strategy rides on the back and reinforces the first. Rather than de-emphasizing manufacturing, China wants to transform it. As the Chinese say, it wants to transform its manufacturing sector from being the biggest to being the strongest.
Simply put, China wants to move up the value chain. Today they dominate the bottom rungs of the manufacturing value chain in many industries, but these are typically the rungs where the margins are razor thin and the competition with new emerging manufacturing markets is the fiercest.
Although designed in California, as the box says, Apple manufacturers most of its iPhones in China. By one estimate, however, only 3.4% of the profits from the sale of each iPhone worldwide stays in China. The rest goes to other countries that provide higher value components and services, including the U.S. and Japan.
China is the largest aluminum producer in the world. Yet most of the aluminum used to build aircraft, an industry in which buyers must be as conscious of quality and product attributes as price, uses aluminum made elsewhere.
In short, China is stuck with most of the environmental degradation, health and safety risks, and little of the profit of the now global supply chain. And it wants to change that.
Premier Li Keqiang recently announced Made in China 2025, a government led initiative that is China’s answer to Germany’s Manufacturing 4.0, the merger of IT and automation into cyber physical systems that will usher in the Fourth Industrial revolution.
The details of China 2025 are undefined at the moment. But the government has defined the ten industries it will concentrate on and, by implication, ultimately wants to dominate. They are:
Biomedicine and high-performance medical apparatus
Aerospace and aviation equipment
Maritime engineering equipment and high-tech vessel manufacturing
High-end numerical control machinery and automation
It will be a huge task. There is no question that China has the government capital and the will. But does it have the skills and do the right people have access to that capital?
If you look at a country like Germany, we all know the names BMW, Mercedes-Benz, and Siemens. But as much as these industrial titans mean to the German economy, the German economy stands on the backs of medium-sized companies, many of which support these industrial consolidators.
In China, by contrast, you find the same duality on the manufacturing front that you find in everything else. There are the gigantic state-owned enterprises (SOE’s) and the uber-small private businesses that employ a large percentage of the people. In Dongguan alone, an area at the heart of China’s industrial manufacturing export boom of recent decades, it is estimated that there are as many as 300,000 private manufacturing companies. Many are very, very small and it often takes a complex web of them to actually produce a usable product.
There are exceptions. Alibaba and Lenovo are two examples. These are world-class companies producing high value-added goods and services. At the moment, however, these are the outliers.
To pull it off, and I never bet against the Chinese, the government will have to undertake four wrenching structural reforms all at the same time.
• Banking reform – With the elimination of the gray market on which most small companies historically relied for capital, many small and medium sized companies have lost access to capital. The state-owned banks that dominate the banking sector are institutionally risk-averse and limit their lending to the large SOE’s that have been their historical bread and butter.
• Education reform – Today’s rote education system must pivot away from the acquisition of knowledge and focus instead on promoting creativity and collaboration.
• Legal reform – Leadership in any of the ten targeted sectors will require a lot of intellectual property. If anyone can come along and help themselves to it there will be no return on the investment made to develop it and the constant innovation necessary for leadership in these fields will come to a halt.
• Reform of the Hukou system. If labor cannot move freely around the country, and bring their families with them, the pool of talent from which these companies can draw will greatly diminish their ability to find the talent necessary for the strength they seek. (This will also be necessary for China to meet its urbanization objectives.)
And there will have to be fundamental shifts in business and consumer culture. Chinese investors, including business, are very short-term in their focus. They manage to cash. Manufacturing strength, however, often requires long-term investment.
It can be done. Of that I’m sure. And at least having a national manufacturing strategy is a very good place to start.
As Yogi Berra said, however, “In theory there is no difference between theory and practice. In practice there is.”
View the author’s literary work written under the pen name of Avam Hale. They are available at Amazon and most major online retailers in both electronic and print formats.
Copyright © 2015 Glassmaker in China
Notice: The views expressed in this post are strictly those of the writer acting in a personal capacity. They are not in any way endorsed or sanctioned by his employer or any other individual with which he may be personally or professionally affiliated.