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How the PRD became the workshop of the world

In the 1870s it was English towns like Birmingham and Manchester that described themselves as ‘workshops of the world’. British firms then accounted for a fifth of the world’s manufactured goods and a similar share of its exports. Later the mantle moved across the Atlantic where cities like Philadelphia and Scranton powered the American challenge. Businesses in the United States made up more than 40% of global manufacturing during the 1950s.

Today it’s China that is talked about in the same way. Critics of the label argue that China’s claim to workshop of the world status is complicated by the complexities of the global supply chain and that its manufacturers don’t have the same influence as their predecessors did in Britain and America. But the numbers make it hard to discount China’s role as a manufacturing giant. In 1990 its economy produced less than 3% of the world’s manufacturing output by value. Last year that share was about a quarter, and the PRD has been at the forefront of this transformation, reinventing itself as a vast manufacturing hub that shapes global trade, swallows huge amounts of investment, and generates the leading share of Chinese exports.

80%

The global share of air conditioners made in China. For mobile phones the ratio is 70%, and for shoes 60%

The export processors

The PRD’s transformation began when a Hong Kong businessman sent a letter to Chinese leader Deng Xiaoping asking for permission to set up a factory across the border. He passed it on to his colleagues. “As I see it, Guangdong should be given a free hand to try this sort of thing,” he instructed.

The region moved steadily to open up its economy and because of the low costs in land and labour, would soon become incredibly competitive. But the problem at the outset was that the Chinese were at least a generation behind in factory technology, and they didn’t have the foreign currency to buy the equipment that they needed to catch up.

The first solution was the “compensation trade”: an arrangement in which local government firms would perform processing or assembly for foreign customers according to the specifications provided by the client, using equipment brought in from overseas.

The Chinese generated processing fees from the deal, and often they kept the imported equipment at the end of the contract.

Employees work at a production line of a garment factory in Huaibei

“One of my first clients imported shoemaking equipment into Guangdong,” recalls Jürgen Kracht, a German businessman who helped foreign businesses navigate the new PRD landscape. “He rented factory buildings and then he did a deal with the local mayor to provide 300 workers.”

For many years customers wanting to buy finished goods from China had to deal with state-owned trade corporations rather than directly with the factories themselves, and Kracht’s role was as middleman, helping both sides better understand the other.

Unsurprisingly, foreign firms were cautious about striking some of these deals, as most of the contact was limited to government officials more familiar with Marxist-Leninist dialectic than manufacturing speak.

“Often our clients would have little say in which factories would get the contracts and this made it a lot harder to maintain production quality,” Kracht adds. “Much of our initial work was checking shipments before they left China to make sure that customers weren’t being sent shoddy goods.”

Later, more businesses adopted the contractual joint-venture model. Early examples included the Dajin Garment Manufacturing Factory in Shunde and the Taiping Handbag Plant in Dongguan. The work contracts became more sophisticated, and there was more stipulation for piece rates for the labour force, Kracht says. This improved the quality of the work being done as workers were only paid for the items that were made properly.

“The sweatshop era – for owners it was very, very profitable”

Jürgen Kracht on the Pearl River Delta’s 1990s boom

Hong Kong businesses took the lead with this business model, moving their factories from the British colony, where rising labour costs and land values had eroded their profits. In 1987 Hong Kong’s governor David Wilson announced that there were at least a million workers in Guangdong processing goods for Hong Kong firms, more than the entire manufacturing workforce in the colony. There was burgeoning interest from Taiwan as well, although Taiwanese businesses in the PRD were usually incorporated as subsidiaries in Hong Kong because they weren’t allowed to invest directly in China.

That meant the transfer of overseas technology and know-how was increasing. But the flow of investment didn’t really become a phenomenon until 1992, when it became clear from Deng’s ‘Southern Tour’ that China wouldn’t be turning back on the path of economic reform. Cities like Shenzhen and Dongguan boomed with hundreds of new factories making garments, shoes, toys, plastic goods and home appliances.

Most of these businesses were run on what became known in Hong Kong as the “shop-in-the-front [i.e. in Hong Kong], factory-in-the back [i.e. in the PRD]” approach. Marketing and design units in Hong Kong took orders for consumer goods from international clients. Their factories in China imported the raw materials to make the goods (for garments, things like fabrics, zippers and buttons, for instance), usually without need to pay import duties and VAT. As the goods were sold overseas, substantial tax breaks were granted too.

“Usually there wasn’t much real tax in China. And because the finished products were re-exported to international customers, the Hong Kong companies claimed the trade as ‘offshore’, so there were no taxes in Hong Kong either,” Kracht explains.

“This was the peak of the sweatshop era. As far as the factory owners were concerned, it was the best of both worlds. It was very, very profitable.”

 

The migrant miracle

While Deng Xiaoping is lauded for launching the modernisation of the Chinese economy, the real heroes of the boom were the hundreds of millions of workers who traded the fields for the factory floor.

The great migration has been a defining feature of China’s economic transformation: before 1978 less than a fifth of its people lived in big cities, but now more than half do.

For perspective: if this vast, floating population was to form its own country, these ‘domestic immigrants’ would make up the world’s fourth most populous nation.

Many have headed for Guangdong, where the migrant population is one of the largest, numbering about 40 million people. These are the foot soldiers of China’s economic transformation – young and unskilled workers, many of them women, who arrived from poorer provinces like Henan, Anhui and Hubei.

Shenzhen and Dongguan, two of the epicentres of the boom, were the major beneficiaries of this human tidal wave. Neither had meaningful populations at the onset of the reform era. Today, they have the largest concentrations of outsiders.

Each year the migrant workers make headlines for swamping bus and railway stations on their annual exodus home for the Lunar New Year. Much of the rest of the coverage of the migrant phenomenon tends to be negative: how the villages they have departed are dying, populated only by the elderly and ‘left-behind’ children; how migrant workers are the catalyists for much of China’s labour unrest; and how many are driven to depression and even suicide by tyrannical conditions at their places of work.

Yet the freedom to leave their homes in search of employment has lifted millions of migrants out of poverty. Many of the rags-to-riches stories in WiC’s ‘Who’s Hu’ columns in its weekly magazine are about young men and women who turned up in the cities with nothing, but now boast fame and fortune.

Today the dynamic is changing, however, as China’s supply of cheap and unskilled labour, once seemingly limitless, has started to dry up.

On the move: China's migrant workers

On the move: China’s migrant workers

44%

The percentage of migrant workers who want to live permanently in their adopted cities, according to a survey from Nankai University

Data from the National Bureau of Statistics suggests that migrant numbers fell by 5.68 million last year – the first decline in a generation – and the shortages have been felt first in provinces like Guangdong, where minimum wages have also been rising the fastest. Low-margin businesses warn that higher wages are making the province uncompetitive and some factories have already moved to cheaper parts of the country. Others are shifting offshore to lower-wage locations in Vietnam, Cambodia and Bangladesh, where hourly pay can be a quarter of Chinese levels.

Local officials counter that much of this exodus is by design, and that they want to clear out the weakest industries and replace them with higher-value businesses. The firms that stay in Guangdong have to adapt to changes in migrant attitudes, too. The current generation isn’t as happy as its predecessors to pick up blue-collar pay and its educational background has been improving: a Nankai University survey in seven cities indicated that half of the migrants hold a college degree. In fact, many of the migrants viewed the cities as their homes, not the towns and villages of their parents. A quarter of those in the Nankai survey had lived in the cities for over a decade, 44% wanted to settle permanently where they worked, and only 29% said they were considering a return to their birthplaces. A key complaint from the migrants is that they are treated as second-class citizens in the cities in which they work, because they lack the household registration permit (called a hukou) that gives access to basic services in healthcare, social security as well as education for their children.

Slowly this is changing. Shenzhen and Guangzhou operate a “points system” scheme that gives a few thousand migrants a local hukou each year, based on criteria such as job stability and length of stay, while Guangdong’s authorities published guidelines last year committing to widening hukou registration to about 13 million migrants by 2020.

Commentators have been cautious about the timetable, noting that hukou reform has been under discussion for years. Others wonder how many migrant workers will take up the new rights. As businesses move inland in search of lower costs, better jobs are becoming available in rural provinces, reducing the need to travel for work. Holders of rural hukou also have rights to use local land, which is owned entirely by the state. Many migrants hope that these claims could become tradable financial assets if there are changes to the land laws, making them more reluctant to swap their rural hukou for urban ones.

The good news about the demographic shifts going on in China – and especially so the PRD – is that shortages of workers are driving up wages, which in turn means those individuals have more to spend. That is helping with the government’s avowed goal of shifting China’s economy away from a reliance on exports to one driven instead by rising domestic consumption.


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