The Independent Market Observer

9/25/12 – More “Interesting Times” in China

Posted by Brad McMillan, CFA, CAIA, MAI

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This entry was posted on Sep 25, 2012 10:40:18 AM

and tagged Yesterday's News

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I have discussed two major China themes over the past couple of months: growing cracks in the economy and—quite possibly as a result, to distract the population—growing nationalism and conflict with its neighbors. There have been riots over the second, brought on quite possibly by the first. Now, for the first time, we seem to have riots driven primarily by economic issues— not by the authorities.

The papers have stories on large riots at Hon Hai, a large manufacturer better known as Foxconn, which is a principal supplier for Apple. The Wall Street Journal (WSJ) has “Chinese Factory Erupts” (p. B1), the New York Times (NYT) has “Factory Riot Underscores Rift in China” (p. B1), and the Financial Times (FT) has “Foxconn halts production at Apple supplier after 2000 workers riot” (p. 17).

The articles identify several contributing issues, the most notable being a generational change as the population ages. Where the older workers were glad to have a job, the younger workers have higher expectations and are more easily dissatisfied. Note that this trend will only get worse going forward. They also point out that demographic shifts have forced factories to move inland to find cheap labor, which can result in existing workers being moved. Finally, the weakness of the world economy has placed limits on firms’ abilities to provide greater pay and benefits, even as expectations are rising.

This growing gap is highlighted in the WSJ’s “Chinese Profit Margins Fall to the Factory Floor” (p. C10). The export-oriented low-tech manufacturing model that has generated Chinese growth so far is hitting its limits, as growing competition and rising costs are pushing margins close to zero. Unless there is a strong recovery in Europe and the U.S., this will probably not change. The growing economic stresses are also stretching the Chinese political system, which does not have mechanisms built in to allow change. The FT has a good article, “Wang and Gu trials dash hopes for legal reform” (p. 4), that outlines some of the challenges.

The fact that these riots are happening in one of the most visible and Western-facing Chinese businesses suggests to me that there are other problems brewing as well. We certainly live in interesting times.

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