Chinese Whispers: Certainty on the horizon?

The recession is over! Or at least economic data the world over appears to indicate that the downturn that ravaged Western economies is certainly abating. Over the past couple of months, the majority of politicians have been busy announcing their cautious optimism at the state of their respective economies whilst slapping each other on the back as statistics are published. .

China, like some other Asian economies, has managed to escape negative GDP figures though. The most populous nation on the planet’s economic growth accelerated to 10.7 %, the fastest pace since 2007, in the fourth quarter on stimulus spending and record lending of 9.59 trillion yuan ($1.4 trillion) in 2009. This was due to domestic demand and consumption (household consumption currently accounts for 35% of GDP) as well as, most importantly, China’s deep pockets. To add to this, China’s economy has expanded 11.9% in the first quarter of 2010 – the fastest pace in almost three years. At the same time, and in line with the consumer demand in the West picking up, the Purchasing Manager’s Index (‘PMI’) rose to an adjusted 55.1 from 52 in February of this year according to Li & Fung Group indicating a continued expansion in the manufacturing sector. More noticeably, as companies have looked to restock inventory as demand became more resilient, China’s exports jumped 24% in March from a year earlier.

The impact of this rapid growth looks to be aiding the spectre of inflation once more; similar to that being experienced back in 2007. The difference this time is that the volume of imports into China has is rapidly growing; to such an extent that in March, the first monthly trade deficit was recorded (albeit this is also a symptom of inflation as raw materials have increased in conjunction with rising volumes) in almost six years. The Producer Price Index (‘PPI’), a major measure of inflation at the wholesale level, rose 5.4% in February from a year earlier, the China National Bureau of Statistics announced last week quickening from 4.3 percent in January 2010 and from 1.7 percent in December 2009.

Politically and economically, the Chinese landscape is changing. So much so that now China is being talked about in global terms as having the same status as the United States; the China/US G2. As the global markets recover from one of the worst recessions since the Great Depression of the 1930s, China is finally warranting the attention that its scale and power dictates. The question is whether Central Government can live up to the expectations of this elevated status and become more transparent about its policies and take on a larger role on the world stage. With Hu Jintao’s recent attendance at the Nuclear Summit in Washington and a more willing attitude to play by WTO rules when it comes to trade disputes (for example filing complaint over US tyre tariffs September 2009), it certainly seems that there is a move in this direction. There are still, however, certain topics that rely on Chinese whispers to get the message out and it adds to a lack of certainty due to the vary nature of the communication channels.

True of False?

“There’s no perfect time for this. But I predict within one to two weeks something will be announced”. Chen Zhiwu, Professor of Finance, Yale School of Management, 12 April 2010.

A comment made at the Boao Forum for Asia suggests that Central Government are planning to revisit their currency peg, which has dominated the business press for the past three months as the United States and other countries have pressed for a more market orientated currency valuation. There is an obvious self-interest in such requests and one that would help ease the massive trade deficit that the US currently is dealing with. China will, as China always has, move on its own terms though. A point that the Obama administration appear to have recently picked up on with a more subtle approach to getting China to address the issue whilst also allowing them to save face.

What does this all mean for companies purchasing products from China? In short, price rises across supply chains are around the corner, if not already feeding into companies’ order books. There is no doubt that the Yuan will appreciate this year. How much and when is still subject of intense debate. A recent survey of 19 banks suggested that the average year-end forecast would see a 3 percent rise in the RMB against the Greenback at RMB 6.62 to the USD. Similarly, 9 month non-deliverable forwards are currently tracking at a 2.3% gain (13th April 2010). This will increase the cost of Chinese goods although will reduce the impact of raw material inflation, lessening the sometimes significant jumps in prices quoted. Currency appreciation will form part of Central Government’s bigger picture to allow China’s capital account to liberalise over the next 5-10 years ending in the internationalisation of the Yuan.

Product dependant, raw material rises are also having as much impact on product prices. Although, if one is able to provide a commitment to a vendor with an order schedule this should stave off increases over a given period as it will allow them to hold stock. Developing relationships with vendors in this way should lead to greater price stability and provide much better budgeting capability. As fair season kicks off at the Canton Fair and in Hong Kong, it is worth bearing this in mind and asking for a cost breakdown on like for like orders should allow you to establish the impact any raw material may have on the overall unit price.

On a micro-economic level, there are also visible signs of cost increases that will impact manufacturers cost bases. On 1st May, Guangdong will increase the minimum wage by an average of more than 20% in a bid to tempt back some of the migrant workforce (up to 40% did not return after Chinese New Year) to sustain the many factories within the Pearl River Delta adding further concerns to inflation within the supply chain. We have always suggested that there was already a migration of manufacturers away from the traditional manufacturing base in what used to be called Canton and we expect this to assist this process especially for low value added manufacturers leaving behind a more high-tech, automated, high value added factory base. It is essential to therefore not rely on the southern manufacturing base and look further North.

We do therefore anticipate price increases but this trend will not be isolated to only Chinese manufacturers. Other manufacturing economies will likewise have inflationary pressures and it will be down to the manufacturers themselves to increase the efficiency of their operations to maintain competitive pricing. Having a capability to manage vendors at a local level will likewise further allow an understanding of the suppliers’ operations. There is no doubt that Chinese manufacturers are increasingly becoming more efficient and are generally better geared to meet overseas customers’ requirements. Moreover, export rebates still remain in place for certain product categories and it is likely, at least to begin with, that these stay in place to soften the impact of any currency revaluation in the short to medium term.

We therefore believe China will continue to maintain its competitive edge as a global manufacturer. Understanding your suppliers has never been more important; an ability to manage them at a local level and a capability to quickly resource products are likewise critical to delivering value through the supply chain. However, it would be beneficial, in order to prevent further speculation, for Chinese politicians to provide greater certainty as opposed to relying on the whispers of others.

2010
- Jun
- Apr/May

2009
- Dec/Jan
- Sep/Oct
- Feb/Mar
- Apr/May
- Jun/Jul

2008
- May/June
- Oct/Nov