Monday, 11 March 2013

US manufacturing and China’s response…or lack of

For those not familiar with the theme, we have been discussing the US Manufacturing Renaissance for some time at a strategic level. Offering a non-unionised workforce, low and stable wage demands, and a shale gas driven collapse in electricity prices, US manufacturing is currently experiencing a resurgence. Indeed some are even describing US southern states as the next ‘Emerging Markets’.

With US consumers also looking increasingly healthy, levering off an improving housing market, manufacturers are also keen to be closer to their end buyer. Companies such as Apple, Wal-Mart, and General Electric have all announced plans to significantly increase the purchases of domestically produced goods – a process known as ‘onshoring’. But it is not just US companies that are moving factories back to US shores, auto-manufacturers such as Honda and Nissan are also ramping up operations. Toyota is even planning on using its Kentucky site as a manufacturing hub for exports to the wider world.

There remain, however, several headwinds to this great story, not least the fears of a response from the world’s leading manufacturer, China.

China is a nation that has experienced its own manufacturing renaissance over the past decade, and one might imagine that this industrial powerhouse would not be prepared to cede ground to the US so easily? It is clear from the rhetoric from the leadership, however (both old and new), that the risks associated with an economy skewed to manufacturing and construction, have been recognised. There exists, therefore, a desire to transition the economy to a more balanced profile, with services (consumption) in particular playing a greater role. This was further evidenced at China’s recent National People’s Congress when out going leader, Wen Jiabao, made the following statement, “We should unswervingly take expanding domestic demand as our long-term strategy for economic development.”

This strategy of putting more spending power in the hands of the population has resulted in significant upward pressure on wage settlements and also allowed for gradual appreciation of the yuan versus the dollar. These two factors are powerful forces eating away at Chinese competitiveness.

In an attempt to help combat these inflating costs, China has been busy relocating its low end manufacturing inland, paving the way for higher value manufacturing to replace them. Has there, however, been much in the way of innovation to be harnessed by higher value manufacturers? After all, in 2011 China’s £87bn R&D investment was three times that of the UK and double Germany’s (though still a third of the US). Despite these efforts, China still has relatively little to show for it. The major obstacle has been the failure of private enterprise to drive innovation - a likely result of struggles to secure financing. State-owned enterprises, which have no such funding issues, are rife with inefficiencies and prone to disappointment.

An issue facing US (and global) manufacturers, is that China remains home to around 95% of the world’s rare earth production. These commodities are essential components of most advanced technological items, such as iPhones and iPads. With China’s vice like grip on supply, it does prevent ‘onshoring’ of the total assembly line, however, such has been the consequential spike in prices, that longer term projects in more accommodating regions have become economical. There are currently only a handful of mines that supply the global economy with these elements; however, 30 sites have been highlighted as potential sources, with a dozen located in North America. If only a few of these mines prove successful, it would be a further boon to US manufacturers.

Given the structural inefficiencies in the Chinese economy, and the rebalancing of economic growth, we do not feel any efforts made by China would be sufficient to derail America’s momentum. The renaissance continues.

Ben Gutteridge
Divisional Director – Research

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