The Fate of China’s “World’s Factory”

This aerial view taken with a drone shows pollution being emitted from steel factories in Hancheng, Shaanxi Province, China on Feb. 17, 2018. (Fred Dufour/AFP/Getty Images)

Relations between the United States and China have deteriorated amid the trade dispute. The trade dispute is closely connected  to the “world’s factory.” The “world’s factory” is a metaphor that describes China’s economic role. Because of the trade war, the “world’s factory” is starting to fall apart and it will continue to do so–this is its fate. Its creation has led to its demise.

On Oct. 4, U.S. Vice President Mike Pence delivered a speech that criticized China’s foreign activities, triggering various responses from home and abroad. Some state-run media outlets in China said that Pence’s speech denotes “the sun in the U.S. is setting”–which implies that Washington feels helpless so it picks on China and uses it as a scapegoat to divert the world’s attention from America’s problems. Does the United States have a bleak future? Judging from the U.S. economy’s current state, it is too early to say. Thus my report will not focus on that issue but on China’s “world factory” which shows signs of deterioration due to foreign companies’ withdrawal.

The ‘World’s Factory’: An Unbearable Weight for China and the World

After China joined the World Trade Organization (WTO), it has successfully ushered in a glorious period. From 2003 to 2007, China’s exports have been growing at a rate of more than 25% per year, and the growth rate in some years was as high as 35%. In 1990, China’s manufacturing industry accounted for only 3% of the world’s total, but now it accounts for half of the global market. In the same year, China’s exports accounted for only 2% of the world’s exports. In 2017, it jumped to 14%, and its global export share increased sixfold. However, this rapid growth has caused Beijing to lose sight of the realities of the global market. Can economic globalization make China the only winner? The Chinese regime miscalculated the country’s rapid economic growth because they didn’t understand the basic principles of international trade and development trend.

Based on the principles of international trade, a country with a small population will have a small export volume and its impact on the international market is minimal, or it can sustain a long-term trade surplus. On the other hand, China has a large population and the global market looks so small. We use the following scenario as an example: if China can keep its exports growth rate of 25 percent annually for 20 years, then its manufacturing industry will grow from the current 50 percent to 60, 70 or even 80 percent in the world; at that time, the economic globalization will become the globalization of China’s economy. This situation would only be good for China, but other countries would find it difficult to survive–many factories would be shut down, their economies would be on the verge of collapse. And sooner or later, China will not have enough buyers. China’s labor force accounts for 26% of the global employment. Even if all the industrialized countries in the world stopped exporting and gave the market to China, the glory days of China’s exports cannot continue indefinitely. This is unrealistic from the perspective of international economic balance because trade must be mutually beneficial in order to sustain it in the long-term. If a country in China earns global money, it will sell more and buy less in the long run, accumulating huge foreign reserves. Is there any country that can continuously import goods from China?

Therefore, the “world’s factory” is a metaphor, a description of China’s current state. If the “world’s factory” continues to expand rapidly, then it becomes too big or unbearable for the global economy to handle. And because the “world’s factory” relies on exports and the global market could not handle it, it also becomes a burden for China. At the beginning of this report, it mentioned that the sun in the U.S. is setting–this refers to the hollowing out of the American manufacturing sector. Indeed, under years of pressure caused by China’s illegal subsidies, the U.S. is struggling to cope with a long-term job loss in the manufacturing sector due to unfair trade practices. However, this is not the only reason for the U.S.-China trade war.

China’s Efforts at Technological Upgrade Are the Root Cause of the Sino-U.S. Trade War

Intellectual property is another reason for the trade conflict between the U.S. and China. China’s media outlets say that both sides are embroiled in a long-term trade battle. The U.S. accuses China of “cheating” by stealing intellectual property, while China accuses the U.S. for being a bully. “Cheating” refers to China’s long-term policy of “using the market for technology.”

According to China’s Baidu Encyclopedia, on March 22, 1984, the State Council of China stated in the approval of the State Economic Commission’s ‘Report on the Combination of Technology and Trade and the Purchase of Old Equipment:’ “Combining foreign commodity trade with imported technology, to implement the combination of technology and trade, and to exchange some of our markets for advanced foreign technology–this is a major policy to accelerate China’s technological progress.” In April 1998, the Central Committee of the CCP and the State Council proposed to further open up and increase the level of foreign capital. A number of comments, two of which are explicitly mentioned, are subject to “market-for-technology.”

In 2000, China was ready to join the WTO. The WTO agreement clearly states the prohibition of forced technology transfer, thus the CCP amended its relative policy only on the surface and no longer mentioned it in writing. In the 18 years after joining the WTO, “market-for-technology” has changed from transparent to opaque, and local governments have required foreign companies to hand over technology and drawings (in exchange for the privilege of investing, operating, or selling in China). Recently, the plan to enter the advanced manufacturing industry, represented by the “Made in China 2025” plan, put forward the goal of upgrading its technology in just a few years. In order to achieve the goal, China has been actively acquiring foreign technology through various means. This therefore makes the infringement and defense of intellectual property a key point of dispute between China and the United States.

China is determined to enter the advanced manufacturing industry because the “world’s factory” is losing its competitiveness. Long before the Sino-US trade war broke out, China showed signs of partial decline. The garment and linen factories moved out of China and relocated to south Asia and southeast Asia because of rising labor costs, energy prices and taxes (including social security fees), but the exchange rate remained high. According to a survey by Boston Consulting Group (BCG) in 2014, the average raw cost of China’s manufacturing industry is 5 percent lower than in the United States at that time. A few years ago, the labor-intensive industries, such as clothing and linen, first moved out of China. In response to this trend, Guangdong Province proposed to upgrade its technology. The plan was to move low-scale or low-performing factories (that have little intellectual property, technology or branding) into poor rural areas, and replace them with factories that have advanced technology. The Chinese describe this move as “emptying the cage and changing the bird.”

If China mainly relied on independent research and development for its technology, there would be no cause for complaint. China needs a great amount of private technology to compete in the advanced manufacturing industry and it cannot solely rely on government-funded research and development–it costs a lot and takes too long, and the technology is only good for the military because it doesn’t have much consumer appeal. Therefore, trying to “acquire” technology from abroad has become an important way in upgrading technology in such a short amount of time.

The Fate of the World’s Factory

Developing advanced technology through research and development is not an easy task. If foreign countries were forced to transfer their technology, they would face competition with China in the international market with the same goods. In addition, the value of intellectual property makes China gain extra profit but resulting in long-term losses for these foreign companies. Therefore, the United States regards infringement of intellectual property rights as a key issue in the Sino-U.S. trade war. However, China can only upgrade its technology by stealing intellectual property. Thus the trade negotiation between the U.S. and China is unproductive. The U.S. raised tariffs on Chinese goods, but is the effect really as the Chinese official media said, “The bullets that are shot will eventually hurt American consumers?” This may have some impact on the U.S. market in the short term, but U.S. importers will gradually adjust their supply chains, build factories in southeast Asia and south Asia, and even change the supply chain to the United States. An example of this scenario is Taiwan businessman Terry Guo who has set up a new iPhone assembly plant in the United States. It may take several years to transfer supply chains. Foreign companies in China could be divided. Foreign companies eyeing markets in China, Europe and the Middle East will stay in China, while those relying on America will gradually move out of China.

The fate of China’s “world’s factory” has three meanings. First, the “world’s factory” relied on its low costs to keep it competitive. But these costs gradually increased over time and weakened the country’s ability to compete on a global scale. State-owned enterprises monopolized energy with higher prices, local governments imposed heavy taxes and the high exchange rate of the yuan contributed to the rising costs.

Second, the “world’s factory” relied on advanced technology for its survival. China couldn’t solely rely on its own research and development, thus it resorted to stealing technology or intellectual property so it could create new technology in a short amount of time. Theft of intellectual property and technology is a source of the U.S.-China trade dispute. The trade war will result in the decline of China as the “world’s factory.”

Third, without this status, China wouldn’t have experienced two decades of economic prosperity. It was in this economic prosperity that China paid the price in the trade conflict with the U.S.– it’s losing a big proportion of the U.S. market, causing its economy to weaken.

It may look like China has a way out. But even if China de-centralized its government, fully opened its markets, co-operated and strengthened its relations with the U.S., allowed foreign companies to trade freely without forcing joint ventures and stopped manipulating the yuan, not much can be done because those solutions wouldn’t work in China. The fate of China’s “world’s factory” is actually the fate of its current system. The current system is China’s own demise.

Dr. Cheng Xiaonong is a scholar of China’s politics and economy based in New Jersey. He is a graduate of Renmin University, where he obtained his Masters degree in economics, and Princeton University, where he obtained his doctorate in sociology. In China, Cheng was a policy researcher and aide to the former Party leader Zhao Ziyang, when Zhao was premier. Cheng has been a visiting scholar at the University of Gottingen and Princeton, and he served as chief editor of the journal Modern China Studies. His commentary and columns regularly appear in overseas Chinese media.

Views expressed in this article are the opinions of the author and do not necessarily reflect the views of The Epoch Times.