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US And China: Into The Unknown on 20 January

Business, China, Company Strategy, Economics, Europe, Taiwan, US
By John Richardson on 02-Jan-2017

imagesBy John Richardson

WHERE would Apple be without China’s pivotal role in the globalisation of manufacturing? I think it is fair say that Apple with just 12% of the world’s smartphone sales would not account for 90% of industry profitability (Favourable tax treatment by countries such as Ireland might well be another factor here, but’ that’s a story for another day).

What Apple and many other US manufacturers have benefited from are Chinese central and local government incentives designed to create millions of low-value local jobs. In the case of Apple, the Foxconn factory at Zhengzhou in Henan province employs a staggering 350,000 people during periods of peak production, the New York Times reports in this article.

But unless you’ve been living on the economic equivalent of Mars over the last five years, you will be aware that the “win-win” deal between China and foreign companies in general is evolving. Labour costs are on the rise sooner than should have been the case without the One Child Policy. The priority has therefore shifted to creating higher-quality jobs to justify higher wages in China’s more developed provinces. Investment incentives, such as those available to Apple and other Western manufacturers, are as a result being rolled back in favour of local high-tech champions.

Evidence of this policy shift also includes the bans on Facebook and Twitter, and the difficulties in accessing Google and other Western internet services in China. This is not really about restricting Western notions of free speech, but it is instead about providing a favourable playing field for domestic internet giants such as Weibo, Alibaba and JD.com. The opportunities for further growth in internet advertising and e-commerce are enormous in China, and China wants most of these opportunities to be China-owned.

Sticking with smartphones as an example, China isn’t just assembling smartphones anymore. It is also making low cost but perfectly adequate smartphones from scratch, with internal supply chains benefiting from the One Belt, One Road initiative.

The “win-win” deal is, as I said, evolving for foreign countries and companies rather than coming to an end. A key question is therefore this: Will American trade policy guarantee future success for US chemicals and other companies after 20 January, when Donald Trump will be inaugurated as the new president?

So far, the signs can hardly be described as good.  Take as an example Mr Trump’s comments on Taiwan and his appointment of economist Peter Navarro to head his newly-formed White House National Trade Council. One of Mr Navarro’s books, on the US-China trade relationships, is called Death by China.  The book has also been made into a documentary film.

Pushed into a corner, China might accelerate the process of unwinding investment incentives for US companies such as Apple. What would then be the net effect on US jobs?

More immediately, of course, there is also the risk of a global trade war. This remains my base case for 2017.

But returning to the main theme of this post, it is  not just US giants like Apple that could suffer from a failure to see a “win-win” trading relationship with China. So might small US companies such as Chuck Reid’s Michigan-based company that makes cinema seats. He has recently expanded his workforce from 15 to 40. But as the New York Times again reports, Mr Reid imports around two thirds of his components at low cost from China.

If new trade barriers are erected, will Mr Reid be able to stay in business? In reality, the intimate and complex role that China plays in today’s global manufacturing supply chains cannot be replicated in any other country for many years.

Sure, outsourcing basic assembly jobs to China may no longer be possible for companies such as Apple as China tries to escape its middle-income trap. But there is a lot of money to be made from supplying China with the basic raw materials and the higher-value manufacturing and service skills it needs to guarantee its next phase of economic success. If things go wrong, US companies could be excluded from these long-term opportunities.

As always in these cases, I hope all of the above is way-too pessimistic – and that future US trade policy delivers net benefits to the US and everyone else.

Nobody, though, should be in denial that scenario planning has to include a different global chemicals trading environment after 20 January..