Made in China

As if skyrocketing oil and food prices weren?t enough, Americans might soon find they?re paying more for another item on their shopping lists: imports from China.

Thanks to the global spread of inflation, Chinese toys, electronics, plastics and other goods are getting a bit pricier. Rising factory wages, shipping costs and exchange rates are all adding to the price tags of Chinese products ? and the costs of U.S. companies that have moved their production and supply lines to China.

?The whole picture doesn?t look good,? says Scott Wang, who heads the China desk at the San Diego World Trade Center.

The rising cost of doing business in China was a hot topic at a recent round-table by the World Trade Center and the San Diego chapter of the American Electronics Association.

About 15 high-level executives from manufacturing firms listened as Wang described China?s rising costs, tighter lending policies and declining export subsidies.

?Prices on some raw materials have increased twenty percent over the past year,? Wang warned. ?Because of a new labor law, labor costs are going up five to ten percent, depending on the industry. Beijing is also phasing out its export subsidy, which means that exporters will get five percent less money from the government.?

China is experiencing its worst bout of inflation in 12 years. Chinese consumer prices in May were 7.7 percent higher than a year before, despite generous government subsidies that keep the price of fuel relatively inexpensive for consumers. Food costs jumped more than 22 percent. The Chinese government is responding by pushing companies to raise salaries ? a contrast to the U.S. Federal Reserve policy of guarding against so-called wage inflation. A recent study by the Booz Allen Hamilton consulting firm found that wages in China rose 9.1 percent for white-collar managers and 7.6 percent for blue-collar workers over the past year. That compares with an average raise of 4.3 percent in many U.S. areas.
?China?s advantage in labor costs is diminishing at the same time that the cost of transportation is increasing,? says Simon Croom, executive director of the Supply Chain Management Institute at the University of San Diego.

Wang says local companies are complaining that the rising salaries in China are making it harder to find and retain qualified workers. ?Loyalty to companies is not high in China, so workers often jump to other firms where they are offered better incentives,? he says. The good news is the rising prices in China could inspire some U.S. manufacturers to keep their production lines at home.

Even before the recent rise in prices, some manufacturers were having second thoughts about China. Vaniman Manufacturing, which makes dental equipment in Fallbrook, Calif., shifted part of its production line to China in 2002 to save money. But the company brought the production back to California early last year. Don Vaniman, who heads the company, cited several reasons for his move: shipping delays, security hassles and poor quality control. ?If you order a thousand widgets in four shipments, three shipments might be all right, but the fourth might be totally wrong,? Vaniman says. ?In the U.S., a supplier would jump through hoops to fix that kind of problem, but in China it could take six months to work out the details.?

In addition, rising costs in China, as well as more efficient manufacturing techniques in the United States, erased much of the price gap between the two countries. Vaniman says that six years ago, the cost of producing his components in the United States was as much as 50 percent higher than in China. Now it?s only 5 percent higher ? a premium that he?s happy to pay. Vaniman still gets some supplies from China, but his suppliers are saying they will have to raise their prices 10 percent because of the rising cost of metals and transportation.

Michele Nash-Hoff, president of ElectroFab Sales, a contract manufacturer in San Diego, says two of her manufacturing clients have recently brought production lines back from China to their bases in Southern California. The primary reasons, she says, were that their Chinese subcontractors were using low-quality materials and had problems handling complex assembly procedures. But Nash-Hoff says rising wages and a Chinese crackdown on pollution were adding to the cost of doing business. Oil prices were also making shipping too expensive.

?As energy costs go up, transportation costs rise, and the distance that goods travel begins to matter,? says Paul Bingham, a trade and transportation specialist at Global Insight, a financial analysis firm in Massachusetts. ?For low-value products that take up a lot of space, like furniture, for example, transportation costs can get quite high. And if you?re not saving enough money from using low-cost labor, it makes sense to bring your production lines closer to home.?

Beyond the rising cost of oil, one reason that Chinese goods are getting more expensive is that Beijing ? after years of criticism from the United States ? is finally allowing its currency to strengthen against the dollar. The yuan grew 7 percent against the dollar last year and has risen more than 4.5 percent so far this year. By the end of the year, the yuan will have risen a total of 8 percent, some economists project.

Beijing has a pragmatic reason for wanting higher wages and a stronger currency. History shows that if prices shoot up without salaries keeping pace, it can lead to social unrest. One reason for the Tiananmen Square protest in 1989 was that wages were outpaced by inflation, which was then rising at a slower pace than today. Allowing the value of the yuan to rise further would give Chinese citizens greater power to buy consumer goods while keeping up their strong savings rate.

?China?s not going to be able to accomplish what they want to accomplish if they don?t have a currency that?s more reflective of underlying fundamentals,? U.S. Treasury Secretary Henry M. Paulson recently said, pushing for a stronger yuan.

A rising yuan means further jumps in the price of Chinese-produced goods.