Costs rising, China to export inflation

Posted in China | 01-Feb-08 | Author: David Barboza| Source: International Herald Tribune

SHANGHAI: After years of decline, the cost of goods that are made in China is rising, threatening to fuel inflation in the United States and other parts of the world and end an era dominated by Wal-Mart style price-cutting.

Factories here are raising the prices of exports because of soaring energy and raw material costs, a weakening dollar and new regulatory policies unveiled in China over the past year, according to analysts and companies doing business here.

As a result, some Western executives are forecasting that the prices of toys, clothing, footwear and other consumer goods entering the United States could jump by as much as 10 percent in 2008 and 2009. This is also likely to affect other countries that import goods from China.

Indeed, U.S. government statistics already show that after falling for years, the prices of Chinese imports have risen for eight consecutive months, beginning in May 2007.

While the rise was a modest 2.4 percent over the past year, some analysts say the turnaround is troubling, and there are signs of even bigger price raises to come.

"The cost of doing business in China is going up," says Dong Tao, a Hong Kong-based economist with Credit Suisse. "China has been the world's factory and the anchor of the global disconnect between rising material prices and lower consumer prices. But its heyday is over. We're going to see higher prices."

Whether Chinese factories will succeed in making wholesalers pay more for their goods and whether retailers can pass those higher costs on to American consumers is still unclear.

But companies that operate in China or purchase from here are already reeling from a series of mounting cost pressures that they say are threatening to weaken their profits and disrupt their supply chains.

Some of the cost pressures, analysts say, are being fueled by Beijing, which is trying to rein in a soaring trade surplus by removing tax incentives that had once favored exporters of cheap goods.

Last June, under pressure from Washington and the European Union to reduce its ballooning trade surplus, China removed or reduced export tax rebates from hundreds of items, including toys, garments, leather, wood and other goods, effectively taxing some long-favored industries.

But many exporters say the timing of the move was disastrous because their factories had been struggling to cope with an array of other problems, everything from recurring power shortages to higher raw material costs.

For instance, the cost of some types of plastic has risen over 30 percent in the past year, because of higher oil or petroleum costs. Plastic is a major component in toys and other goods.

Also, the value of the U.S. dollar has declined against China's currency, the renminbi, by about 7.6 percent over the past year, and it is expected to decline further this year, according to analysts.

In short, the dollar has increasingly less purchasing power in China.

Cost pressures are also building because of a tough, new labor law that went into effect Jan. 1, which many factory owners say complicates the hiring process and threatens to significantly raise labor costs at a time when parts of China are already plagued with labor shortages and rising wages.

Some factory owners say there have already been strikes and other turmoil over the interpretation of the new law, and how it should be applied.

"We have seen lots of brawls between employees and employers, many strikes taking place," said Hong Jiasheng, vice president of the Taiwan Merchant Association, which represents investors in Chinese factories in the southern city of Shenzhen. "We think the enactment of the new labor law is too hasty."

Toy producers are among the hardest hit by the changes because they rely on large quantities of plastic and cheap labor. Also, toy makers operating in China are now facing increased regulatory scrutiny after a wave of product safety scandals last year, many involving the illegal use of paint with excessive levels of lead.

Hundreds of toy factories were barred from exporting last year because of quality inspection problems; others went bankrupt after being squeezed by rising costs here and pressures from foreign customers to deliver a better product for a lower price.

Even the world's biggest toy makers are not immune from the pressure to raise prices.

"This is what I call the perfect storm," said Alan Hassenfeld, the chairman of Hasbro, the world's second largest toy maker after Mattel.

"We've got higher labor costs and labor shortages, plastic prices have gone way up and we're doing more safety testing."

Toy prices, he added, are likely to rise.

To reduce costs, some factory owners say they are now considering moving to inland China, where labor costs are lower, or to other parts of Asia, such as Vietnam, Indonesia or Bangladesh.

But moving large factories and their massive supply chains is difficult, and could take years, experts say.

Still, makers of toys, apparel and footwear - all of which are labor intensive - are being forced to rethink their supply chains and consider raising prices at an inopportune time, when growth in the United States is slowing rapidly.

It has not been this way for years. Companies that began outsourcing production to China in the 1990s have been the beneficiaries of dramatically lower costs, which has often translated into higher corporate profits.

Now, however, many companies are rethinking their pricing strategy.

According to Global Sources, the Hong Kong trading company, 80 percent of 709 exporters surveyed late last year said they expected to increase prices within six months of the survey.

Most cited raw materials and higher labor costs as the primary drivers of change in a survey that covered the makers of a wide variety of consumer goods, everything from eyewear and writing instruments to bicycles and living room furniture.

Footwear should have also been on the list. While the price of footwear in the United States has declined steadily over the years, including in 2007, that could soon change.

The industry is facing a huge test - a dramatic jump in the cost of producing in China, where wages have gone up over 80 percent in some areas.

"Companies are now ordering for the spring of 2009," said Nate Herman, director of international trade at the American Apparel & Footwear Association, which represents some of the world's biggest clothing and footwear makers, including Nike.

"Factories are coming back and asking for 20, 30, 40, 50 percent price increases," he said.

Will sneaker prices rise?

"It's going to be hard to avoid some increase," he said.