Reinforcing the World Factory

Global manufacturing faces the same dilemma as Chinese manufacturing

By Zhang Lijuan

A few countries seized the opportunity of the coronavirus outbreak to upgrade their protectionist agendas by decoupling and disrupting the global industrial and supply chains. For example, Japan has implemented a plan to “recall” some Japanese companies, while U.S. National Economic Council Director Larry Kudlow encouraged U.S. businesses to return to the U.S., arousing speculation that the global industrial chain was severing connections with China.

Will the changes accelerated by the pandemic decouple the global industrial chain from China? Will China’s “world factory” status be shaken? What should China do to consolidate and upgrade its position and role in the global value chain?

Backlash Against Globalization

In recent years, international competition in the manufacturing industry has been undergoing profound changes. Under the shadow of the novel coronavirus outbreak, the situation is becoming more complex and posing new challenges for China’s manufacturing industry.

Zhou Mi, a researcher with the Chinese Academy of International Trade and Economic Cooperation under the Ministry of Commerce, believes that current circumstances have brought China’s manufacturing industry three challenges: First, overall demand has weakened significantly with the general slowdown of global economic activity. Demand for both final consumption goods and intermediate goods may not recover to pre-pandemic levels for some time. Second, the supply and demand structure of the market has changed dramatically. The pandemic has accelerated changes of economic and industrial patterns in every country while restructuring the global supply chain, which had made it necessary for Chinese companies to search for new upstream and downstream economic and trade partners. Third, the pandemic has changed the modalities for the global allocation of factors of production. Cross-border travel restrictions and other measures to contain the virus have accelerated technological progress and innovation in a way that has profoundly impacted business development.

The pandemic aggravated numerous challenges for China’s manufacturing industry including difficulties in production resumption, supply chain fragmentation, sluggish market demand, and derivatives blights such as tight cash flow, pressure of wage payment and loan repayment. The added value of China’s manufacturing industry in the first quarter of this year declined 10.2 percent year on year, evidence of the short-term impact of the pandemic.

“The most important player in the global manufacturing industry, Chinese manufacturing is facing interruptions in the supply chain, export stagnation and other major difficulties after the global spread of the virus,” commented Wu Shiqian, a graduate tutor at Shanghai University’s School of Journalism and Communication, “But the recall of the manufacturing industry in certain countries is backlash against globalization and inconsistent with laws of development in the global economic landscape. It’s only natural that labor intensive industries with low added value operate in different places.”

According to Liu Xiaoguang, a researcher with the National Academy of Development and Strategy and assistant director of the Economic Research Institute of Renmin University of China, China’s advantages in developing manufacturing are obvious. It is not feasible for individual countries to recall their manufacturing capabilities while coping with the impact of the pandemic. At the end of the day, capital is profit-driven. China is not only a world factory, but also a global market and an emerging innovation market. As the world’s largest industrial country, China has a complete production system and a complete industrial chain with an increasingly mature industrial system based on innovative research and development. China has a massive domestic market that is growing and upgrading constantly. The country has strong demand for both final goods and intermediate goods—strong and sustainable demand. Such factors are huge advantages for China as it develops the manufacturing industry. At the same time, China is constantly promoting market-based allocation of factors of production to further boost the vitality of the market economy. So, it is not in the long-term business interests of individual countries to bring back their manufacturing operations.

Liu argues that in the short term, multinational corporations lack the means or strength to recall their business from abroad while dealing with the severe impact of the pandemic. Among the world’s major economies, China has taken the lead in getting the pandemic under control with timely and effective containment measures before returning to full production. In contrast, the virus has spread at a faster pace in other parts of the world, spinning out of control in many European and American countries. Under such circumstances, it’s wiser for multinational corporations to continue operating in China instead of returning to their native countries. Meanwhile, the pandemic has dealt a big blow to the manufacturing industry around the world, forcing global manufacturing to face the same dilemma as Chinese manufacturing. Multinational corporations are not in the position to consider closing businesses in China and investing in new businesses in their native countries while dealing with broken global supply chains, inadequate market demand, and tight cash flow. Such a move would only put them under tremendous pressure of capital and debt repayment, which would unlikely be eased by the high debt-to-GDP ratio in their native countries. With an incomplete domestic industrial system and drastically shrinking market demand in their native countries, returning corporations would likely face major losses.

On May 29, the American Chamber of Commerce in China released the results of a flash survey to measure the impact of the COVID-19 outbreak on its member companies, which showed that 38 percent of respondents would maintain previously planned investments or increase planned investments, which was consistent with the results of the previous month. Furthermore, 24 percent of respondents indicated that they were increasingly in need of support from their teams in China for global operations, up 10 percent from the previous month.

“This indicates that both patience and confidence of foreign investment in China are stabilizing alongside the recovery,” said Liu.

 ‘World Factory’ to Be Reinforced 

The complicated changes and adjustments in the global industrial chain caused by the pandemic will impact China’s status as a global manufacturing center and the competitiveness and influence of Chinese manufacturing in the global market. But will China’s “world factory” status be shaken?

“China’s manufacturing industry is now facing two-pronged pressure from both home and abroad,” said Wu Shiqian, “But in the short term, China’s manufacturing industry is a global leader in industrial chain integrity. For the long term, China’s manufacturing industry will be adjusted and optimized for high added value. The rapid development of the industrial internet, artificial intelligence, and other technologies will help China’s manufacturing industry continue to lead the world. In 2010, China’s manufacturing output surpassed the United States for the first time. It has remained in first place ever since. Many countries in the world rely heavily on Chinese manufacturing. China’s ‘world factory’ status will not be easily shaken.”

Liu Xiaoguang agreed that the pandemic has caused changes and adjustments in the global industrial chain. For the short term, the worsening of the pandemic has hit industrial systems and supply chains hard in some countries. Many countries have had to lock down for extended periods. Risk of the global industrial chain becoming paralyzed persists while demand for trade has contracted markedly. In the medium term, the different levels of impact on different economies and rhythm of recovery from the pandemic will be highlighted by regional hot spots during recovery of the global industrial chain. For the long term, the severe impact of the pandemic on global economic order and governance and the intensification of domestic social issues in different countries could exacerbate trade protectionism and populism, creating severe challenges for the globalization process and the global industrial chain.

“China’s ‘world factory’ status will not be shaken in the short to medium term,” said Liu. “Quite the contrary, it will become more consolidated. Look around the world and you will see that China is among the most active major economies. The pandemic has been effectively contained in China aside from a few imported cases and isolated cases here and there. China’s macroeconomic policy space is relatively adequate as reflected in relatively low debt-to-GDP ratio and relatively high policy interest rates and reserve requirement ratios. China’s financial markets have been relatively stable and shown remarkable success in preventing and defusing major financial risks over the past few years. And the sharp drop in international crude oil prices has helped China, a net importer of oil, reduce manufacturing costs when resuming production.”

Zhou Mi pointed to the decisive role of the market in the allocation of resources determining the investment behavior of companies. Over the years, as China’s local manufacturing industry has developed rapidly, many global manufacturers have settled in China— not simply for the cost of labor, but also for the benefits of the stable investment environment, wider openness, and access to a market with huge growth potential. For many years, neither appreciation of the Chinese currency nor a global financial crisis has changed the international competitiveness of Chinese manufacturing. So, the situation is also unlikely to change with this pandemic. China has taken the lead in effectively containing the virus and returning to production with a strong competitive edge.

‘New Infrastructure’ to Boost Upgrading

In its 40 years of reform and opening-up, China has built an industrial system that is both comprehensive and independent. It is the only country in the world to have activity in every section of the United Nations’ International Standard Industrial Classification of All Economic Activities (ISIC). China’s manufacturing industry, at the heart of the industrial system, already possesses a global advantage in scale. Against the backdrop of changes and adjustments to the global industrial chain caused by the pandemic, how should Chinese manufacturing consolidate and upgrade its position and role in the global value chain?

“Chinese manufacturing sector has advantages such as an integrated industrial chain, a large domestic market, early development of the industrial internet, and a high degree of automation,” said Wu Shiqian, “Chinese manufacturing cannot do without the help of ‘New Infrastructure’ (an economic development concept based on new high-tech infrastructure such as 5G, big data, and artificial intelligence as opposed to traditional infrastructure-based development) to address existing challenges. Specifically, Chinese manufacturing must leverage big data, the industrial internet, and artificial intelligence to transform and upgrade to digital and smart technologies by focusing on core technologies, reducing dependence on imports for some links, and further improving supply chain integrity with higher quality, more energy efficiency, and higher added value.”

Zhou Mi credited the pandemic with causing significant changes in the global market in terms of both supply and demand, which have been both uncertain and imbalanced. To adapt to these changes, Chinese companies should cooperate with their trading and investment partners with greater openness instead of seeking benefits at the expense of others. At the same time, they should actively expand global sales networks, open to multiple markets, and improve their flexible adaptability to changes in demand. Considering the positive effects of the pandemic on the digital economy, they should actively accumulate e-commerce experience, accelerate industrial upgrading, and seize opportunities for future competition.

“Given the severe impact of the pandemic on the global industrial chain, priority should be placed on expanding domestic demand,” said Liu Xiaoguang, “China is now at the stage of routine pandemic containment. The impact of the pandemic on the supply side has been essentially fixed, but its impact on aggregate demand is still strong and will continue for some time.”

Statistics show that the decline of China’s three major demands (consumption, investment and export) outpaced the fall of the economy in the first quarter of this year. Since March, although Chinese manufacturers have gradually returned to normal production, the three major demands still have declined by about 10 percent.

Liu considers it necessary to strengthen counter-cyclical regulation in macro policies and implement a strategy of expanding domestic demand. He suggested that more robust macro policies, especially more aggressive fiscal policies, would likely be effective in curbing the impact of the pandemic and stabilizing the economy.

“Export companies need to maintain sufficient resilience,” Liu said. “During this period, they should weather the storm by shifting focus from overseas markets to the domestic market. In the second and third quarters of this year as we begin to recover from the pandemic, market demand for both finished goods and intermediate goods will have recovered significantly from the first quarter. At the same time, preferential fiscal and tax policies such as tax and fee cuts, lower oil prices, wage subsidies and direct loans to small and medium enterprises will help many companies recover.”

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