Business Daily (Nairobi)
Dominique Patton
13 February 2008
Every two days Nelson Alozie steels himself before checking the exchange rate. The Nigerian has built up a profitable business selling Chinese bike parts to Angola but he's worried about the rapid gains the Chinese currency is making against the dollar.
Auto parts made in China are cheaper than European or Japanese counterparts and with growing numbers of China-produced trucks, vans and motorbikes exported to Africa, business opportunities for distributors of parts are on the rise.
Mr Alozie had been planning to expand his business, Divine Concept, into Uganda where he believes he faces little competition. But with the Chinese currency increasing ever more swiftly against the dollar, he says winning new customers is going to get much tougher.
"The RMB is getting stronger by the day. At the moment, I can still convince my clients that they're getting a good deal. But I've heard that the dollar will drop to RMB6.5 (from RMB7.19) after Chinese New Year. I think that will be a big blow," Mr Alozie told Business Daily from his base in the southern port city of Guangzhou.
The Nigerian is one of an unknown number of traders who has been trying to cut out the middle men in Dubai and offer African businesses a better deal by shipping goods directly from China. But their business model is under threat from China's changing attitude towards exports.
The recent currency gains are partly a response to complaints from China's major trade partners, the US and the European Union. Long criticised for pegging the RMB artificially low against the dollar, allowing it to benefit from huge demand for cheap exports while imports from the West were too expensive for most Chinese, Beijing moved to revalue the yuan in 2005.
Since then, the currency has appreciated by about 14 per cent against the dollar. The stronger currency is good for Chinese consumers who are keen to buy more Western brands and imported products. But China-based exporters, who carry out most of their trade in dollars, are feeling the pinch as the RMB gains at an increasing rate against a weaker dollar.
Concerns about rising inflation in China are also pushing Beijing to allow for more frequent fluctuation in the exchange rate. On Monday the yuan hit a record high of 7.1996 per US dollar. And analysts forecast the yuan could gain between five and nine per cent this year.
A stronger currency will not only erode the margins of traders but also make Chinese exports ranging from clothing and shoes to batteries and steel more expensive for African consumers who have become increasingly dependent on China-made goods.
China exported some $8 billion of manufactured products to the continent in 2006, according to UN trade data, including $257.5m to Kenya, almost five times the amount in 2000. Kenya also buys significant quantities of Chinese machinery, textile yarn, vehicles, batteries and steel.
"Prices of raw materials like copper are really high which is pushing up prices (of auto parts). But it's the manner in which the RMB is rising that worries me," says Mr Alozie. "It makes our goods more expensive."
While recent rises in the yuan are being driven by problems in the US economy, they are also backed by Beijing's desire to remedy its trade imbalance, say analysts.
"There's no question that the government has a policy objective designed to raise costs for people involved in exports," says Arthur Kroeber, an economist at Beijing consultancy Dragonomics.
China wants to see a long-term shift in direction towards higher value, capital-intensive manufacturing. That will help it tackle its mammoth trade imbalance by squeezing out some of the small players in low-value added exports such as garments, shoes and certain car parts.
Value added tax rebates previously offered on exports of a range of goods are gradually being removed and new environmental laws are restricting expansion of factories. Many small producers are expected to close down under growing pressure.
"There are many companies in China who are marginally profitable," adds Mr Kroeber. "These people drive down prices and make it difficult for others to survive. The government wants to see consolidation and more benefits going to the people too."
One of the most significant changes in Chinese manufacturing is the ongoing rise in wages. Wages in China have jumped by between 10-15 per cent each year for the last five years. Labour may still be cheap by Western standards but it is now well above neighbouring markets in south-east Asia.
And a new labour law implemented by Beijing this month pushes labour costs up further by requiring employers to pay substantially higher social security benefits for all workers and reducing the flexibility for companies to take on temporary staff.
This will impact labour-intensive industries especially hard. Willy Lin, managing director of Hong Kong-based garment maker Milo's Knitwear, estimates that he will be paying up to six times the social security benefits previously paid to each worker.
"That's very significant. We think labour costs are going to be up by 40 per cent this year, with two thirds of that caused by the labour law and the rest from a rise in the minimum wage."
Major Chinese garment producers say they will have to hike prices by about 20 per cent this year to cover the higher costs, although smaller companies are expected to try to avoid implementing some of the requirements. In the clothing trade, labour accounts for half of total production costs.
Batteries will become more expensive too. Xu Peizhou, sales manager at Zhejiang Yonggao Battery, says: "The manufacturing costs of our company have risen by 10 per cent. The new labour law will boost the rise in employee costs by 10 per cent. I can say for sure that the price of batteries will rise in 2008, probably by 10-15 per cent."
Other more capital intensive industries will suffer less but most still face a shortage of skilled workers. China's factories along the east coast and southern Pearl River Delta depend on an influx of migrant workers from rural areas.
Recent years have seen a slowdown in the numbers prepared to migrate to big cities with farmers earning more from agricultural products and a recent cut in agricultural taxes. This is creating competition for workers and forcing manufacturers to keep putting up wages.
Andy Xie, an independent economist and formerly Morgan Stanley's chief Asia economist, says this trend will make Chinese exports incrementally more expensive in the coming years.
"The currency is going to go up by 5-6 per cent each year and labour costs will rise by 15-16 per cent in dollar terms. That means you can expect a 5-8 per cent increase on average across all products for the next few years."
But the upward trend in production costs in China could have one benefit for Africa. It makes the continent look more competitive as a manufacturing base, says Jean-Marie Cishahayo, a Burundi native, now working as a UN expert-consultant in Shanghai.
"The average labour cost in Africa is still a bit cheaper than in China today. You can still find a semi-skilled worker earning $100 in Africa but in China it is at least RMB1500 ($207) and we don't have the same social security demands."
Whether that is enough for countries like Kenya to set up new consumer goods production is doubtful. China's manufacturing prowess depends not only on its cheap labour but also its highly developed supply chain for raw materials and components.
In manufacturing hubs like the Pearl River Delta, a huge number of factories mean there is a constant supply of metals, textiles and other raw materials arriving into the nearby ports and redistributed via sophisticated infrastructure around the country.
But Mr Cishahayo says tougher export conditions owing from the rising currency and reduced tax rebates will encourage Chinese companies to look for manufacturing partners in Africa.
A 2002 survey of 5,000 private companies in China found that more of them were looking to invest in Africa than any other continent, he says.
"If you look at the statistics, many Chinese companies are not making money now.
They are eager to find partners who can manufacture for them in Africa. They can use the local resources rather than shipping raw materials to China first and re-exporting finished goods back to Africa."The reality however is that most Chinese firms are put off by conditions for doing business in Africa. "When Chinese companies start moving out, they'll go to Vietnam and Asia, not Africa.
The cost of production is still high in Africa because of infrastructure problems," says Adam Mahamat, project officer at the China-Africa Business Council in Beijing.
Mr Xie is also skeptical about the impact of China's rising costs on Africa. Even as exports become more expensive, they will remain cheap compared to European produced goods.
Most people will keep buying Chinese consumer goods, which are anyway sold as a premium over locally produced goods in some places.
As for people like Mr Alozie, he is still banking on money to be made in China. "It's hard for people to give up business with China now. They've got what it takes here, quality wise, and a bit cheaper than everywhere else.
And there are benefits other than the price when you do business with me. I take care of the shipping documents, which I know some people can't handle."
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