Should China Raise Wages?

There is a very interesting graph on page 14 of the World Bank’s December 2008 Quarterly Update on China. I am not smart enough to figure out how to reproduce the graph but I will describe it. It shows private consumption and wage share in China as a function of China’s GDP, from 1993 to 2007. From 1993 to 1996, wages rose from 50% of GDP to 54%. During that same period private consumption rose from 47% to 49% of GDP.

Both remained more or less stable for the next three years, but then beginning in 1999 and over the next eight years wages declined from 52% to 40% of GDP. During that time private consumption declined from 47% to 37% of GDP. In almost every year except two both figures move in the same direction.

Over the last fifteen year, in other words, private consumption as a share of GDP has been very highly correlated with the level of wages. China has very weak labor unions and worker representation, so in the fight between workers and capitalists for a share of the economic pie, workers have been on the losing end, and it is hard to see how they will do much better in the future, but it is probably in China’s best long-term interest that they do. As wages have risen and fallen as a share of GDP, so has private consumption. This isn’t a surprise, but the relationship is pretty dramatic.

Unfortunately the World Bank report also says:

Direct government spending, in the form of government direct consumption or investment, typically creates more economic activity than an increase in transfers or tax cuts. This is because higher transfers or tax cuts that increase income may not necessarily induce spending, especially by higher income people or when times are especially uncertain. Stimulus targeted at increasing demand for products of sectors with excess capacity will have a larger activity and employment effect. In the short term, however, there is no difference in the growth impact between government investment and government consumption.

That means, as I see it, that in the long run it is very important for China to raise wages as it tries to develop an internal market, but it will be hard to exploit the crisis to force through wage increases since in the short term they are less effective than government spending. There have been rumors about wage increases that have then been denied, so I have no idea where this idea stands in the hierarchy of policies, but I suspect that companies will use the crisis as a way of arguing that the last thing China needs is wage increases.

Comments

[Douglas Rob...:]

M,

Having been here for since March 2006 with two years of book research, this issue presents a if not thee paradox to China's emergence, politically a la social-economic.

I have dined with labor union officials from Beijing thanks to my adopted brother, who made his fortune in selling cold beer.

Take a look at the Chinese constitution...

dr

2008 Nov 30 08:09 AM

[kelaido:]

Judging from the talkshows, hope of 'China economy de-coupling from the world' is gradually shifting from 'no impact' to 'no significant impact', to 'Oh My God!'.

Most on ground level I spoke to still believe the impact of credit crisis on China will not be severe ('China does not have banking problem'), how econ growth will stay healthy ('domestic demand is growing', '7.5% is still good'), how govt spending on infrastructure shielded China from the 1997/1998 Asian Financial Crisis ('secondary and tertiary cities still need massive infra investments'. Ttrue, but that crisis pales compared to this one). This high hope may account for the negative reaction to the surprised 1% rate cut. It is beginning to sink in that maybe it IS getting worse, quickly. China is not that de-coupled anyway. Those who still believe in fairy tales should have watched how the CEO of a huge mining company proclaimed on CNBC some 6 mths ago how China and India would keep commodity prices sky high FOREVER.

It makes so much sense for China to shift its investment away from more production capacities, but to consumption? Overnight or even next 12 months? In my book, no hope. How long did Japan go through that transition? The shift maybe the only worthy idea to counter the current drastic slowdown, but can it be achieved expediently? And what happens after the crisis is filed away in history books? Who will clean up the inflation mess now that the consumers are converted habitual spenders on credit? My bet is measures to quickly induce domestic consumption will lead not to actual increase in consumption, but to increase in savings, and possibly more speculative increases in real estate prices. Old habits die hard.
It may sound preposterous but if the aim is to rejuvenate labour intensive industries against a glabal demand slowdown, just buy off their excess capacities and give the products to everyone in the country. Requiring the recipients to pre-register their wishlist will create another layer of bureaucracy and more jobs. Insisting on home delivery will create even more transportation and service jobs. A state govt in Australia is reported today to be giving away laptops to each and every high school student. China can give away laptops, shoes, clothings, whatever with slack capacities.

We are where we are because of artifically cheap credit, for far too long. Throwing more credit at it will buy us some time but will also make the next crisis even worse. The next to hit is likely hyper-inflation, so while the govts are trying their damnest to shorten this global slide in this current context, they are actually paving a solid path for another in a different context to follow, immediately after.

Should China raise the wages? I dare not say how much is too much nor how little is too little, but I dare say it is too late.

2008 Nov 30 09:53 PM

[M. Pettis:]

Unfortunately, Kelaido, I think you are right. The best for now is to use the crisis to make some of the necessary long-term shifts, knowing that these long term shifts will not address the short term problem.

2008 Dec 01 02:54 AM

[M.R. Henderson:]

There may be a few additional problems with increasing wages. It is very hard for China to enforce an increase in wages, especially given the current job environment. But more importantly, with the firing freeze on larger businesses, the number of bosses emptying the company bank accounts and vanishing jumped. Further measures that encourage local bosses to abscond are against the present interest. And while Beijing seems to like the idea of forcing the present pain onto the provinces, from the firing freeze for larger enterprises to the announcement that 3/4 of the stimulus be funded by local government, banks and businesses, without adequate chain-of-command, the effect could not only further accelerate this slowdown through bosses jumping ship, it could also reduce whatever effect Beijing's future authority has; it will certainly weaken whatever effect such proclamations could have had were they win-win situations for the provinces.

Commenting on giving away consumer items to people... One sentence I noticed today in Bloomberg, strikes me as a similar move, and one I like:

"Sichuan Changhong, a maker of television sets, surged 9.9 percent to 3.43 yuan in Shanghai after China's government said it will allow farmers in 14 provinces to buy selected household appliances at a discount in a move to boost rural consumption." (bloomberg, today)

Of course it may emerge that Beijing will force whiteware makers to swallow this discount, that the discount is non-material, or that discounted devices are broken, thus undermining the effort, but if China promoted properly a STEEP discount (issued through rebates) for 6 months to middle/low income rural residents, a lot of people might jump at the chance for a once-in-a-lifetime purchase.

2008 Dec 01 07:45 AM

[kotika98:]

I see an ominous parallel to the disastrous Roosevelt wage support legislation. That aside, there is a new labor law coming into force that makes temp workers impossible to fire and eligible for pension if their employment had been extended more than twice. I hear this is driving the plant closures in Guangdong as much as the crisis.

2008 Dec 01 10:21 AM