A drop in exports, particularly to Europe, isn’t all that has been weighing down China’s economic growth, an Ernst & Young report suggests. Productivity growth in the world’s second largest economy is also slowing.
After China joined the World Trade Organization in 2001, productivity rose an average 4.7% per year through 2007. But in the following three years, China’s economy managed an average productivity growth of only 2.8% per year.
“The factors that once drove China’s growth are running out of steam,” the report, China’s Productivity Imperative, concludes.
The massive labour allocation that brought ever-increasing numbers of Chinese farmers to the cities, where they started to work in factories, has levelled off. Reforms that raised competition between companies and rewarded the most efficient firms and industries have largely run their course. And China’s labour force is expanding less rapidly; United Nations demographers project it to start shrinking as early as 2015.
Labour and commodity costs also have increased significantly in the past five years. Labour costs more than doubled, and prices for commodities rose an average 51%.
Red tape lingers
Meanwhile, China did not do away with its many inefficiencies. Bureaucratic hurdles still require long waits for permits and licences. State subsidies keep state-owned enterprises afloat, and regulatory uncertainties lead to, for example, shifting customs procedures. The 2012 Grant Thornton Global Dynamism Index, which measures business growth fundamentals, ranked China among the ten countries with the least growth-oriented business operating environment.
China’s political leaders have not sat idly by. A massive fiscal stimulus cushioned the drop in global demand for goods made in China and bumped up GDP growth from 2008 through 2010. Then, faced with GDP growth projected to slow to 7.8% in 2012 from 10.4% in 2010, China’s political leaders decided to shift focus and stress domestic consumption and efficiency in their current five-year plan.
“Companies in China now face a very different business environment,” the E&Y report said.
The E&Y report projects the cost inflation to continue as employers are mandated to pay new social welfare contributions and government targets to raise the minimum wage take hold. The shift in economic policy is bringing about government incentives to raise productivity and penalise unproductive and wasteful companies.
To boost productivity, E&Y proposes that companies doing business in China:
- Take advantage of structural changes, such as reforms to lower market barriers or loosen investment restrictions in certain industries.
- Maximise the benefits of information technology by making better use of data, improving communication and enhancing speed and flexibility.
- Exploit technological catch-up and combine different existing technologies and adapt them for China’s needs.
- Increase the pace of talent development, deploy talent to the highest-value opportunities and improve the way workers engage with each other.
- Pursue mergers and acquisitions that drive scales of economy and add value through creative partnerships.
- Undertake overseas direct investment to gain experience and import advanced technologies.
—Sabine Vollmer (svollmer@aicpa.org) is a CGMA Magazine senior editor.
