Put me in coach

In the run-up to this weekend’s G20 meeting in Huntsville, Ontario, much ink has been spilled regarding the value of the Chinese currency.  Economists, pundits and observers of all stripes have taken positions on various sides regarding the question of how much and how fast the yuan (or Renminbi, if you prefer) needs to appreciate against other major currencies.  And, of course, how willing Chinese authorities are to allow this to happen.

Hypothetical scenarios projected in some circles of a rapid appreciation of 40% have China’s export competitors salivating.  Basic trade theory holds that by hiking the value of the yuan, Chinese exports become more expensive, making competing products made in countries such as Mexico that much more cost competitive.  Gaining ground of this type is seen as critical in the hotly disputed U.S. market for goods such as appliances and electronics.  Trade data for 2009 suggests that Mexico is already gaining some overall market share from China in the United States, and we have touched on the relative cost competitiveness between Mexico and China in this space before.

Mexican observers were quick to imagine their Christmas stockings filling up with export gains as the international media flooded with projections of a dearer yuan.  A recent report in Reforma cited an academic pundit in ticking off the potential benefits to Mexico: Increased exports to the United States, a rise in world oil prices, and even a possible bump in Chinese tourism to Mexico.  Much like Mexico’s hopes of defeating Argentina in the upcoming World Cup knockout match, however, a lot of unlikely things would really have to go right for this to work out.  The yuan itself, when ostensibly released from its dollar-pegged bondage by Chinese banking authorities last week, mostly behaved like a squirrel in the middle of the road: it moved hesitantly back and forth with no clear direction as the traffic of the G20 summit loomed.

Early feedback from G20 countries on China’s claims of a free-floating yuan reflects a good measure of skepticism about the true intentions of the Asian giant with regard to their currency.  As always, only time will tell what the outcome will be.  But if there is any significant appreciation of the yuan at all over the next year, it will be more than welcome in Mexico.  As would a dignified showing against Argentina, even if our fantasies of a stunning victory, or a 40% increase in manufacturing exports, go unfulfilled in the end.

Throughout the early and mid-‘00s, in the course of participating in export promotion events in the United States, we were struck by the stampede of prospective exporters and manufacturers begging to be led to China.  And not just blender manufacturers either – we had little old ladies knitting doilies looking to offshore to Guangzhou to boost margin.   While there’s no question that China offered a lot of manufacturers very attractive opportunities for cost reductions, we suspect that some portion of those who went tearing off to China with stars in their eyes looking for “money for nothing” probably wound up with more of the latter than the former.  The big attraction, of course, was the low cost of labor.

According to a report by Boston Consulting Group cited by Reforma, in 2002 China’s average daily manufacturing wage was USD0.80, far below Mexico’s comparatively lavish USD3.00 at the time.  Double-digit average annual GDP growth since then, however, has helped drive wages steadily upward in China, while manufacturing pay has remained relatively stable in Mexico over the same period.  As a result, a gap in labor costs of over 250% between Mexico and China just a few years ago is projected to drop to under 20% in 2010.  When factoring in 4:00 a.m. conference calls, frustrating communications and the cost and time of shipping, China may now be losing some of its former luster for manufacturers looking to offshore to serve the North American and South American markets.  Mexico would do well to keep a close eye on items such as electricity costs, targeted technical education and other industrial location decision factors in order to take maximum advantage of any opportunities created by China’s unprecedented development surge.