The Fiddler's Tab Comes Due

by BILL WADDELL

"It is an old maxim and a very sound one that he who dances should always pay the fiddler," said Abraham Lincoln, and paying the fiddler is indeed what is taking place among all of those who rationalized the systemic abuse of the Chinese working men and women as preferable to stepping up to the tougher task of manufacturing management.

"Some 2,000 workers clash with police as they stage a strike outside the Taiwan-funded KOK Machinery rubber factory in Kunshan, in east China's Jiangsu province on June 7, 2010. Dozens of striking workers have been hurt in clashes with police in China and a fresh labour stoppage again halted Honda's production, in the latest unrest to rock the 'workshop of the world'."

The strikes at the Honda plant and a couple of supplier plants have cooled, but the matter is not yet resolved.  The $130-$150 a month most Chinese workers make just doesn't cut it, and the $30 a month or so the manufacturers are offering to quell the masses isn't enough to fix the problem.  At the heart of the problem is a very basic statistic.  Before the Chinese manufacturing boom, 57% of China's GDP went to wages.  As the Chinese economy boomed, that number has fallen to 37%.  The folks doing the work have not shared in the spoils.  The notion that China has moved to a free-enterprise economic model is nonsense - the government merely outsourced the right to oppress the populace.  Rather than state owned manufacturing, it has been licensed to private owners - capitalists to be sure - both foreigners and a few well-connected Chinese, who have been able to use the strong arm of communist control to squeeze huge production volume out of the workers.

The jig is up.  Strikes are illegal in China, as are labor organizations other than those controlled by the government, but the Chinese leadership is not only looking the other way, they are running out to the front of the parade pretending as though they are leading it.  They are a bunch of guys old enough to remember what happened in Poland in 1988.

No one understands the implications of Chinese wage increases on the order of 20-70% better than Apple's fair haired boy Terry Gou.  The Taiwanese friend of the Beijing power brokers and owner of FoxConn has become enormously wealthy, and has come under a blizzard of criticism for the treatment of workers.  While publicly expressing concern for the workers and announcing big pay increases, FoxConn is quietly moving to more automation, cutting benefits, and moving production away from China to places like Viet Nam where the workers are still content with near slave wages.  Notice whose plant is in the background of this BBC video filmed in Hanoi. He knows that all China has to offer is low labor cost - that contrary to his statements about the quality FoxConn provides, rendering them irreplaceable to Apple and the like - the increase in costs from China will offer to Steve Jobs on a silver platter the chance to belatedly seize the high moral ground and bail out of FoxConn out of false concern for workers.  To understand just what a miserable human being Gou is - and typical of the sort of 'capitalist' the Chinese have jumped into bed with - his response to the rash of suicides has been to cut the benefits paid to the dependents of employees who opt to jump out of dormitory windows rather than face another day on the job at FoxConn.

The house of cards that is the 'Chinese miracle', so widely admired by American and European academics and financiers is collapsing all around.  Inflation is fueling the worker pay issue, the economic debacle in Europe is hammering the yuan and Chinese prices, and Americans are fed up with China's blatant protectionism in the form of currency manipulation.  The Chinese are bitterly decrying talk of forcing the Chinese to play it straight with their currency, calling the Washington gang a bunch of "baby kissing" incompetents.  They don't seem to realize that Americans know full well that the Senate is comprised of baby-kissing incompetents - we elected them so we know just how incompetent they are - but that doesn't change the fact that China is trying to buy the world's manufacturing base at our expense and we are not happy.

The events to date have been fairly easy to predict.  From their basic instability, the core labor problem and the way guys like Terry Gou operate it has been building to this point all along.  What comes next is a little tougher to predict.  In the end, only an end to their communist dictatorship will enable China to succeed.  The current system of treating their citizens like the old southern slaves who were rented out by their owners to other local businesses for a profit is unworkable and unsustainable.  It could go one of two ways - and either one poses problems for the likes of Walmart who is China, Inc's biggest customer.  The workers can prevail and wages will rise dramatically - which means the costs at Walmart and the cost of an iPod rise dramatically - or the corrupt power base can try to keep things under control by force, which means more strikes and perhaps even another Gdansk shipyard scenario - which mean big supply chain disruptions.

No matter how they see it, the Chinese gravy train has derailed and global manufacturing is in for a major upheaval. The only companies exempt from the impending chaos - and the ones most likely to prosper - are those that resisted the siren song of China.  The companies that looked internally to simply find ways to hone their value proposition instead of running off to China for a free lunch are home free.  Everyone else had better come up with a new plan in a big hurry because the Chinese music has stopped and the fiddler is demanding his due.

Comments

[Jim Fernandez]

Great writing Bill !

Correct me if I’m wrong. Didn’t Henry Ford raise his workers wages, in part, so that his workers could afford to buy his cars? He wanted to create a new middle class of people that could buy his products? Seems like a great idea that maybe China should consider.

But then again the Chinese government is probably not interested in creating a new middle class that is better off financially. Because that means they would become better educated and they will want more consumer goods. Which means they would become more like their communist leaders. Or even worse, more like Americans. (Looks like the train has already left the station.)

[Bill Waddell]

Jim,

I think giving Ford credit for helping to create the middle class is a bit of a stretch. The $5 day certainly had that effect but Ford was not much of a broad economic thinker. I think he grabbed credit for that after the fact.

The $5 day was actually a profit sharing plan. The regular wage continued at about $2.50 a day and workers received bonuses effectively doubling their wages as long as production volumes were met and profits were made.

The Chinese know they have to create a middle class in order to economically sustain, and I believe they genuinely want to do so. The question is how. Ford's $5 day worked so well because productivity more than doubled, so a doubling of wages still resulted in lower costs per car. In order for the Chinese to create a middle class, and still be the world' low cost manufacturer, productivity has to improve at a rate greater than wages increase. The workers won't sit still for it, especially with inflation growing in China.

The bigger problem, however, is that the goal of the Chinese manufacturing economy has been job creation, and Chinese plants are managed as though people are infinitely available and virtually free. There has been little thought on the part of management to becoming more productive, and the government does not provide any inventive to improve productivity. In fact, their recent crack down on labor law enforcement was motivated by trying to force companies to hire more people.

In order for productivity to improve and wages to increase, there has to be a trough - a period of time with fewer people working, making more money, then spending it on consumer goods, and thereby creating more jobs to make the goods they buy. There is a lag of months - maybe years - for increased ability of the fewer workers to buy things translating into the need for jobs for the rest of the folks. The Chinese cannot afford that employment trough, so they have been trying to bring it about gradually. The problem is they have been unable to control the rate and slowly bring up wages, offset by gradual productivity gains.

What we are seeing now is that they have lost a handle on it - which was bound to happen.

[david foster]

The Ford wage increases were partly driven by a need to reduce turnover: When the assembly line was introduced, a lot of workers found it very unpleasant, and the turnover reached unsustainable levels. The higher wage could not be matched by less-productive manufacturers, and hence acted to keep workers on the line.

[Bill Waddell]

David,

The $5 day being a necessity to offset the dehumanizing affect of the assembly line is purely a myth put forth by a wide range of Ford bashers, ranging from organized labor to the academic community who were often the brunt of his scathing criticism. And make no mistake, there were plenty of very good reasons to bash Henry Ford :), but the simple facts are that (1) there was no real assembly line when the $5 day was announced; employee complaints had been largely eliminated before the advent of the $5 day.

Actually a guy by the name of John Lee had been hired at Ford to act as a sort of HR Manager and he put in a series of reforms mostly aimed at taking authority away from the arbitrary whims of foremen. The reforms included a formal pay structure based on skills ranging from an entry level laborer to the highest job classification of pattern maker and a path to gain greater skills; as well as elimination of the authority to fire people.

Within six months of putting these and a lot of other policies in place, absenteeism at Highland Park dropped to about 2%. About six months or so later, the $5 day was announced.

During the breakthrough year of 1913, the Ford plant actually put three moving conveyor processes in place: the magnetos, motors and transmissions were built in continuous flow. It was throughout 1913 that Lee was overhauling employee policies and the absenteeism and turnover problems were solved.

The first attempts at a chassis assembly line were made in December of 1913, and the $5 day was announced in January of 1914 - less than a month after the first serious 'assembly line' process experiments. It was some time during the summer of 1914 - a full half year after the $5 day was announced - that the assembly lines were really cranked up and integrated.

I recommend Nevins' "Ford, The Times, The Man, The Company" as a thorough and interesting read on Ford's early days.

[Jim Fernandez]

Thanks for the clarification Bill....

[Paul Todd]

Bill:

My grasp of Chinese geography is poor - do you see a migration of plants to interior areas, away from the coasts? I'm thinking of the US experience, where plants moved for example from Ohio to Alabama in past decades (and eventually to Mexico, then Guatemala, etc.)

When I see stories about strikes in a Chinese city I try to remember that it's a big place. In a similar story about a strike in Buffalo I would have some sense of perspective on the effect on the US labor market as a whole. Headlines like "Chinese Labor Costs Rise" tend to view it as a monolithic labor market. Will we have "migrant factories" within China instead of migrant workers?

[Bill Waddell]

Paul,

The Chinese have been trying to push industrialization inland with not much success. There is a big problem with overpopulation in the east along the coast. There is a huge industrial region in the south just inland from Hong Kong that includes Shenzhen and the Guangdong Province (where most of the labor unrest is occuring); then another one in the north inland around the Shanghai region extending into Chuzhou and down to Ningbo. These areas have massive overcrowding and they have to bring in millions of migrant workers from the west - especially into the Shenzhen/Guangdong region - to fill the jobs.

They have launched a couple of initiatives inland, including Chongqing, and Chengdu, but the big problem is logistics. The words 'Chinese' and 'logistics' have no place in the same sentence. Between lack of infrastucture in many parts of China, provincial fiefdoms and issues going from one part of China to another, corruption, and simply a lack of logistical competnce it is a challenge to move parts into and out of the interior. Of course the biggest obstacle is that lead times are already too long for manufacturers to export from China, and adding a week for truck or barge shipments just adds to the problem.

There was an initiative to run a rail service from Beijing to Europe in 11 days that had a hard time getting off the ground simply because getting a container by truck from anywhere in China to Beijing to get on the train is time consuming and unreliable. Better to take four weeks by container ship than have to deal with Chinese trucking.

So the bottom line is no. Even though they need to, the Chinese have not had great success in developing the interior. We and our European and Australian friends tend to take our logistical infrastructure for granted but the interstate highway system and reliable rail networks are a huge advantage the developed world has over the undeveloped one.

[Mark Welch]

So this is the powder keg you predicted on this blog a number of months ago...

Bill "The Prophet" Waddell... ;-)

Unfortunately, prophets are often unwelcome in their own land, which is why, unfortunately, many business people in North America haven't heeded your prophecy.

Let's just hope this doesn't explode into a scope that deeply impacts an already shaky world economy.

Nicely written, Bill.

[david foster]

Bill, my source on the Ford stuff was David Hounshell's book on the emergence of American mass production. He does not strike me at all as a Ford-basher (although he's indeed an academic as well as having been curator of technology at the Hagley Museum (old DuPont gunpowder mill) which is where I picked up his book)

His timing of assembly-line development is pretty much the same as what you state, although he also indicates that there had been considerable de-skilling of the machining process. He quotes another author to the effect that by the end of 1913, turnover had reached the point that if they wanted to add 100 men they needed to hire 963, and that there was growing unrest and pressure for unionization. Clearly this can't all, or even mostly, laid to the assembly line given that most of the employees weren't working on assembly lines, but the overall pressures and/or levels of control must have been more than the average worker wanted to contend with.

[david foster]

Steve Jobs likes to surprise people. I wonder...what if he decided to make a big play and move manufacturing for the "appliance" products...iPod, iPhone, iPad...to the U.S.?....and did it right by hiring the right kind of manufacturing people and giving them their heads? (Assuming for the moment that it's psychologically *possible* for Steve to give people their heads) With realistic levels of productivity improvement, I wonder how much additional cost would really be added to the products, and how much of that would be offset by transportation & inventory carrying costs.

[Bill Waddell]

David,

According to a study by 3 guys from Stanford, the cost difference would not be very high:

http://www.evolvingexcellence.com/blog/2009/08/how-do-you-like-them-apples.html?cid=6a00d834521be169e20120a545955e970c

The $58 premium they came up with to make an iPod in the USA was (1) based on old China labor rates and (2) assumed no productivity differnce between the two countries

I am sure there would be no cost premium at all when looking at the whole picture, if Jobs were to produce anything here.

I think the real obstacle is an ego that prevents him from admitting he made a mistake in selling his soul to FoxConn

[Graham Rankin]

A fascinating read as usual. What Jobs said about the Shenzhen plant though after the recent suicides was:

"You go in this place and it's a factory but, my gosh, they've got restaurants and movie theatres and hospitals and swimming pools. For a factory, it's pretty nice."

Do delusion and enormous wealth always go together? And with the new iPad a roaring sales success, and the new iPhone 4G likely to follow suit, Jobs is going to find it hard to switch suppliers any time soon. So I look forward to reading more of his bizarre responses on the lines of the above if times get as tough as you predict.