We believe that there will be relocation of supply chain from China to other countries, triggered by Covid-19
For the past two decades China was serving as production hub for companies in multiple industries globally. In early 2020, with the diffusion of COVID-19 from China to the US and rest of the world, global manufacturers planned to alter their supply chains to reduce less dependence on China. These countries announced or planned to move out from China in the next 2-3 years. The companies look forward to manufacturing hubs other than China, such as Vietnam, Thailand, Philippines, India, CEE and Mexico, especially; as the pandemic was already prompting a rethink among businesses as they sought to mitigate supply shocks from any future events of a similar scale. Moreover, these countries are also putting their best foot forward and announcing plans to lure these companies looking for a re-location. We identified the Chinese sectors most affected by this sudden shift as well the countries to be benefited due to the same; reaching interesting conclusions around this sudden outburst (of Covid-19) being a triggering factor over other reasons accumulating over the past couple of years as outlined in our analysis.
At a Glance –
33%
of Supply chain leaders moved business out of China or Plan to do so by 2023
The Full Story -
Situation:
(Drivers for the shift)
For more than two decades China has been the supplier to global OEMs for electronic and electrical devices, consumer goods, technology and hardware. The finely tuned global supply chain is built on a foundation of lean manufacturing principles which work to provide high quality parts at the lowest costs. While studying the macro-economics of Chinese trade for last 5 years, we discovered that the manufacturing companies were planning to leave China and planned to shift partially or in a phased manner driven by the following drivers accumulating over the years (Exhibit 1).
Exhibit 1: Accumulating drivers for China exodus
◦ The shift originated due to the ever increasing Chinese labor cost, which was more than double as compared to other South East Asian countries. Also, within a decade, the growth of inward foreign direct investment (FDI) in China has been consistently declining, while manufacturing wages in China almost tripled (Exhibit 2a).
Exhibit 1: Accumulating drivers for China exodus
◦ The shifting was further accelerated by the ongoing US-China trade war, which intensified in latter half of 2019, when former President Trump announced tariffs on $370 billion of Chinese goods due to which the costs went high up by $100 million for some companies. Also, the companies desired to reduce much dependence and monopoly of China as operating factories were turning to be more expensive. By June 2019, more than 50 US companies reportedly pulled production out of China due to this trade war (Exhibit 2b).
Exhibit 1: Accumulating drivers for China exodus
• Our Results:
Covid-19 as the Triggering factor
◦ The undercurrent of disruptions in the Chinese supply monopoly was triggered by COVID-19. The finely tuned global supply chain, in early 2020, was ground to halt as countries temporarily shut down factories and other business in order to limit the spread of COVID-19, leaving manufacturers in the rest of the world without adequate stockpiles of components and other materials. Amidst all this, several media houses reported the global outburst against China and streamed news around the possibility of the leading manufacturing companies to shift their bases or suppliers from China to similar supplier countries (Exhibit 3).
Exhibit 3: The pace of companies moving production out of China accelerated during July 2019, as more than 50 multinationals from Apple to Nintendo to Dell rushed to escape the punitive tariffs placed by the US. Also, HP and Dell planned to move up to 30% of their notebook production in China to Southeast Asia
◦ The high labor intensive Chinese industries of consumer electronics, consumer goods, technology and automotive witnessed a turmoil with such announcements. The abrupt decrease in demand led the companies to port in countries which had cheap but highly skilled labors, along with other favorable factors of production.
◦ Companies like Harley Davidson, Nintendo and other Apple suppliers announced plans to move out from China and shift to countries such as Vietnam, Thailand, Mexico etc.
◦ Home countries such as the US, EU and Japan announced packages for the companies operating in China to shift the production away from China, while countries like Vietnam, Thailand, Mexico, India and Poland, announced conducive economic reliefs to attract these companies seeking a shift from China (Exhibit 4).
Exhibit 4: Packages announced by other countries to fuel this shifting
Which Countries and why?
◦ Many global giants, with an intention to dilute the overdependence and monopoly of China as a supplier, have been looking for another supplier country that is nearer to its customer base. While China is not expected to lose its position of global supplier but it may suffer a shrink with the pandemic, its aftermath could bring opportunities for Central and Eastern European (CEE) countries, Mexico and Vietnam in this diversification process, with a higher share in global supply chains.
◦ European giants from electric and electronic equipment, machinery and chemical industries look towards CEE countries with educated workforce, low labor costs, relatively good infrastructure and stable business climate. In June 2020, Google announced plans to invest $2 billion for a data center in Poland to deal with cloud services, to create a new cloud hub to serve Google’s rapidly growing number of customers in Europe. Also, Microsoft communicated to invest $1billion in Poland for a hyper-scale data center (Exhibit 5).
Exhibit 5: ICT task-intensive jobs as a share of total employment (%)
◦ Vietnam has geographical and cultural proximity with the Communist giant China and has no bureaucratic lethargy and democratic red tape in a conducive environment like China. Also, the cheaper labor costs in Vietnam that are 50% of those in China and around 40% of those reported in Thailand and the Philippines, makes Vietnam a better alternative to China. Vietnam and Thailand have most similar exports to China (Exhibit 6).
Exhibit 6: Vietnam and Thailand have highest export similarity to China
◦ Due to the US Mexico Canada Agreement, the total manufacturing imports from Mexico to the US increased 10%, from $278 billion in 2017 to $307 billion in 2018, and by another 4% between 2018 and 2019, to a total import value of $320 billion.
• Recommendation / Inference:
◦ The need to move out from China to other manufacturing hubs originated during the period 2014-2015, as the Chinese labor cost was on the increasing side, which led global manufacturers to look around (Exhibit 7).
Exhibit 7:
◦ The ongoing US-China trade war accelerated the process, the tariffs announced by Trump government compelled electronic giants to plan a shift away from China, specially during 2019.
◦ The ongoing pandemic triggered countries other than US, such as European Union, South Korea and Japan to shift their production partly to Vietnam, Poland and Mexico. The outbreak of the pandemic has intensified the quest for diversification of production.
◦ Special packages announced by home countries and special relief package announced by other supplier countries fueled the selective shifting of the companies.