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Maya Xiao

Maya has an interdisciplinary technical background in system automation, renewable energy, and intelligent connected vehicles. She is supporting APAC’s operations and responsible for Interact Analysis’s Chinese industrial automation and NEV research.

Following very strong performance in 2017, China’s manufacturing industry appears to have reached an inflection point in 2018 according to our latest research. The on-going internal industrial transformation (including financial de-leveraging, industrial de-stocking, and corresponding industrial upgrades) and also external trade friction pressures have pushed China’s economic growth rate to slow down in the first half of 2018.  

With the Government’s push for its manufacturing industry to move higher up the value-chain, it is now facing more direct and fierce competition within the middle- and high-end industry (e.g. semiconductor equipment). At the same time, part of its low-end, labor-intensive manufacturing is being transferred to lower cost countries. “Made in India” and “Made in America” policy drives form competitive relationships with “Made in China” in both low-end and high-end manufacturing. In our opinion, however, the current public opinion overestimates the impact of the Sino-US trade war on Chinese manufacturing and underestimates the pressure created by India. 

According to our current forecast and analysis in our China Manufacturing Industry Outlook, China’s manufacturing industry will gradually begin to recover from the second half of 2019 if internal risks can be gradually digested and the external trade disputes do not spread further. 

PMI Sub-Indexes Drop in the Red

Since 2012, the Purchasing Managers’ Index (PMI) volatility has stabilized and remained at around 51%, which is consistent with the slowdown in growth of China’s GDP and Value-Added by Industry. As of July 2018, China’s PMI index has been above 50% (indicating an expansion compared to the prior month) for 23 consecutive months.

In Q2 2018, the changes in PMI’s six sub-indicators have indicated a downward trend:  

We assume that the downward trend of the PMI in June and July was driven to some extent by Sino-US trade war, especially the import index and new export orders index. The finished goods inventory index and raw material inventory index remained below 50% with the industry in de-stocking circle. In fact, China’s manufacturing industry is currently mainly driven by domestic demand, and the contribution of exports to manufacturing growth has been declining each year since 2015. At this stage, the specific scope and size of tariffs imposed by the United States on Chinese imports are not finalized, however, the threat of them has already led to a decline the PMI sub-indexes due to concerns over the future. 

Sino-US Trade War 

What has happened so far? 
  • The US has imposed three rounds of tariffs on Chinese products in 2018, totalling $250bn worth of goods. 
  • The first two rounds placed 25% tariffs on $50bn worth of imports from China, with China imposing similar tariffs on US goods in retaliation. 
  • In September, the US imposed another set of tariffs, on Chinese goods worth a further $200bn. These tariffs are scheduled to take effect from 24 September, starting at 10% and increasing to 25% in January 2019. 
  • The US has warned that if China retaliates then it would impose further tariffs on $267bn worth of Chinese products.

The proportion of the US’ manufacturing added value to GDP has declined since 2010, especially from 2012 to 2017, when it decreased from 12.1% to 11.6%. This drop largely came when US companies moved their factories from the US to Mexico, China, Southeast Asia and other countries where labor costs were much lower than that in the US. However, in recent years, the trend of manufacturing reshoring started to take place, and President Trump’s policy for domestic manufacturing has further enforced this trend. 

Compared to China, the United States has an overwhelming advantage in terms of design and manufacturing expertise in many fields such as automotive, chemicals, machinery, pharmaceuticals, and electronic products and Chinese manufacturing companies will need some time to catch up with those capabilities. However, from the perspective of the market share, China already has some large-scale companies in various fields, which has exerted some pressure on the US manufacturing industry, which is reflected in the import tariffs imposed. 

The first chart below shows until July 11, 2018, the proportion of major manufacturing categories in a total of $250 billion tariffs that the US planned to impose on Chinese imports ($50 billion already in effective). The three major industries which have the highest proportion are: 

  1. Electrical & Electronic Equipment Production (27%) 
  2. Equipment & Goods Production (23%) 
  3. Automotive Production (6%)

These three ranked No.1, No.4, No.5 respectively in terms of US manufacturing output share in 2017(Refer to the second chart below):

As the Sino-US trade war continues to escalate, mid- to high-end manufacturing products such as automobiles, chemicals, and machinery will be affected. However, with economic globalization, most of the industrial chains of manufacturing have some links in China, and the negative impact of bilateral trade frictions is mutual. In fact, the market has already responded in advance. In June 2018, China imported only 15,000 vehicles from the United States, with a sharp drop of 87% year-on-year.  

For the manufacturing industry itself, in July, the Value-Added by Industry grew by 6.4% and the total export value increased by 6.0% year-on-year. With rising domestic sales in China’s manufacturing industry, the trade war had limited impact on the overall manufacturing industry in Q2. But it should be noted that the continued decline in PMI indicates pessimism within the market. Considering that most companies are still digesting historical orders and the tariffs had not been formally implemented in July, industrial indicators in Q3 may more accurately reflect the impact of Sino-US trade friction on the manufacturing industry.

“Made in India” to Challenge “Made in China” 

India is aiming to use the market scale advantage brought by its huge population to open the era of “Made in India”. 

China’s working-age population (16-59 years old) has declined since 2012, and continued to decline by 6.1% in 2017, which led to increasing labor rates and a reduced labor force. As the labor cost in India and South-East-Asia is relatively low, foreign manufacturers and investors are starting to set up factories in these emerging markets. Some labor-intensive companies in China have also begun to transfer low-end products to India to save cost. At present, China’s largest mobile phone ers – Xiaomi, Huawei, and VIVO – have already established factories in India.  

In September 2014, the Indian government proposed the “Made in India” program, which aimed to encourage manufacturing  to be moved to the country by imposing import tariffs (10%-25%) on electronics manufacturing, automotive, and some labour-intensive industries such as textile industry.  

China is the country most affected by India’s tariff adjustments made in February 2018. Since 2016, China has replaced the United States as India’s largest trading partner and is also India’s largest source of import deficit. Based on the data from China’s General Administration of Customs, , in 2017, trade between China and India increased by 20.3% year-on-year to $84.41 billion, breaking through $80 billion for the first time. India’s trade deficit with China reached $51.662 billion.  

Facing the challenges of the huge manufacturing potential in India is also a problem that China cannot ignore in the future. In Q2 2018, India’s manufacturing industry achieved a staggering growth rate of 13.5% year-on-year. At the same time, driven by the manufacturing industry, the Indian economy grew by 8% year-on-year in the first half of 2018, the fastest among the world’s major countries. 

Forecast of China Manufacturing Industry

China’s economy has entered a period of steady growth; GDP and Value-Added by Industry growth have steadily rebounded since the second half of 2017. At the same time, China’s manufacturing industry output has risen 339% in the past decade, reaching CNY 112.6 trillion in 2017, and accounting for nearly 50% of the global total. It is predicted to grow at a CAGR of 7.2% over next 5 years.

China’s manufacturing is in a stage of transformation and upgrade, with the proportion of high-energy-consuming industries declining, and the proportion of high-tech industries rising. It is however accompanied with the pain of de-leveraging and capacity reductions. It is foreseeable that China’s manufacturing industry will experience a difficult period from the second half of 2018 to the first half of 2019. The future situation depends on the subsequent changes in the internal and external environment and we see one of two scenarios emerging: 

Scenario 1: 

  • China’s industrial restructuring is successfully completed 
  • There is no further spread to the Sino-US trade war

After the consumption of surplus industrial stock is completed, China’s manufacturing will gradually recover in the second half of 2019. 

Scenario 2: 

  • China’s industrial restructuring may be difficult to complete (For example, financial de-leveraging could happen too quickly, causing a large number of SMEs to close down; Or the industrial destocking is too rapid, resulting in a complete imbalance between supply and demand); 
  • The Sino-US trade war escalates further 

The recovery of China’s manufacturing industry will take longer. As China accounts for more than 50% of global manufacturing, a long-term downturn in China’s manufacturing industry will also be a potential risk to global manufacturing. 

In general, China’s manufacturing industry is at a critical turning point, and future development is closely related to the international environment and domestic policies. Interact Analysis will continue to track and report on the development of China’s manufacturing industry. 

 

 

Related Research: 

“China Manufacturing Industry Output (MIO) Tracker –Q3 2018”, a new service to keep our clients abreast of important developments in China, consists of two core deliverables: the “China Manufacturing Industry Output Dataset” and the “China Manufacturing Industry Newsletter & Insights”. Click here  

Manufacturing Industry Output Tracker – 2018, a report to offer the most complete and unified analysis of the manufacturing industry globally. Click here 

If you’d like to learn more about these reports or have any questions, please contact us at info@interactanalysis.com 

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Posted by Maya Xiao

Maya has an interdisciplinary technical background in system automation, renewable energy, and intelligent connected vehicles. She is supporting APAC’s operations and responsible for Interact Analysis’s Chinese industrial automation and NEV research.