China’s Rising Wage Costs

Recently we discussed with readers some of the issue facing Australia and the lofty AUD FX rate -in particular we highlighted the rising cost of living in Australia. Click here if you need to refresh your memory or missed it. http://www.fxstrategy.com/articles/technical-analysis-articles/can-aud-go-higher-109.html

This week we take a look at China and the struggles it currently has with risings costs and the effects it could have on USD:CYP rates and also the potential positives it could have for some lesser followed currency pairings such USD:BGL. No, not a common pairing but the BGL is Bulgaria’s currency, the Lev.

China has long been “the world’s factory” and as FX Strategists know this has primarily been due to its abundant supply of cheap labour. Labour costs however, have been growing at incredible rates over the last few years. So much so that while it is not about to cause a shut down of factories accompanied by a move off-shore it is going to have a significant impact on future capital flows and hence FX flows as companies build much higher labour costs into their models of IRR from potential investments.

Currently, China’s inflation is running at 6.5% pa. While rising wages is of course great for the millions of poor Chinese citizens it does pose certain economic difficulties. What’s more, while wage rates are increasing due to the even higher rate of inflation there is actually declining purchasing power in China. This is also affecting the economic dynamics of the country and setting it up for future economic and structural pain.

Perhaps the most poignant example is that of the Chinese automobile manufacturer Great Wall Motors. Their most recent factory wasn’t opened in China but rather was opened in Bulgaria. And what was a major contributing factor in setting up shop in Bulgaria? Low wage costs!

What does all this mean?

It means that China’s hay days of pumping goods out to the world are most likely behind it and corporations in future will be looking to other lower cost destinations in which to manufacture.

Here at FX Strategy we see this as an opportunity. Capital is mobile and flexible just like currencies. As such we see other frontiers in Africa, Eastern Europe, less advanced Asian countries and South America as being very appealing destinations for corporate capital. This has the potential to lead to these new frontier countries currencies appreciating.

As a case in point, year to date the Bulgarian Lev is up 3.21% against the USD.