Return to Gunpowder
This Issue—Volume 4, 2007

Developing the theme started in our May issue and hot on the heels of yet further changes to China’s export support arrangements our trusty European correspondent Stuart Burns brings you our view on the latest changes to the vat rebate structure implemented at the beginning of July and from Lisa Reisman an insightful article on the implications for buyers following these changes.

Disagree with us or got an idea for an article? Let us know:


Never mind the official line:
What's Really Going on in China

China's recent reduction in or elimination of vat rebates on the export of some 2831 classifications of products is the latest in a series of steps taken by the authorities ostensibly in the name of reducing the growing trade surplus and cooling the overheated export market. China has taken the opportunity to do this by targeting the industries they most want to constrain, those that are the most polluting, the most energy intensive and those that are seen as exporting the raw materials needed by China's expanding value add industries.

Earlier this year the Ministry of Finance also imposed additional tariffs on the export of certain basic commodities, notably steel products, where the government has been trying to get old excess inefficient capacity closed down. But given the strength of exports, this strategy did not work, and producers still kept plants open. Now, under the guise of redressing trade surpluses, China is using centralized control to focus development and the economy to its desired ends.

The cement market is a case in point. China is already the largest cement market in the world and is projected to grow to more than the next two largest consumers combined—India and the USA. Restricting exports of a product so desperately needed for domestic growth should be seen less as an attempt to reduce the trade imbalance than a common sense attempt to contain domestic inflation in the construction industry.

This is the fifth change in rebates since 2005 and cumulatively they will have a profound impact on the global supply market for certain commodities. High energy consumers like cement, fertilizers and certain non-ferrous metals have had their support all but withdrawn. The effect will be a rapid shift to other producers in Central and South America and Asia, particularly India.

The supply market for many of the products affected is already tight so lead-times will become more extended and prices will be further strengthened just as consumers were expecting markets to begin to ease on the back of an expected slackening in the US market later this year. But the effects will be felt more extensively than just in these products. As exports are choked off, the domestic China price for these raw or basic materials will become depressed. Steel prices are already lower in China than the world market which has the effect of making Chinese consumers of basic commodities more competitive on the world stage in selling their higher value add finished products.

This is where the Chinese have been very clever, they can rightly point to their widespread reduction and in some cases removal of export rebates and the imposition of some export tariffs as evidence that they are responding to western concerns (they would never admit to responding to western pressure!) about the ballooning trade surplus when in fact they are re-positioning themselves to support the higher value add, more sophisticated, products that historically western producers have been more successful at selling.

What's the net, net here? I expect rather than see a decline in China exports we will see a shift to higher value product areas next year. China is not so much reducing its presence as the supplier of first choice rather it is deliberately re-positioning itself towards the higher value add markets where the west had traditionally felt more secure.

Stuart Burns is Managing Director of Aptium Global where he leads the firm's practice in Europe and Asia.


Has the China Balloon Popped?

There is a large hissing sound going on right now and it's coming out of China. The double whammy of increased export trade tariffs and the reduction/elimination of Chinese VAT rebates have thrown many a buyer and supplier in a full blown tizzy. A tizzy you may ask? Well, we've seen some confusion that low cost country sourcing or global sourcing only means China sourcing.

I once visited a company that designed bags for boutique retailers. They were considering identifying an alternative source of supply (their only suppliers were based in China). I sure hope they found some alternatives (their suppliers are probably increasing prices by at least 8%). From umbrellas and plastic flanges to watch parts and transmission belts, over 2000 commodities have been affected by the changes. Though the press covers the fact that China is seeking to rid itself of its "polluting low value-industries", the effects of these changes will ripple throughout all industries. You'll see the changes at your favorite retailers including Target and Wal-Mart.

And denial is the first phase. But haven't we seen this happen before? Didn't Korea and Japan follow similar paths, exporting low value-add products and eventually turning out some of the world's highest quality cars and electronics? China is merely following a similar well-paved path.

And businesses of all sizes would do well to follow a successful LCCS path as well. To wit:

  1. If you aren't saving at least 35% on your parts/products, make sure you have two additional qualified suppliers ... one domestic (if possible) and one in another country/region.
  2. If you do have only one source of supply and your product/category was unscathed by these changes, consider yourself lucky but take the time now to identify alternative global suppliers.
  3. Re-align your sourcing organization. Don't organize by country, rather, organize by skill. Centralize a core group of "global sourcing experts" and hire opportunistically by region the folks required to execute the sourcing program (e.g. Hire a QA resource in China) but make the sourcing decision to source from China part of the core team’s responsibility.

In short, global sourcing is always risky business, and it's unlikely that this will be the last of the changes. Alas, my colleague Tom Goldblatt, recently commented, "We are very concerned about the currency valuation. We think with a future democratic administration and other pressures that the currency in China will rise in the next couple of years from 10–25% percent."

Regardless of whether or not you agree with future prognostications like this, one thing's for sure. And that's the fact that the China price is rising. Today, across many categories. And if you're not prepared, you better start developing your options.

Lisa Reisman is Managing Director of Aptium Global where she leads the firm's practice in North America.



This newsletter is published by Aptium Global Inc a direct material advisory firm based in Chicago, IL. With offices in the UK, China, India and a network of global associates, Aptium Global works with small and medium sized manufacturing companies to save money on direct material purchases. Smaller companies face the same cost pressures as the Fortune 500, yet often lack budgets for cost reduction services. Aptium Global works with organizations on a pay-as-you-save™ basis, minimizing impact on cash flow and maximizing impact on the bottom line. We aim to publish this newsletter on a monthly basis but reserve the right to miss a few deadlines here and there.

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