The Asian Productivity Race

Over the last year Financial Times has produced an interesting series titled “The End of China’s Migrant Miracle.” Those interested in the topic can read the full list of dispatches here, but today I’ll call your attention to a video they have put together echoing some of the series’ themes:

What makes this video worth commenting on is the section near the end of the clip on the Vietnamese workers smuggled into China to work in the factories there. It is a tad old hat to predict that Southeast Asia generally, and Vietnam in particular, will be the “next China,” and there are plenty of wow-graphics out there designed to prove this point. The fact that a flow of Vietnamese workers moving into China for work even exists throws a wrench into this narrative. Vietnam may be the next China, but that ‘next’ is much further away than many Asia hands suggest.

The central issue here is productivity. This point is not original to me; the role that total factor productivity plays in the economic growth of developing countries and their integration into the global economy is well-known.[1] But it was not until Daniel Froehling (who operates the History on the Run podcast) impressed this point upon me in a recent off-line conversation that I have started to think seriously about the relationship between TFP and the future trajectory of economic growth in East and Southeast Asia.  He observed that China’s main advantage throughout the early 2000’s was a favorable ratio between total factor productivity (TFP) and wages. Southeast Asia will not be able to fully replace China’s role in global supply chains until they are competitive with China on this count.

APO Productivity Databook, Figure B5 (p.84)

Eventually this will happen. Recent analysis suggests that the slowdown in China’s economic growth from 10%+ in the early 2000’s to 7% now is mostly due to its shrinking TFP growth.[2] Rising labor costs (a function both of rising wages and rising social welfare costs, which in China are paid by the companies that operate the factories) are a part of this story, but they are not the whole of it:

Worryingly, capital has played a progressively larger role in the Chinese economy. Since 2008, China has made up for the fall in net exports by expanding investment. The government took the lead with a CNY 4 trillion stimulus package that saved the country from the worst of the global financial crisis. In 2009 capital accumulation contributed more than two-thirds of aggregate growth.

You can have too much of a good thing though. The result of so much investment is that capital efficiency is falling. China’s capital to output ratio has risen from 3.79 in the 1990s to 4.25 in 2000-07 and to 4.89 in 2008-09. The expansion in capital, in other words, looks to have ‘crowded out’ productivity growth. [3]

This is not a problem that can be fixed on the fly. Righting the massive misallocation of capital created during the 2009 stimulus is a long term project. It would drag down productivity growth regardless of changes in the cost of factor inputs or external demand for Chinese goods. However, the cost of inputs are rising and external demand for Chinese goods has slowed. The days of China’s blinding productivity gains are behind us.

This should give some hope to the Vietnamese. However, the distance they must bridge to truly compete with China is still an enormous one. The Conference Board’s most recent data–for 2014–puts China’s labor productivity growth at 7%, with total labor productivity only 19% of workers in the United States. Vietnam’s labor productivity is growing at a slower 4.8%, and relative to the United States its labor productivity clocks in at 8%. [4] Wages are low in Vietnam, but so are the returns businesses can expect to receive in return for wages paid.

There are a lot of factors behind this. Education gaps remain a problem, though Vietnam’s stellar showing in the last round of PISA scoring suggests that this is changing. Administrative hurdles are another common complaint. But in many cases the greatest challenge is posed by Vietnam’s underdeveloped infrastructure. Steve Mogentale illustrates this with an easy comparision:

Taking a train in Vietnam from Ho Chi Minh to Hanoi requires covering 1726 kilometers of track in about 34 hours. Meanwhile, it is possible in China to get from Beijing to Urumqi in just over 32 hours while covering 3161 kilometers of track. That’s just about double the distance in the same amount of time. And while Ho Chi Minh and Hanoi are the largest cities in Vietnam, going from Beijing to Urumqi is like going to the middle of nowhere. It would only take about 6 hours to travel the same distance between major cities in China.[5]

The comparision is not quite fair–anyone shipping merchandise from Ho Chi Minh City to Hanoi would ship it by sea, and in any case the transportation routes that matter most to companies that source in Vietnam are not those that connect the Red River Delta with the Mekong, but those that connect industrial parks in places like Bien Hoa with ports like those in Vung Tau. But the 1.7 billion (USD) mega port in Vung Tau is actually a perfect example of the hurdles Vietnam faces: though it was opened to much fanfare three years ago, it is currently shipping goods well under capacity because the logistics networks that connect the port to production centers further inland have not been completed. [6]

It will take time for these drags on productivity can be eliminated; Vietnamese will be smuggled into Chinese factories for some time yet. 


[1] A useful overview of recent research is found in, Aidar Abdychev, La-Bhus Fah Jirasavetakul, Andrew Jonelis, Lamin Leigh, Ashwin Moheeput, Friska Parulian, Ara Stepanyan, Albert Touna Mama, “Increasing Productivity Growth in Middle Income Countries,” IMF Working Paper 15/2 (January 2015).

[2] Koji Nomura, “Productivity Trends in Asia After the Global Crisis,” VoxEU (18 December 2015). 

[3] Earnst and Young (China) Advisory ltd, China: The Productivity Imperative (2012), 4.

[4] Conference Board, “Total Economy Data Base,” multimedia application, May 2015. This data is for labor productivity. I have found no detailed estimates of TFP for 2014, but the numbers for 2013 paint a similar picture. See APO Productivity Databook, 72-80. 

[5] Steve Montengale, “Three Key Factors for Sourcing in Vietnam,” Intouch Manufacturing Sourcing: Blog, 26 March 2015.

[6] “Vietnam Builds a $1.7 Billion Port, and Now it Lies Waiting for Ships” Thanh Nien News, 17 September 2015.

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One thing I noticed is that Vietnamese PPP-adjusted GDP per capita has tracked India's almost perfectly since the late 1980s.

This is quite interesting and even remarkable, considering the huge discrepancy in human capital.