China’s manufacturing wages: Why 2012 was a banner year for Baidu
2008—Year of the rat, 2012—Year of the dragon and iPhone
While the prior graph reflected wage growth in all sectors in the Chinese economy, the below graph reflects wage growth in the manufacturing sector alone. As the post-2008 crisis prompted a large-scale economic stimulus package in China, manufacturing wages in China rose dramatically from 2010 through 2012, growing to a 30% year-over-year increase in 2012. This sharp rise in wages in China prompted some fairly aggressive forward-looking estimates regarding China’s wages in manufacturing and its ability to compete as a low-cost manufacturer in the future. At a 20% ongoing annual rate of wage inflation, some argued that China may lose its productivity advantage over the U.S.-based basic manufactured goods in fewer than five years.
As the below graph demonstrates, China’s wage growth did not remain at a 20% plus year-over-year growth rate for long. It would appear that China’s manufacturing wages are more likely to remain around 10% a year for 2014-2015. This is still a high level of wage growth, although only half of the growth rate of 20% plus that were identified in 2012. This growth in wages should support consumerism and the sales growth of Baidu (BIDU), although manufacturers in China will still have to mitigate the rising cost of their large labor force. Google (GOOG) will have to develop new markets quickly to keep up with growing wage and consumption in China. Russia’s Yandex (YNDX) seems to be making excellent progress in its growth, although Russia’s Ukraine developments have given Yandex’s stock price a significant setback.
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Baidu rose sharply in 2012
As China’s wages have increased, so has China’s ability to consume the electronics that it manufacturers, such as the iPhone and personal computers. While Baidu traded down from $40 per share to $11 during the 2008 crisis, the Chinese stimulus package of $586 billion or more led to a strong recovery in the economy. In 2010, Baidu rose to $40 per share again, and reached $154 in late 2011 and $148 in 2012. In 2014, Baidu reached $180 per share and currently trades at around $150 per share. Clearly, the Chinese stimulus plan and post-2009 gains in manufacturing wages supported consumption in China. It would appear that Baidu benefitted from this period of rapid wage growth and should benefit going forward, as wages in China continue to grow at a strong level. However, despite this supporting background, Baidu can be a volatile stock if advertisement revenues decline sharply on weak economic data. As noted in the third graph of this series, China’s Producer Price Index has been in negative territory since 2012, and this ongoing weak outlook for producer’s pricing power may eventually soften Baidu’s sharp rise from $91 per share in July 2013 to the current level of $150 per share.
Asia’s equity outlook
The weakening yen and a relatively flat wage growth in Japan has supported Japanese markets, as reflected in Wisdom Tree Japan Hedged (DXJ) and the iShares MSCI Japan (EWJ) ETF’s. An aggressive monetary policy in the U.S. has supported the S&P 500 as reflected in the State Street Global Advisors S&P 500 SDPR (SPY), State Street Global Advisors Dow Jones SPDR (DIA), and Blackrock iShares S&P 500 Index (IVV), which have been up nearly 18% over the past year. However, tapering is now in play, and higher rates in the five-year Treasury could cool U.S. valuations going forward. Given China’s current financial challenges in the banking system, both the U.S. equity and the Abenomics-driven Japanese equity markets may continue to outpace China’s iShares FTSE China 25 Index Fund (FXI) and Korea’s iShares MSCI South Korea Capped Index Fund (EWY). However, if U.S. valuations continue to increase over the year, China’s valuations should eventually become increasingly compelling. With FXI’s key holding, banking flagship Bank of China, trading at 0.84 price to book and a 4.95 price to earnings ratio, one has to wonder how much lower Chinese banks and financials can go.
For an overview of the U.S. macroeconomic recovery, which can support China’s export economy, read 2014 US macro outlook: The crack in the debt ceiling.
The next part of the series discusses the rise in Chinese wages in U.S. dollars.