The answer has to do with market thickness. Let’s say you have two e-shops, like eBay, one with 100 sellers and the other with 10 sellers. Where do you think you’ll look first? Once a market passes its tipping point, it’s hard to turn the tide. Similar reason to why nobody has been able to replicate Silicon Valley yet. Industries and markets can be disrupted, but economic sectors (that are more global than ever, mind you), are in a different position.

Manufacturing will probably remain in China until it will be decentralized with the new wave of Industry 4.0. Imagine there is a building inside your neighborhood, fully automated, that eats plastic, metals and everything else all day. Suddenly you want to buy a new washing machine, you order it and in a matter of hours you go to pick it up. That’s the sexy example, but Industry 4.0 means a bit more than that.

The main argument is that labor costs will get too high and deindustrialization will happen in China as it happened in advanced economies. I recently read this great article by Dani Rodrik, professor of economics at Harvard, that talks about why it’s getting harder for new economies to use the same model of economic growth based on manufacturing, and why his recent study shows that developing countries have a hard time building on this framework and what it means to them. Here is the article, published on the Harvard website.

Premature deindustrialization

“Sustained, rapid convergence on the part of developing economies has historically required industrialization, except for a very few resource-rich economies.”

Industrialization has traditional been part of the economic growth that most countries followed to arrive at the level we see them today. Starting with Europe and US, followed by non-Western countries (Japan, South Korea, Taiwan etc).

Industrialization has been a fuel for economic growth in many ways, its effects felt across decades. One of the most important one is that manufacturing traditionally employs low/middle-skilled labor, helping bring people from rural to urban areas and creating the market thickness that I mentioned earlier.

Picture from Wikimedia Commons

This structured, organized growth is important as it makes it harder to be displaced. Manufacturing is a highly tradeable sector, not restrained by internal market demands. It fuels innovation, as its productivity is dependent on technical innovations.

As economies made the transition from being manufacturing economies, to services-led, they did it at a point where output, productivity and income were high. This helped them have an easier transition, as now the 2/3 of the workforce in developed economies are employed in local services (government, doctors, lawyers, clerks etc) – meaning they are much harder to displace. (This amazing book goes into much more detail of how a service economy turns into a knowledge, and then into an innovation economy: The New Geography of Jobs, Enrico Moretti)

Many trends have a tendency to accelerate and build on their momentum. The process of deindustrialization is similar and when it happens at a much earlier time than it did with the initial industrialized countries, this becomes premature deindustrialization.

There are multiple reasons why this happens, internal policy making, global trade, investments, technology and so on. The effects of this are the important part. If deindustrialization happens when the output, productivity and income are still at a low level, the labor employed in this sector will move to low-productivity service jobs.

The countries captured in the study linked above display this exact phenomenon. The transition to a healthy services-led economy is slowed as the labor is neither highly-skilled, nor at a high-income level while deindustrialization happens.

How do manufacturing economies behave socially?

Manufacturing hasn’t only fueled positive economic growth, but it also had many spillover effects across the social and political aspects. Manufacturing helped shape the modern states that we know today, through organized labor, workers’ rights and welfare states. The lack of meaningful organized labor in developing economies means the direction their political development will go is uncertain, and it can lead to different outcomes.

Manufacturing is tied to political stability, it’s not a coincidence in political unstable countries the main economic driver is mining of raw materials and agriculture.

One of the solutions Dani Rodrik suggests for services-led growth, are IT and Finance. However, these are highly skill intensive, they cannot absorb the labor that manufacturing traditionally did. The unfortunate part is that this type of labor is something these economies have in abundance.

Will manufacturing move out of China?

There are multiple reasons why manufacturing in China has flourished and many of these have to do with the unique situation in regards to demographics, culture and scale.

There are also multiple studies, like the one mentioned above, that confirm that a) the new world economy simply makes it much harder for a “new China” to appear and b) that even if they try, countries will not gain as much wealth as countries have done in the past, relying on manufacturing to drive their economies next to rich countries.