ENVIRONMENT
3. Changing Business Environment for HKP
3.1. Changing business environment in the PRD region
In the past five years, business environment has deteriorated rapidly for PTEs in the PRD region. Market changes have driven up business operating costs dramatically. First, Chinese currency RMB appreciated more than 20% against USD from 2005 to 2008. This appreciation has directly impacted the cost competitiveness of products made in the PRD region.
Second, labor cost in the PRD region has been at sharp rise. From 2004 to 2008, the minimum wage standard was revised three times and the lowest salary for production workers increased by about 70%. In early 2008, the implementation of a new labor contract law pushed up labor cost further by an average of 23.5%, as China government mandated better social security and job security for employees. Third, oil price has been highly volatile since 2004. In July 2008, oil price hit its historical high level of about
$150 per barrel, while that before 2003 was about only $30 per barrel.
High oil prices led to high transportation costs, which discourages the intensive global trade activities of PTEs. Fourth, prices of many industrial raw materials have soared in correlation with that of oil price, as they are by-products of oil refinement, or incur high energy consumption during
production processes. Last, utility costs have gone up too, as they are also affected by the rise of oil price (HKTDC 2008b).
Industrial policies have also changed to be in less favor of PTEs. At cen- tral government level, China reduced export value-added tax (VAT) rebates in both 2006 and 2007. It affected a very large category of labor-intensive products. “Prohibited” category has expanded for processing trade. For the production of these products, PTEs now have to make full payment of tariffs and VAT for imported raw materials and parts. “Restricted” cate- gory has also expanded. For products in the category, PTEs are subject to the customs duty deposit system. Their cash flows are affected (HKTDC 2007a). At local government level, Guangdong province started its industrial restructuring program as an attempt to upgrade its industries toward heavy, chemical and high-tech industries. Further set-up of labor-intensive and energy-intensive PTEs is discouraged in the PRD region (GPRD Business Council 2006). With the implementation of more strict environmental pro- tection standard, sewage treatment charges more than tripled from RMB 0.25 per tonne to RMB 0.8 per tonne (HKTDC 2007a).
Among the above changes, four factors have been most influential on production costs and business profits. These four factors are RMB currency exchange rate, labor cost in the PRD region, oil price and export VAT rebate in China (HKTDC 2007a, HKTDC 2008b). As PTEs are now under tremendous pressure to relocate, HKP development is at risk due to its heavy dependence on cargoes from PTEs. If the traditional processing trade industries relocate far away from the PRD region, it is less likely that they will continue to use HKP for their import and export. On the other hand, the port and logistics facilities of Hong Kong were primarily developed for containers. They will not be able to provide the logistics support needed by the heavy and chemical industries promoted in Guangdong. Coupled with the more fierce competition from neighboring ports, HKP faces a very challenging future (GPRD Business Council 2006).
3.2. Potential processing trade relocation trends
Relocation involves various business considerations. Low labor costs are crucial for the production of labor-intensive products. Availability of skilled labors is also important. Exchange rate risks should be minimized. Ade- quate infrastructure is essential for manufacturing and logistics operations.
Conducive business environment and investment incentives are also valued by global manufacturers. In addition, companies often locate within existing
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industrial clusters where necessary raw materials and services are readily available. Using footwear products serving the US market as an example, this research identifies five popular relocation destinations:
Guangdong (Qingyuan, Guangdong, China): The location represents lower cost areas in Guangdong province out of the PRD region (GPRD Business Council 2007b). The PRD region is in the central part of Guang- dong and consists of nine counties. They are Zhaoqing, Jiangmen, Zhuhai, Foshan, Zhongshan, Guangzhou, Dongguan, Shenzhen and Huizhou. Their locations can be seen in Fig. 1. The north, west and east parts of Guangdong are less developed. Their labor costs are lower in comparison with that of the PRD region. Most of these areas are within 3 hours driving distance to the seaports in the PRD region. Relocation to these areas maintains the connectivity with existing industrial clusters in the PRD region. Many local governments offer tax and land incentives.
Pan-PRD (Ganzhou, Jiangxi, China): The location is within Pan- PRD region and 450 km away from the PRD region. The location of Jiangxi can be seen in Fig. 2. It represents lower cost areas in Pan-PRD (GPRD Business Council 2007b, HKTDC 2007b, HKTDC 2008a). The local government offer tax and land incentives.
Fig. 1 Map of Guangdong province of China.
Fig. 2 Map of Pan-PRD of China.
Inland (Bishan, Chongqing, China): The location is about 2,500 km away from the east coast of mainland China. Its labor cost is among the lowest in China. It represents other inland provinces of China (GPRD Busi- ness Council 2007b). Several large footwear plants have been established in the region to serve domestic market. Skilled labors and raw materials are available.
India (Chennai, Tamil Nadu, India): The location has easy access to a container port. It represents lower cost countries in Asia (HKTDC 2008a).
The location hosts one of the largest footwear clusters in the country. Its local government offers very attractive investment incentives for export oriented manufacturing operations.
Mexico (Leon, BC, Mexico): The location is about 600 km away from the US border. It represents low cost countries which are near major international markets. A footwear cluster exists in the region. The location incurs lowest transportation costs and zero tariffs to serve the US market. It is least vulnerable to risks from high oil prices (Rubin and Tal, 2008).
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PTEs’ choices of relocation destinations are expected to have funda- mental impacts on HKP development as they serve as the key cargo source.
If PTEs relocate to Asian lower cost countries or near major markets, as represented by India and Mexico respectively in the example, HKP will be in a very unfavorable position. If PTEs relocate within China, their choices among Guangdong, Pan-PRD and Inland will cause different implications on HKP development. The routing patterns of cargo are influenced by several key factors, including port connectivity, transportation modes, transport distance, shipping cost and port competition. Generally speaking, better connectivity, shorter transport distance and lower shipping cost attract more cargo. In terms of transportation modes, barging incurs substantially lower cost than land transportation modes, and thus is preferred as long as water- ways are available. HKP possesses geographical advantage for cargoes from its west via barging (Lin, 2008). If the Hong Kong-Zhuhai-Macau Bridge is completed in the next few years as planned, HKP will extend its advantage to cargoes from its west via trucking. Though the port of Gaolan in Zhuhai is nearer to cargoes from the west side, it is far less established and may not be able to develop into a competitive mainline port. However, for cargoes from its north and east, the nearest seaports are well-established Guangzhou and Shenzhen ports respectively. For both waterway and land transportation, these two ports are in more convenient locations than HKP. In addition, high THCs, high trucking cost and the low efficiency of border-crossing have been causing cargo diversion from HKP to Guangzhou and Shenzhen ports (Seabrookeet al., 2003; Cullinaneet al., 2004).
Currently, it is unclear which relocation destination will attract most PTEs. As different relocation trends cause varying effects on HKP develop- ment, it is essential to understand which trend would become dominant and which factor plays a most influential role. To answer this research question, scenario analysis is conducted in the following three sections through MIP modeling and sensitivity analysis.