China’s shrinking workforce has big repercussions

by Michael Collins, Investment Commentator at Fidelity

April 2013

The coming years will be favourable ones for Chinese workers seeking hefty pay rises. A big contraction in the labour force will help their bargaining position no end, as it upturns China’s economy.

To understand the test confronting China it helps to canvass the work of an economist from the Caribbean island of Saint Lucia who won the Nobel Prize in Economic in 1979 for his theories on development. The “dual sector model” of Sir Arthur Lewis (1915-91) purports that economies advance without triggering inflation because the expanding industrial sector can scoop up labour from the subsistence primary (agricultural) sector . Basically, an unlimited supply of peasants willing to work in factories for low, but not subsistence, wages allows the industrial sector to power ahead by earning, then reinvesting, excessive profits. But there comes a time when the supply of surplus labour peters out and developing countries confront a labour shortage. The point at which an abundance of labour is about to vanish is known as a “Lewis turning point”. Among its symptoms: wage increases outstrip productivity, industrial profits decline, investment drops and inflation becomes a threat.

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