Between 1980 and 2011, the value of goods exported throughout the world increased from just over $2.0 trillion to $18.3 trillion, or just over 7% per year (see chart below). Over this period, falling transportation costs and improved communication tools allowed companies to source raw materials and components anywhere in the world for final assembly, often in plants far from home. Low labor costs and a growing infrastructure cemented China’s dominant role in the global supply chain with the country becoming the world’s largest exporter back in 2009. Its dominance has persisted. The country remains the world’s largest exporter accounting for just under 13% of the total in 2018.
The latest Coronavirus epidemic, however, has exposed the downside to the corporate world’s enduring drive for efficiency and growing dependence on China. Since February, corporate CEOs around the globe have been warning of possible disruptions to their supply chains should the virus continue. Apple was first out of the gate announcing in mid-February that its supply of iPhones would be reduced due to factory shutdowns in China and falling demand within the country. As the chart below shows, not every industry is equally exposed to supply chain risks. Some, like apparel, have already diversified their manufacturing base away from China. But others, like electronics, that hold relatively thin inventories and lack alternative sources for many parts, face greater risk.
While the coronavirus has provided added incentive, the move to decouple manufacturing from China is not new. Nike and Adidas moved manufacturing to lower labor cost countries such as Bangladesh and Vietnam years ago. More recently, the desire to protect key intellectual property and the threat of rising trade tariffs has encouraged many firms to bring part, though rarely all, of their production capacity back home.
While the idea of diversifying production capacity away from China is appealing, this can be difficult to achieve. Over the last 30 years, the country has built up an impressive infrastructure designed to support its manufacturing base. Of the nine largest container ports in the world, for example, seven are in China. Consider too that the local government shelled out $1.5 billion to help iPhone manufacturer Foxconn build factories and worker housing and another $10 billion to build a nearby airport. This long history of support has helped create a manufacturing base that is more innovative, flexible and productive than most. Perhaps most important, China is no longer just an assembler of finished products. Because they manufacture a broad array of intermediate goods, firms that have moved final assembly out of the country have often found that they must still source components from China.
Efforts to diversify supply chains are likely to continue despite these difficulties for several reasons. First, China’s manufacturing capabilities today are unsurpassed. But other countries are not sitting still. India and Mexico are two countries worth keeping an eye on. Second, the latest epidemic has revealed the downside of placing too much emphasis on efficiency and low cost and not enough on resilience. A resilient supply chain is one that can adapt to unexpected interruptions. This generally means carrying higher inventories and establishing back-up capabilities. Exiting China completely will not be possible or even advisable for most businesses. But the country’s lock-hold on the world’s supply chain may well be under threat.