If the wages of U.S. workers were rising at 10% per year, you can be sure economists would be sounding the inflation alarm bells. After all, even the slightest sign of an upward surge in labor costs brings calls for the Federal Reserve to boost interest rates even faster.
But what if it's Chinese wages that are rising at a 10% pace? Should the Fed care? In the era of globalization it sometimes feels as if Guangdong and China's other industrialized provinces are extensions of the U.S economy. Indeed, the value of cheap imports from China -- about $240 billion in 2005 -- exceeds the net revenues of the U.S. securities industry. With that large an impact, it wouldn't be a surprise if soaring wages in China translated to higher import prices and faster inflation in the U.S.
Certainly, policymakers at the Fed are aware of this possibility. "No right-thinking businessman or woman, whether in El Paso or Detroit, thinks in terms of the U.S. only now," says Richard W. Fisher, president of the Federal Reserve Bank of Dallas. Said Fed Governor Donald L. Kohn in a speech last October: "We cannot rule out the possibility that globalization might someday even create inflationary pressures [in the U.S.] on balance."
But here's the surprise: For now the cost increases in China are not being passed through to U.S. prices. The latest data from the Bureau of Labor Statistics, released on Mar. 15, show that the price of imports from China has fallen by 0.4% over the past year, vs. a 1.8% rise in the price of non-oil imports from all countries. In part, rapid productivity jumps in Chinese manufacturing may be allowing employers to pay higher wages and still keep prices low.
Equally important, foreign manufacturers, in China and elsewhere, seem increasingly willing to take a hit against profits rather than raise prices when their costs go up. That's what research from the Federal Reserve suggests. In the 1980s more than half of foreign cost increases because of exchange rate changes show up in the form of higher import prices in the U.S. Today, research shows, only about one-fifth of cost hikes are passed through, perhaps because importers want to keep their share of the U.S. market.
These days manufacturers in China seem unable to pass on the higher costs. Wage inflation is "eating into margins. There is very little pricing power in China -- or globally, anywhere -- anymore," says Michael Barbalas, general manager at the Suzhou factory of Andrew Corp. (ANDW), a Westchester (Ill.) maker of wireless networking gear. "You can't negotiate with Wal-Mart (WMT), and if you're selling to the large electronics [original equipment manufacturers], you don't have a lot of pricing power, either."
True, manufacturers in China can't absorb higher costs forever, especially if Chinese wages keep climbing. But today Fed policymakers still care more about wages in New York and Kansas City than in Shanghai or Beijing.
By Catherine Yang in Washington