Foreign manufacturers in China facing higher taxes

New Chinese government policies are likely to put pressure on the profits of foreign manufacturers in the near to medium-term. The Chinese government has previously indicated that it will equalize tax rates for domestic Chinese firms and foreign firms. The recent announcement of a time schedule for this equalization has surprised some foreign companies as full equalization will occur by 2012, a relatively quick timeframe. Foreign firms will see tax rates increase from a preferential 15% to 18% in 2008, 20% in 2009, 22% in 2010, 24% in 2011 and 25% in 2012. Meanwhile, Chinese firms will see their tax rates drop to 25% in 2012. The competitiveness of foreign firms relative to local Chinese firms will decline, at the margin, as tax rates head toward equalization.

In addition, foreign manufacturers in labor intensive industries will face the further headwind of new labor laws. New labor laws were recently introduced to protect the rights of workers against abusive employers. The net effect of the labor laws is likely to mean higher labor costs. Some manufacturers have indicated that labor costs could rise by 40% as a result of the new laws. For companies that have been 'short-changing' their workers, the rise in labor costs could be even more severe.

The Red Cat Journal believes the hardest hit foreign manufacturers are likely to be the Taiwanese, followed by Hong Kong manufacturers (both Taiwanese and Hong Kong companies are treated as 'foreign', although both places are nominally part of China). Many Taiwanese manufacturers are already facing low profit margins as they often compete in low value-added manufacturing. In addition, Taiwanese companies often have paid their workers lower effective wages as a result of harsher work rules relative to larger multinational corporations. Over time, we would expect to see many Taiwanese manufacturing businesses to close down or move to Vietnam.