Image: Factory workers protest in China
Daniel Chan  /  Reuters
Laid-off factory workers smash an office during a protest at a Kaida toy factory in Dongguan, Guangdong province, in China on Nov. 25 after the company indicated it would not pay them full compensation.
By
msnbc.com and NBC News
updated 12/12/2008 8:14:30 AM ET 2008-12-12T13:14:30

For American parents, bargain prices for toys this holiday season qualify as good news: A Barbie fan who rose before dawn for Wal-Mart’s Black Friday sale could secure the coquettish “Barbie Diamond Castle Princess Liana Doll” for $5 — royally marked down from its regular retail price. At Target, a 10-pack of die-cast Hot Wheels cars also went for just $5, while a radio-controlled helicopter cost a mere $15. The price wars were enough to draw consumers out of their bunkers for their first shopping spree in months.

But wrapped up with those cheap toys are ominous economic omens for both sides of the Pacific. The rock-bottom prices show how desperate U.S. retailers are to plump up weak consumer demand — a symptom of the ailing U.S. economy and a serious problem for China, which makes nine of every 10 toys sold in American stores.

Declining U.S. orders already have contributed to the closure of at least 3,600 toy factories since the beginning of 2008, according to the Chinese government, leaving hundreds of thousands of Chinese workers suddenly out of work in this sector alone. Some of the shutdowns have triggered violent protests, a situation that could worsen if the Western recession drags on through 2009, as many economists are predicting.

“Unemployment in China could deprive a lot of people of their lifeline,” says Hu Xindou, an economics professor at the Beijing Institute of Technology. “So it could trigger social instability or even shake the rule of the Communist party.”

Millions of jobs at stake
The toy industry has played a major role in China’s economic surge over the past 30 years. Exports account for as much as 40 percent of China’s gross domestic product, and labor-intensive industries making things like toys, shoes and clothing generate millions of jobs for its rapidly growing workforce.

But Chinese toy makers began feeling the economic squeeze well before the U.S. recession was made official in late November.

U.S. retailers trimmed orders after suffering weak sales in the 2007 holiday season — made worse by recalls of dangerous toys.

The volume of Chinese toys passing through eight major U.S. ports was down 5.9 percent in the first nine months of this year, compared to the same period in 2007,  according to economic forecaster IHS Global Insight, which tracks the information for the National Federation of Retailers. Toy traffic through the ports of Los Angeles and Long Beach, Calif., which typically handle more than half of Santa’s incoming booty, declined 10.2 percent, as measured by tonnage.

The draw-down isn’t readily apparent at U.S. shopping malls, where toy shelves appear as packed as ever. And the limited inventories on hand likely won’t become obvious unless a toy emerges as a must-have item — like the Tickle-me-Elmo and Cabbage Patch dolls of past shopping seasons.

Slowdown makes tough time tougher
Behind the scenes, though, the decreased orders are sending shock waves through the Chinese economy.

Slideshow: Made in China “A lot of what is happening in China, particularly with respect to toys, is demand driven,” says Erik Autor, international trade counsel for the retailers federation. “Toy (buyers) are ratcheting back orders, reflecting a drop in consumer demand.”

Major Market Indices

Slowing orders have added to other pressures on China’s toy makers.

China’s new labor contract law, which imposed stricter conditions and compensation for layoffs of temporary workers, took effect in 2007, increasing costs for manufacturers that rely heavily on migrants on production lines, including toy makers and other labor-intensive manufacturers based mainly in southern Guangdong province. The province has become the core of China’s manufacturing sector based on the flow of cheap and abundant labor temporary workers from the country's poor interior. By some estimates there are 150 million migrant workers in Guangdong alone.

Toy makers also were hard hit by the rising price of oil, which surged to more than $140 a barrel in June, and in turn sharply increased the price of plastic.

Industry sources say the toy makers saw profits squeezed to the point where many tried to renegotiate contracts with buyers— especially major U.S. players, such as Wal-Mart and Toys "R" Us.When they discovered the buyers wouldn’t budge on the purchase agreements, many simply decided to close their factories. Some locked the gates and vanished in the dead of night, leaving workers to discover they had no job when they arrived in the morning.

“Over half (of the factories) that have closed had negotiated a price, then when they couldn’t get the retailer to move (on the price), they wouldn’t make it at a loss and closed down,” said Britt Beemer, a retail strategist and founder of Charleston-based America’s Research Group.

Others found ways to cut corners, which is cited as one reason that the problem of Chinese toy safety came to a head last year. Among other things, some Chinese factories started using lead-based paint on their products because it dries faster and thereby speeds production time.

“They were either closing their eyes or closing their doors,” said Michael Zakkour, managing director of China BrightStar, a manufacturing and sourcing consultancy.

To be sure, some of the factories that were shuttered were small shops that employed only a few dozen workers. And the contraction is to some degree a natural consolidation process in an industry that is overbuilt. But big players have clearly been affected as well.

One of the most publicized cases was the abrupt closure of the Smart Union toy company in October in the city of Dongguan, the center of the toy industry. When the factory managers disappeared overnight, leaving 7,000 workers without paychecks or severance, protests erupted, targeting both the government and the publicly traded Hong Kong company. The Dongguan government finally doled out 24 million yuan ($3.5 million) to pay what was owed to the workers and settle the conflict.

“All local officials recognize that they are judged on the basis of their ability to control social unrest,” said Nicholas Lardy, a China expert and senior fellow at the Peterson Institute for International Economics. “It’s in their interest to make sure factories don’t leave town and abscond with back wages.”

In November, toy workers rioted after the Hong Kong-based Kaida Manufacturing Co. laid off 600 employees from its factories in Dongguan and tried to avoid paying compensation required by the new contract law. Local media reported that approximately 1,000 police and security guards were called in to disperse the angry crowd, but company offices were ransacked, cars overturned and at least five people were injured before order was restored. Kaida ultimately agreed to renew contracts with senior employees and offered compensation packages to others.

Reverse migration
The closures have left many migrants with no work, including 23-year-old Wu Yang, who worked at a Taiwanese-owned factory in Dongguan for three years before being laid off four months ago when the operation was shut down. Wu is considering returning to his home in central Henan province, but for now he’s killing time in local bookshops and hoping the situation will turn around.

"Maybe I will go home, but it’s boring there,” Wu said. “And I’ll just gamble all my money away."

Each day, thousands of other migrants in Guangdong and other coastal provinces board trains and buses for their home villages, leaving earlier than normal for the Chinese New Year, which begins Jan. 26.When and if they will return is anyone’s guess.

In the short term, the exodus of unemployed workers eases pressure in Guangdong and other manufacturing centers. Longer term, however, it hurts families living in the poorest parts of China, who receive money from migrant workers. That raises the prospect that the protests and violence in the manufacturing regions could spread to the interior, many China experts say.

“It’s a potentially scary scenario,” said Lawrence Delson, who teaches China business courses at New York University. “If many of these migrant workers go home, what happens to the flow of money back to the inland provinces? … There is a deepening division between the haves and the have-nots … raising the specter of social unrest.”

Mixed message
The Chinese government appears well aware of the threat and has taken action aimed at stimulating its sagging economy.

In November, Beijing announced a massive $586 billion stimulus package. Economists and world leaders praised China for putting together the most ambitious rescue package in the world, worth about 3 percent of its GDP.

Chinese leaders did not provide many details of the package, but indicated that it would include spending on infrastructure, health and education. The central purpose of the package, they said, was to spur consumption in China rather than rely so heavily on exports for growth. At a G20 meeting later that month, China also agreed with other major economies that in grappling with the crisis, all nations should avoid protectionism.

But with pressure mounting to protect jobs in its export sector, Beijing also has instituted policy that is contrary to the spirit of the G20 meeting by increasing tax rebates on thousands of export products — from toys to toasters. The rebates, and an artificially low valuation of China’s currency, essentially give its exports a competitive edge in the world marketplace, threatening to increase trade imbalances that have long caused tension.

Even Chinese officials have expressed concern that the rebate policy, which experts say covers at least 50 percent of China’s exports, could spark retaliation from trade partners, including the United States. Some trade experts warn that could spark a trade war, similar to what happened when the United States put in place high protectionist tariffs in 1930, thereby fueling the Great Depression.

“At the moment, China is the gold standard on the stimulus,” said Lardy, of the Peterson Institute of International Economics. “But I would give them very low marks for this (tax policy.) They are … basically promoting exports at the expense of the rest of the world.”

Reported by msnbc.com's Kari Huusfrom Redmond, Wash., and Adrienne Mong in Dongguan, China.

© 2013 msnbc.com  Reprints

Video: Economic fallout reaches far

Discuss:

Discussion comments

,

Most active discussions

  1. votes comments
  2. votes comments
  3. votes comments
  4. votes comments

Data: Latest rates in the US

Home equity rates View rates in your area
Home equity type Today +/- Chart
$30K HELOC FICO 4.73%
$30K home equity loan FICO 5.26%
$75K home equity loan FICO 4.70%
Credit card rates View more rates
Card type Today +/- Last Week
Low Interest Cards 13.42%
13.42%
Cash Back Cards 17.94%
17.94%
Rewards Cards 17.14%
17.14%
Source: Bankrate.com