Some industrial jobs aren't coming back.

Source: STR/AFP/Getty Images

China Needs Layoffs, Not Just Jobs

Michael Schuman is a journalist based in Beijing and author of "Confucius: And the World He Created."
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Economists, investors and central bankers around the globe breathlessly awaited last Friday’s U.S. jobs numbers, knowing the figures will likely determine when and by how much the Fed decides to raise interest rates. The world’s second-largest economy can only dream of such excitement.

QuickTake China's Economic Data

Officially, the unemployment rate in China’s cities has hovered around 4 percent for years. Even the slowest growth in a quarter century hasn’t disrupted this remarkable tranquility. Supposedly, more than 10 million jobs were created in the first three quarters of 2015, topping the government’s target for the whole year.

A burgeoning services sector accounts for at least part of the healthy job growth.  China’s statistics may also be understating the level of joblessness, just as they likely overstate growth. But the truth is, China would be better off with even higher unemployment.

That may sound ridiculous. In a January report, HSBC economists figured that China must create 14 million new, urban jobs each year to keep the labor market stable. At the same time, one of the biggest problems facing the Chinese economy right now is massive excess capacity in steel, cement, metals and other industries built up during the country’s go-go years. Now that investment has tapered off, more and more of those mills and factories are effectively redundant.

Suspiciously low unemployment numbers reflect the fact that factories aren’t closing or downsizing -- and thus laying off workers -- fast enough. Laura Zhai, a director at rating agency Fitch in Hong Kong, estimates that China needs to eliminate at least twice as much steel capacity as is currently planned for the sector to recover. Factories may be losing as much as $50 per ton of steel, according to one recent estimate.

The damage goes well beyond the financial health of individual companies. A July study of China’s labor market by the International Monetary Fund argued that by keeping too many workers on the payroll, state-owned enterprises [SOEs] are holding back overall economic progress. “Though this labor hoarding by SOEs may mitigate negative impact on employment as the economy slows, prolonged reliance on it could reduce labor flexibility, leading to its inefficient allocation, limiting productivity gains,” the report says. In other words, saving jobs today is hurting growth tomorrow.

The fear of layoffs and potential worker unrest is preventing China from truly reforming the state sector. In the government’s latest plan to improve SOEs, released in September, some would be encouraged to become more efficient. But others would be “dedicated to public welfare,” according to Xinhua, the official news agency. The latter “will exist to improve people's quality of life and provide public goods and services” -- essentially, to serve as job banks.

The need to maintain employment levels also perpetuates China’s unhealthy obsession with GDP growth. At a 2014 press conference, Premier Li Keqiang stressed that the country had to keep growing fast enough “to ensure fairly full employment and realize reasonable increase of people’s income.” Over the past year, the central bank has repeatedly cut interest rates and taken other measures to spur credit, despite China’s burgeoning debt pile. China’s grand plan to rebuild the old Silk Road trading routes is essentially a boondoggle for construction companies, equipment makers and other old-line companies that employ thousands of people.

China’s leaders have embraced layoffs before. Millions lost their jobs in a large-scale overhaul of the state sector launched in the late 1990s. Yet at that time, the economy was still booming and replacing jobs lost at state factories with new ones in the private sector.

This time, the economy is transitioning away from its dependence on investment for growth, which means many industrial jobs may vanish permanently and leave laid-off factory workers fewer options. The IMF report estimates that streamlining state companies and industries with surplus capacity more quickly could add half to three-quarters of a percentage point onto the near-term unemployment rate. That may look like a small bump, but in gross numbers, it would add up to plenty of unhappy Chinese with a gripe against their government.

Yet something is going to have to give. According to government data, profits at major industrial companies declined 2 percent over the first 10 months of the year compared to the same period in 2014. At state-owned enterprises -- which account for much of China’s excess capacity and workers -- profits have dropped by 25 percent. To cushion the blow of layoffs, the government needs to move faster to deregulate the service sector to create alternative jobs. Redundant steel and cement workers will require retraining for lives in those new industries. Those too old to switch careers need a strengthened safety net.

Otherwise the future for everyone looks grim. The IMF study warns gently that delays in implementing reforms “could cause further distortions, which would weaken medium-term employment prospects.” The question isn’t whether China will suffer widespread job losses, but when.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Michael Schuman at contactschuman@gmail.com

To contact the editor responsible for this story:
Nisid Hajari at nhajari@bloomberg.net