Dark Clouds Over The Delta.(Business)(pearl river delta in Guangdong)

Byline: George Wehrfritz; With Ko Shu-Ling in Taipei

Factories are closing in the Pearl River Delta, just as Beijing planned. The next step is even harder.

It hasn't been determined precisely how many factories succumbed to the flooding that ravaged southern China last week. But Mother Nature has become yet another push factor now driving small, low-tech manufacturers to quit the Pearl River Delta, a former rice-growing region remade by 1980s capitalist reforms into a world-beating export platform for textiles, sporting goods and toys. Many of the delta's factories were underwater even before the summer rains started falling. During a trip through the industrial city of Dongguan recently, Credit Suisse's top economist for Asia, Dong Tao, witnessed five factories in the process of shutting down. Workers had queued outside and "bosses were making severance payments," he says.

Such scenes are reminiscent of bygone industrial transitions in Japan, South Korea and Taiwan in which low-end factories--the engines that powered economic takeoff--lost competitiveness and either migrated or shut down. Twenty years ago Guangdong was the place most small, family-owned manufacturers in Asia flocked to, making it China's top exporting province and a magnet for migrant labor from the hinterland. But since 2005, wages have risen 14 percent a year and the yuan began to appreciate, the trend has reversed. Tougher labor, tax and environmental rules implemented this year, combined with spiraling energy and material costs, have driven thousands of factories to quit the delta, the start of an inevitable "hollowing out," says Tao. "Twenty years ago [Taiwan's southern industrial city] Kaohsiung was the fifth largest container port in the world, but today it's an angry town with 20 percent unemployment. This is what's going to happen in [China's] Guangdong province."

In certain respects, Guangdong's transition is all part of Beijing's grand plan. In recent years national and provincial leaders have stressed a newfound desire for "quality investment" in the province--meaning funds for high-tech projects farther up the value chain, not labor-intensive assembly. They're also pushing services including logistics, information technology and banking, much of which is now handled in neighboring Hong Kong. Their aim: to maintain Guangdong's double-digit growth rate, create higher-paying jobs and decrease the province's dependence on low-end manufacturing, which is often resource intensive and highly polluting. To hasten that transformation, Guangdong has repealed tax rebates for exporters and adopted a new Labor Contract Law that guarantees compensation for overtime work, offers mandatory severance and requires employers to make social-security payments that together "increase production costs 25 to 30 percent," says Chu-Chia Lin, an economist at National ...