When the Guns Fell Silent

Social revolutions in Asia changed global manufacturing markets once, and it's happening again: No more cheap clothes for the West

Cotton prices have been soaring for months. There are a number of reasons for this. One is unusual weather patterns from the United States to Pakistan. Another is spiking demand in China, and a third is the decline of the dollar. All the above have jacked up commodity prices and triggered a flurry of speculation by hedge funds.

The increase in the price of cotton, the primary raw material of the textile industry, in turn puts pressure on clothing prices. Consumer prices are rising here and there, but so far it's been in the margins, incremental increases on certain. No big economic story there, you say.

sweatshop - Reuters - October 28 2010

But in fact, apparel prices demonstrate the way that long-term economic processes are affected by global demographic or geopolitical changes.

We'll begin with a quiz. By how much do you think clothing prices rose in Israel in the past 20 years, between September 1990 and last month?

Here's a hint. During that time the consumer price index tripled. In annualized terms, inflation ran at 5.5%. Also, prices rose more in the 1990s and less from 2000 onward.

But that information is misleading, because clothing and footwear prices do not behave like other categories in the CPI.

In the past 20 years, overall prices climbed by 5% a year, while clothing prices rose by just 5% in total. In other words, clothing and footwear prices dropped by nearly 70%, in real terms - which means after adjusting for inflation.

During the same period, meanwhile, the average wage rose by more than the CPI, enabling people to dramatically increase the amount of clothing they could buy each year, for the same proportion of their wage. Say you spend 10% of your annual salary on clothes. The decline in clothing prices and the rise in pay means you got more bang for the same 10% of your buck. You could get you more and more each year, and in practice, people bought and bought and bought.

Leaving aside designer brands, which did increase in price but which are an afterthought in the consumer basket, basic socks, shirts, underwear and the like cost the same as they did 20 years ago.

This is true throughout the world, not just in Israel. Why? Because textile manufacturing moved to the countries with the lowest labor costs, mainly in Southeast Asia. The sharp drop in manufacturing costs trickled down to the buyers.

That sharp drop in the price of clothing can be attributed to geopolitical circumstances.

In the 1970s, Cambodia and Vietnam were embroiled in what came to be known as the Second Indochina War. Cambodia's murderous Khmer Rouge regime committed horrendous crimes against humanity.

China was pretty much closed off to the world, in the grip of rigid Communist doctrine. As the regime of Mao Tse Tung faded, the government was preoccupied by political infighting.

Come the 1980s, these dramas wound down. The countries of Southeast Asia began to attract investment, and companies in the West began moving their manufacturing to them, starting with unskilled and low-skilled, labor-intensive industries such as textiles. The trend was not limited to countries that had been recently wracked by war. It included regional states from Bangladesh to Malaysia to the Philippines, intensified in the 1990s and came to a peak in the past decade.

ata - Haaretz - October 28 2010

Clothing prices began to creep up during the 1990s, but by much less than the rate of inflation. Beginning in 2000 they receded, returning to their nominal level of the 1990s.

These processes changed the face of the West and had a particularly strong impact on Israel. The decline in prices vastly increased household purchasing power. People exploited that new-found power fully, purchasing more and more items of clothing every year. More and more retail space was developed, much of it in the shopping malls being built throughout the country, the lion's share of which is taken up by shoe and clothing stores.

You could say that if the nations of Southeast Asia had remained isolated and continued to tear themselves apart, global clothing prices would have remained sky-high and the malls of the West would look completely different.

In other words, if Pol Pot, the murderous despot of the Khmer Rouge, were still alive and kicking, Azrieli's shopping mall empire would have been smaller.

A case in point is the Kiryon mall in Kiryat Bialik, owned by Melisron. Half of its stores sell shoes and clothing. What used to be on the site? The Ata textile plant. (Founded in 1934, south of the Arab village of Ata, it became an icon of the Israeli textile industry. It fell ill in the 1960s and finally succumbed, after a long battle, in 1985. )

These processes hold not only for clothing and shoes but also for furniture, toys, housewares and electrical appliances. The prices of products made in Southeast Asia, with its dirt-cheap labor costs, have barely increased in decades.

In the past 20 years, the price deflation of consumer goods was Asia's number-one export sector.

If imported goods were not behind the increase in the overall consumer price index, then what was? Everything that couldn't be imported cheaply from Asia, from energy and most food items to health care and of course housing.

This global process brought with it many benefits. The 1960s birthed the hippie movement, whose slogan "Make love, not war" helped bring America's soldiers home from Southeast Asia. Cambodia, Vietnam and Laos continued to suffer horrendous violence long after the hippies cut their hair and moved to the suburbs, but they changed too.

In the 1990s, a new movement began to flourish in the West, whose slogans were "Make money, not war" and "I shop, therefore I am." Over in Southeast Asia, peace had been restored and the rattle of gunfire was replaced by the rattle of sewing machines and automated looms. They produced en masse and the West bought it all up. Business boomed. Countless Asians found employment and consumers soaked it up.

But that deflationary period is ending. We cannot expect prices of consumer products to remain at rock-bottom. There is a limit below which wage costs will not drop, and it seems the world has reached it. From now on, China and Southeast Asia will not be exporting deflation through product prices. They will most likely be exporting inflation through raw materials. The consumption spree in the West is facing a stiff headwind.

The author is the CEO of the Psagot Compass provident fund.