China’s economic shift may hinge on what migrant workers do next

China's Politburo recently outlined the nation's economic priorities for the second half of the year amid concerns over slowing economic growth and a widening gap between high-performing industries and struggling sectors. The slowdown came after GDP growth decelerated to 4.3 percent in the second quarter, marking the weakest performance since late 2022.

This economic landscape is being referred to as K-shaped, with strong exports and thriving hi-tech industries on one side, and weak domestic consumption, declining investment, and slower growth on the other.

In response to these challenges, the Chinese government is emphasizing new growth momentum and an improved economic structure, with a focus on infrastructure development, the AI Plus strategy, the expansion of emerging industries, and upgrades to traditional sectors. The Politburo also highlighted the importance of raising productivity in advanced sectors, with artificial intelligence and other advanced technologies expected to play a significant role in boosting overall productivity.

However, the focus on technology may not fully address the pressing issue of what will happen to China's more than 301 million migrant workers. Under China's household registration system, migrant workers remain officially classified as rural residents while working in non-agricultural jobs. Where these workers go next could significantly impact whether productivity gains are felt across the broader economy.

China continues to be the world's largest agricultural economy, with the sector contributing roughly US$1.3 trillion to the economy in the previous year and employing about 22 percent of the workforce. Despite labor productivity in agriculture being one-third of the economy-wide average, raising farm productivity and encouraging rural workers to shift into higher-productivity sectors is crucial to Beijing's goal of becoming a "moderately developed" country by 2035.

Currently, the reallocation of migrant workers to non-agricultural sectors is slowing down. Migrant workers accounted for more than a quarter of China's employment but grew by only 0.5 percent last year, down from 1.3 percent a decade earlier. Agricultural employment has also remained relatively stable compared to earlier periods.

This stagnation in labor reallocation poses risks, as cities may struggle to absorb these workers, leading to increased unemployment and potential rural re-entry. Moreover, migration alone is not enough to ensure productivity growth. The destination of these workers is crucial, as the construction, labor-intensive services, and manufacturing sectors currently employ 83 percent of them.

While construction is productive but shedding labor, services can absorb workers but may not significantly boost productivity, and manufacturing offers the best alignment between employment and productivity but attracts fewer migrant workers.

The construction sector stands out as an example of higher productivity not guaranteeing job security. Despite having productivity levels over three times the national average, this sector has lost approximately 17 million rural migrant workers over the past decade. A new infrastructure push, projected to have related investment exceed 7 trillion yuan (US$1.03 trillion) this year, could provide some support.

However, recent employment policies still view construction as a sector requiring further job exploration rather than as a primary source of job growth.

Labor-intensive services, such as retail, logistics, hospitality, and household services, have absorbed more rural migrant workers, but many of these jobs are non-tradeable and highly dependent on domestic consumption. With weak demand and intense price competition, these sectors may create employment without generating the necessary productivity gains.

Manufacturing, on the other hand, presents a crucial opportunity. Recent estimates suggest that Chinese manufacturing workers produce two to three times more output than their American counterparts when measured by physical output. Attracting and retaining migrant workers in manufacturing could bolster overall economic growth. However, manufacturing only employed about 85 million rural migrant workers last year, a decline of 1.4 million compared to a decade earlier.

The government's employment policies for the 15th five-year plan period appear to treat manufacturing more as a stabilizer than as a key driver of employment.

Aging is another significant challenge for China. Between 2015 and 2025, the average age of rural migrant workers increased from 38.6 to 43.3 years, with a larger share of workers aged over 50, offsetting a decline in those under 30. This demographic shift adds complexity to Beijing's efforts to balance the movement of workers out of low-productivity agriculture and support its industrial agenda.

While AI and robotics may offer potential solutions, technological diffusion alone will not be sufficient to ensure that workers find productive manufacturing jobs rather than migrating into lower-productivity services or returning home without secure employment.

The implications of these developments extend beyond China. To stabilize manufacturing employment, the government encourages manufacturers to expand exports to emerging markets while seeking to retain domestic capacity. As China's trading partners adopt more balanced trade relations, they should consider this domestic logic. China has strong incentives to maintain manufacturing capacity for several reasons, including its role in technological upgrading, international competitiveness, and job creation.

By addressing the challenges faced by migrant workers in the labor market, China can enhance overall productivity and ensure a more balanced and sustainable economic growth trajectory.