Myths about, and Empirics on, Chinese Trade and FDI

There is a lot of hyperbole surrounding China’s entry into the world trading system. There is fear in countries that compete with China, there is fear that China is somehow orchestrating the transfer of technological prowess from foreign to domestic firms, and a host of other anxieties.

At a recent conference on China’s growing role in world trade, several papers that inform these various debates were presented.

First, what’s the role of policy versus foreign investment in driving increases in higher unit value exports? In The Rising Sophistication of China’s Exports: Assessing the Roles of Processing Trade, Foreign Invested Firms, Human Capital and Government Policies by Zhi Wang and Shang-Jin Wei, the authors conclude:

Are China’s exports competing increasingly head to head with those of high-income countries? This paper addresses this question by making use of variations in export sophistication across
different cities in China. It looks at both the overlap in the product structure between a city’s exports and that of the advanced economies, and the unit value of a given product.

The estimation shows that, for the country as a whole, China’s export structure does increasingly resemble that of the advanced economies, and the unit values of its exports are also rising over
time. If these patterns are generated entirely by the rising use of processing trade, then there may not be much genuine increase in the sophistication level of China exports. If there is increase in
sophistication but the increment comes entirely from foreign-invested firms in China, then the economic profit associated with the improved sophistication accrues to foreign economies rather than to China. Of course, the increased sophistication can also come from an improved level of local human capital, or government policies such as high-tech policy zones set up specifically to promote the upgrading of the industrial structure. Regional variations in the use of processing
trade, high-tech zones, and availability of skilled labor are used in this paper to assess the relative roles of these factors.

(3) The export processing zones (EPZs) contribute to both a rising sophistication of export structure and a rising unit value. However, since only a tiny fraction of the cities have EPZs and most of its exports come from foreign invested firms, they do not contribute very much to explaining cross-city difference in export sophistication.

(5) The exports share of foreign invested firms in a Chinese city may not appear to play a major role in explaining cross-city differences in the sophistication level of their export structures. If
anything we find, joint venture firms may create some divergence between a city’s export structure and those of advanced economies. However, after controlling for processing trade, both types of foreign invested firms are found to be strongly associated with higher export unit values. Therefore, foreign investment is conducive to raising China’s within product sophistication. While the limitation of our data (not able to identify the country source of FIEs) does not allow us to further evaluate the potential different roles of FDI from Western multi-nationals and from Asian countries in the sophistication of China’s exports.

Second, what is the nature of the evolution of Chinese exports? From the abstract of An Anatomy of China’s Export Growth, by Mary Amiti and Caroline Freund:

Decomposing China’s real export growth, of over 500 percent since 1992, reveals a number of interesting findings. First, China’s export structure changed dramatically, with growing export shares in electronics and machinery and a decline in agriculture
and apparel. Second, despite the shift into these more sophisticated products, the skill content of China’s manufacturing exports remained unchanged, once processing trade is excluded. Third, export growth was accompanied by increasing specialization and was mainly accounted for by high export growth of existing products (the intensive margin) rather than in new varieties (the extensive margin). Fourth, consistent with an increased world supply of existing varieties, we find that China’s export prices to the US fell by an average of 1.6 percent per year between 1997 and 2005, while export prices of these products from the rest of the world to the US increased by 0.7 percent
annually over the same period.

Third, how much do other LDCs have to worry about China’s purported export prowess? From the abstract of China and the Manufacturing Exports of Other Developing Countries, by Gordon Hanson and Raymond Robertson:

…[W]e examine the impact of China’s growth on developing countries that specialize in manufacturing. Over 2000-2005, manufacturing accounted for 32% of China’s GDP and 89% of its merchandise exports, making it more specialized in the sector than any other large developing economy. Using the gravity model of trade, we decompose bilateral trade into components associated with demand conditions in importing countries, supply conditions in exporting countries, and bilateral trade costs. We identify 10 developing economies for which manufacturing represents more than 75% of merchandise exports (Hungary, Malaysia, Mexico, Pakistan, the Philippines, Poland, Romania, Sri Lanka, Thailand, and Turkey), which are in theory the countries most exposed to the adverse consequences of China’s export growth. Our results suggest that had China’s export supply capacity been constant over the 1996-2003 period, demand for exports would have been 0.6% to 1.4% higher in the 10 countries studied. Thus, even for the developing countries most specialized in export manufacturing, China’s expansion has represented only a modest negative shock.

Fourth, is it really the case that China must export to employ the vast numbers of workers migrating from the rural areas? From the abstract of China’s Exports and Employment by Robert Feenstra and Chang Hong:

Dooley et al (2003, 2004a,b,c) argue that China seeks to raise urban employment by 10-12 million persons per year due to export growth. In fact, total employment increased by 7.5-8 million per year over 1997-2005. We estimate that export growth over 1997-2002 contributed at most 2.5 million jobs per year, with most of the employment gains coming from non-traded goods like construction. Exports grew much faster over the 2000-2005 period, which could in
principal explain the entire increase in employment. However, the growth in domestic demand led to three-times more employment gains that did exports over 2000-2005, while productivity growth subtracted the same amount again from employment. We conclude that exports have
become increasingly important in stimulating employment in China, but that the same gains could be obtained from growth in domestic demand, especially for tradable goods, which has been stagnant until at least 2002.

Fifth, are Chinese firms catching up to Western firms in export good sophistication by virtue of joint ventures? In Please Pass the Catch-up: The Relative Performance of Chinese and Foreign Firms in Chinese Exports, 1997-2005, Bruce Blonigen and Alyson Ma say no:

We explore the extent to which Chinese firms are gaining sophistication relative to foreign firms present in China (i.e., catching up) using detailed Chinese export data that separately reports exports from foreign and Chinese enterprises. The general patterns over our time period, 1997-2005, run exactly counter to what one would expect if Chinese firms were catching up — foreign firm’s share of exports by product category and foreign unit values relative to Chinese unit values are increasing over time, not decreasing. We see these patterns despite the fact that FDI into China as a percent of GDP has not increased since before our sample. Specifications examining how previous foreign market share affects current unit value gaps finds only modest catching up, at best. We also find no evidence that Chinese policies encouraging or restricting FDI have any impact on catching up of Chinese firms. Nor do we find that joint venturing activity with foreign firms leads to greater catching up in sophistication within a 6-digit HS product code.

Finally, Lee Branstetter and C. Fritz Foley tackle Facts and Fallacies about U.S. FDI in China:

  • U.S. FDI in China is large.
  • U.S. FDI in China is export-oriented.
  • U.S. multinational investment in China displaces investment
  • U.S. multinationals are aggressively exploiting China’s growing
    technological prowess.

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7 thoughts on “Myths about, and Empirics on, Chinese Trade and FDI

  1. Stormy

    I read the “Facts & Fallacies” closely–and was quite amused.
    For instance, the explanation of the discrepancy between Chinese and BEA statistics seemed quite weak. The Chinese estimate U.S. FDI as twice as high as the BEA does.
    The apparent explanation for this difference is that the China includes in the FDI local partners who provide equity capital. Local partners? Wealthy individuals? Nonbank affiliates of nonbank parents? I did not know there were that many wealthy individuals in China. Or perhaps the mncs got loans from the government? Does the government count as a nonbank affiliate? Could it be that the Chinese government itself supplied that equity?
    China offers excellent low interest loans and tax rebates as well as other perks for FDI engaged in exports.
    By the way, for some industries, China provides duty free import of capital equipmentespecially in high tech export industries. Think Apple, Intel, etc.
    Now, the BEA statistics are surveys, which obviously must be far more reliablesomehow.
    Be all that as it may, the bottom line of the Carnegie Melon study is that corporations from developed countries are not the primary drivers of Chinas export machine, that corporations have not really moved there to sell herecertainly not in the numbers that so many of us have claimed.
    Yet, every time I hear a reputable Chinese official talk about the composition of Chinas trade, I hear something quite different from the Carnegie Study. Here are some examples within the past year or so:
    According to Yk Xiaozhun, Chinas Vice Commerce Minister:
    Foreign-funded enterprises in China enjoyed 83 percent of China’s total foreign trade surplus and accounted for 58 percent of China’s total exports, announced Vice Commerce Minister Yi Xiaozhun at China-US Business Forum in Beijing on Feb. 14, 2006
    Or Wu Xioling, deputy governor of the PBC:
    a major part of China’s trade surplus is created by multinationals as they eye low labor costs in the country and choose to produce their labor-intensive products in China.
    Or, Mei Xinu, trade expert with the Ministry of Commerce:
    The fact is that China’s trade surplus mainly comes from the manufacturing industry and that most exports by large multinationals have been included in China’s trade figures. A high proportion of export profits in fact stay in the pockets of multinationals.
    I find it very hard to square the Carnegie Study or BEA surveys with the comments of reputable sources inside China.
    I, for one, find the Carnegie Study a bit superficial and glossy.

  2. Menzie Chinn

    Stormy: In the case of the Branstetter-Foley study, I think you need to make the distinction between U.S. and total FDI into China. Both sets of statements could be consistent with each other, when taking into account this distinction. Also, there are differences in definitions (commitments, actual investments, etc.).

  3. Emmanuel

    Dr. Chinn, thanks for the link to these thought-provoking NBER papers.
    I am afraid that you are now famous because of your WaPo comment. This guy repeats the old “everything is now Made in China” chestnut–and then some. According to Paul Craig Roberts who was Assistant Secretary of the Treasury in the Reagan administration:
    To understand the shortcomings of the statements by the Wisconsin professor and Treasury Secretary Paulson, consider that if China were to increase the value of the yuan by 30 percent, the value of China’s dollar holdings would decline by 30 percent. It would have the same effect on China’s pocketbook as dumping dollars and Treasuries in the markets…
    Economists and government officials believe that a rise in consumer prices by 30 per cent is good if it results from yuan revaluation, but that it would be terrible, even beyond the pale, if the same 30 percent rise in consumer prices resulted from a tariff put on goods made in China. The hard pressed American consumer would be hit equally hard either way. It is paradoxical that Washington is putting pressure on China to raise US consumer prices, while blaming China for harming Americans. As is usually the case, the harm we suffer is inflicted by Washington.

    I hope you have seen the “error” of your ways ;-) To suit his usual government-bashing agenda, Roberts doesn’t differentiate between the interests of Americans as consumers and producers. Still, he does make some pretty good points about the US being more dependent on China instead of the other way around that I do agree with.

  4. Trade Diversion


    Menzie Chinn posts summaries of papers from a NBER conference on Chinese trade. The economists are top-notch and the topics are fascinating. A weekend’s worth of reading, and it’s only Tuesday….

  5. Anonymous

    Trade statistics and the balance of trade can be misleading. To really understand you have to drill down below aggregate numbers.
    From The Personal Computing Industry Center: the $299 Video iPod Apple’s gross margin was $80, with revenue of $30 going to distribution and $45 to retail. That’s more than half the retail price. Dozens and dozens of other companies supplying endless components make up the other half of the sale price. But their profit margins are far lower than Apple’s, and furthermore, many Japanese, Korean, and Taiwanese components (often themselves designed with help from American engineers) flow through China in final assembly and on to America, where they add to our trade “deficit” with China and China’s trade “surplus” with us. Yet these very transactions lead to a Chinese trade “deficit” with the rest of Asia.

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