Thoughts on Trade, Growth and Inequality from “Fostering a Dynamic Global Economy”

The Kansas City Fed’s Jackson Hole symposium this year focused on the causes, implications and remedies for the slowdown in economic growth. Major themes revolved around productivity, fiscal policy, and international trade. Here I discuss some of the major points relating to international trade and inequality, encompassing a paper by Nina Pavcnik (Dartmouth), comments by David Dorn (Zurich), and panel remarks by Ann Harrison (UPenn), Catherine Mann (OECD), Peter Schott (Yale), and John Van Reenen (MIT).

I think one of the things that the struck me in this portion of the conference was the magnitude of the profession’s shift in the view of how trade affects both growth and the distribution of income. The first time I taught international trade 23 years ago, there was little academic debate over whether it made sense to pursue trade liberalization. Now, when I teach international trade, issues of income distribution and inequality are front and center. Another development that I found remarkable was that the general agreement that the standard trade measures – from trade adjustment assistance to tariffs – as implemented have had little impact on mitigating the negative effects of trade competition on labor. On the other hand, the debate over what proportion of the increase in inequality is attributable to technology versus trade continues, with I think the view that the majority is ascribable to technological progress persists.

To begin with, Nina Pavcnik’s paper, The Impact of Trade on Inequality in Developing Countries:

This paper assesses the current state of this evidence and highlights its implications. While the focus is mainly on developing countries, in part because we have more evidence in that context, the discussion draws parallels to developed countries. Some key findings emerge across several developing countries, and some of these are also seen in developed countries.

Frictions that impede workers from moving across industries, firms, or locations are a continuing theme in the developing country context, shaping trade’s uneven impact. Consequently, trade influences worker earnings through several factors: industry affiliation, firm affiliation, and location of residence all play a role in shaping trade’s impact on inequality. Individual demographic characteristics––especially age and education––also play a role, in part because younger and more educated individuals tend to more easily adjust to changes in trade.

Effects of trade on earnings are geographically concentrated and uneven within a country, depending on the region’s exposure to import and export shocks. Why are the effects of trade concentrated in local labor markets? Part of the answer is low and imperfect inter-regional worker mobility, especially in the short run after large adverse trade shocks.
Overall, the effects of trade on poverty and earnings inequality, through earning and employment, are context specific. They depend on the nature of trade policy changes or trade patterns and the mechanisms involved; on the mobility of workers and capital across firms, industries, and geographic locations; and the position of affected individuals in the income distribution of a country. As the reforms in India, Vietnam, China, and Brazil illustrate, focusing on how workers are affected by trade beyond formal manufacturing – including in agriculture, services, and the informal sector – is key in this assessment for developing countries.

David Dorn’s discussion highlighted the various dimensions of inequality, including gender. Perhaps the most remarkable point was the summary of how trade adjustment assistance, at least implemented thus far, had not thus far compensated workers by anything close to the typical loss associated with trade related job dislocation.

In the Panel on the Changing Landscape of International Trade, Ann Harrison’s presentation covered several points, but three that were notable were (1) import competition by Chinese imports is associated by more extreme (right or left) political positions, and (2) wage pressure is greater for workers engaged in routine tasks, and (3) multinational employment losses are most associated with the decreasing costs in capital (i.e., computers). In sum, international trade is important, but trade is not everything.

Catherine Mann’s remarks covered some similar topics, but from different methodological perspectives. The first observation was that the growth rate of trade-to-GPD has decelerated; the second that global value chains have retrenched; third, technology accounts for the bulk of the decline in manufacturing employment; and fourth, declines in manufacturing are associated with increases in regional inequality.

The third point echoes the long standing view in the trade literature. However, it was (to me) surprising to see the finding forwarded in such a graphically blunt fashion.

Source: Mann.

The decomposition attributes the components depending upon how well the proxy variables … proxy; and whether for instance the proxy variable for technology is unrelated to trade (i.e., is the use of ICT independent of trade competition). Notice, as has often be observed, lower cost imported intermediate goods can boost manufacturing employment (something the Trump administration should remember as it considers protectionist measures).

Peter Schott highlights the large impact on manufacturing starting with the granting of permanent Normal Trade Relations (PNTR) to China in 2000, which decreased uncertainty regarding Chinese access to US markets. The geospatial implications are illustrated in this map of exposure:

Source: Schott.

The concentration of geographical impact is particularly important because of frictions in labor adjustment.

Finally, John van Reenen assesses Brexit:

Assessing the economic impact of Brexit is on one level incredibly simple. The EU has been able to radically reduce trade costs between its 28 Member States. This is only partly through reduced tariffs: it has been mainly through reducing non-tariff barriers. The Single Market is a mechanism for having common regulations so that goods and services can be traded easily throughout the bloc of half a billion people. This is facilitated, of course, by the free movement of labor which is particularly beneficial for services.

The Single Market is a work in progress, but its historical success in raising trade levels amongst its members is not in serious doubt.

So when the UK does leave, it will inevitably face higher trade costs with the rest of the EU compared to staying in. Since the UK will remain geographically close to the EU (even Boris Johnson can’t shift plate tectonics), Britain will suffer increased costs with countries it will continue trading with. High continued trade is a result of the “gravity” relationship which is perhaps the most robust fact of the economics of empirical trade. It is simply the observation that 3 countries who are geographically close trade more with each other than those who are geographically distant.

The reduced amount of fiscal transfers from London to Brussels is peanuts by comparison with this trade loss.

So the real issue of Brexit economics is not whether there will be a cost, but rather how big this cost will be and how much the damage from less trade can be limited.

In his dynamic estimate, the income loss is 6.3-9.6%. ‘nuff said, especially since the less educated and lower income households are unlikely to benefit from the segmenting the UK economy from the EU.

My takeaways from this portion of the conference:

  • The presumption that the compensation of the losers by the winners would be sufficiently large to offset resistance to trade liberalization was wrong.
  • The ease of adjustment to trade shocks depends upon the extent of frictions (regionally, sectorally, vocationally, etc.)
  • The debate over trade and technology/productivity growth as drivers of manufacturing employment decline continues, but technology is a big factor.
  • However, because foreign trade is visible, while technologically induced productivity growth is not as easily blamed for job dislocation.
  • Tariffs, quotas, and the panoply of traditional trade measures taught in undergrad econ courses are unlikely to mitigate the impact of trade competition in an important way. Trade adjustment assistance as implemented thus far has not had a big impact as well — perhaps because insufficient resources have been devoted to these measures.
  • The efficacy of conventional protectionist measures like tariffs and quotas is likely further reduced because of the development of global value chains (production fragmentation).

As an aside, during a lunchtime conversation, I thought back to why in 2000, when approval of PNTR for China was occurred, I thought this event was going to be a big net plus. I still think it provided big net gains to the US economy as a whole, but I underestimated the extent to which it would be difficult for labor in particular to adjust to the shock arising from Chinese import competition.

8 thoughts on “Thoughts on Trade, Growth and Inequality from “Fostering a Dynamic Global Economy”

  1. Bruce Hall


    I’m a bit surprised by your admission that you underestimated the labor impact of expanded trade with China. A simple trip to Home Depot or Walmart or Sears (when it was relevant) should have been sufficient to see the writing on the wall (or the packaging).

    Well, sure, making widgets goes to the cheap labor sources. But the big stuff like construction is a safe harbor for U.S. labor. Well, maybe not this harbor:

    Yeah, the writing was pretty much everywhere.

    1. Menzie Chinn Post author

      Bruce Hall: In 1999-2000?

      I also think a more balanced fiscal policy in 2003-04 — less tax cut — and more financial regulation might have placed less stress on manufacturing. But instead we had fiscal indiscipline and regulatory abdication. It’s not all China.

      1. PeakTrader

        Menzie Chinn, I agree with your statement. Before the downturn began, in 2001, there was bracket creep in the Alternative Minimum Tax and taxable realized capital gains. So, the economy needed expansionary fiscal policy in 2000 to head off the downturn, which began with the Nasdaq bubble bursting in 2000-02. A tax cut in 2000 seemed appropriate. Lots of manufacturing jobs were lost, in the 2000s, it seems, because offshoring accelerated. When the expansion was well underway, in 2004, when the monetary tightening cycle began, credit in the housing market should’ve also been tightened and taxes raised, to slow the expansion to a sustainable rate, since the country was on the verge of full employment.

        1. PeakTrader

          Given the severity of the 2007-09 recession, a permanent tax cut would’ve been much more stimulative than a temporary tax cut, including the payroll tax cut.

  2. Bruce Hall


    You wrote: But instead we had fiscal indiscipline and regulatory abdication. It’s not all China.

    With regard to imports, what should/would we have done differently with regard to budgeting/taxation/monetary policy that would have stemmed the avalanche of cheap Chinese imports? We could have imposed huge import duties, but I suspect the response from economists would have been that all of these fiscal disciplines was a very bad approach to trade. I also suspect that corporations would have complained loudly about how labor was too protected here and that the corporations needed access to all of that cheap labor by which China was subsidizing the U.S. If you are suggesting that we should have raised taxes, both personal and corporate, to retrain the labor force, wouldn’t that simply exacerbate the non-competitiveness? We’d have more people trained to do jobs that didn’t exist.

    With regard to regulation, I’m not sure what you are suggesting. The 1990s and 2000s were periods of regulation activism, especially about safety and the environment (remember Al Gore?). How would you have changed regulatory policy to make the U.S. labor more competitive? Throw penalties at China for not implementing U.S. regulations?

    What the failure was, in my opinion (and I know that opens up what I’ll say to all manner of criticism) is that China had embarked on a long-term mercantilist strategy to siphon off as much cash as it could for this:

    1. PeakTrader

      Yes, labor, safety, environmental, etc. standards are much greater now compared to the 1970s. We’ve seen huge improvements. We could afford those increased standards over the 1982-07 economic boom. However, since the economy peaked in 2007, increased standards seemed to become more difficult to absorb. Some people predicted, right after the “Great Recession,” too many more regulations will become strangulations on economic growth.

  3. efcdons

    “The presumption that the compensation of the losers by the winners would be sufficiently large to offset resistance to trade liberalization was wrong.”

    Was that a presumption made by the economists who provided the theoretical backing for the agreements or the politicians who pushed the agreements through? Why would the economists presume anything about something which had nothing to do with economics, since any compensation would require political action?

    People have been saying there has not been/would not be enough compensation from the winners to the losers since Seattle (or even before). And why would there? In our system, where money is so influential, the winners are able to increase their power within the political system and they work against giving any of their gains as compensation because it would come out of their pocket.

    What example is there in the history of America (or even the developed world) where economic winners willingly gave away a large enough portion of their economic gains to the losers to prevent unrest without there being any major disruptions to “incentivize” the winners to do so?

  4. spencer

    the point I do not see anyone discussing is that for US production to displace imports will require significantly higher prices for both imports and the hew goods produced domestically. At current prices imports displacement will not be significant. This implies significant inflationary pressures in the US economy, yet I see no discussion of this point. I guess it is not important as long as Trump really does not do much besides open mouth policies.

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