The Impact of China’s Factor - PowerPoint Presentation

1. The Impact of China’s Factor Cost Distortion on the Global TradeHuimin ZhuHitotsubashi UniversityJune 4-5, 2018The Fifth World KLEMS

2. Overview Aim: examine the impact of wage distortion in China on the positioning of country in each industry in GVCs.What we do1. Introduce measures of GVCs and how to use WIOT to calculate the measures.2. Develop an extension of Eaton and Kortum (2002) general equilibrium model featured with wage distortion in China.3. Map the entries implied in the model with WIOT.4. Perform model-based counterfactuals to explore the impact of wage distortion on the positioning of countries in GVCs. Our work is closely related to (Antràs and Chor 2017, Fally 2012, Antràs et al. 2012, Antràs and Chor 2013)

3. 1. Measures of GVCsSetting : country index, : sector index. : intermediate purchases from sector r in country i by industry s in country j (ir -> js). : final demand in country j purchased from sector r in country i (ir -> jF). :total final demand purchased from sector r in country i . : gross output of sector r in country i.  Source: Antràs and Chor (2017)

4. 1. Measures of GVCsMeasurement of upstreamness (U)Where is intermediate input shareAntràs and Chor (2013): upstreamness as weighted average of distances from final users, higher U, more distant from final users and thus more upstream 

5. 1. Measures of GVCsMeasurement of upstreamness (U)Fally (2012) suggested that industries selling a disproportionate share of their output to relatively upstream industries should be relatively upstream themselves. Recursively defined as a linear system of equations, where is the share of total output of sector r in country i that is purchased by industry s in country j.According to Antràs et al. (2012),  

6. 1. Measures of GVCsMeasurement of downstreamness (D)Where is the share of sector r’s output in country i used in sector s in country j. Antras and Chor (2013) suggested downstreamness as weighted average distance of VA shares,larger D, more iterations, produced far away from primary factors, thus more downstream 

7. 1. Measures of GVCsMeasurement of downstreamness (D)Similarly, Fally (2012) suggested that we can recursively define D as a linear system of equations, Where is intermediate input shareAccording to Miller and Temurshoev (2017), . 

8. 2. General equilibrium model: sector-s aggregate consumption in country j.: vector of the consumptions in country j.: expenditure share of sector s goods of the country j’s consumer, .:productivity to produce the variety () of sector s in country j. i.i.d. and follows Fréchet distribution with CDF . : the state of technology of country j in industry s (scale parameter). shaping comparative advantage. Lower value of generates more heterogeneity or more dispersion of productivity. 

9. 2. General equilibrium modelAssume country-specific Cobb-Douglas preferencesAssume Cobb-Douglas production function of each variety in sector s: quantity of variety that is ultimately purchased from the lowest cost country. Purchased goods are CES aggregated and used for final demand and intermediate inputs. 

10. 2. General equilibrium modelSimilar to Antràs and Chor (2017), we divide the use of output into intermediate input and final demand to match the WIOT data:. Intermediate inputFirms choose intermediate input from the lowest-cost source country after combining unit production costs and iceberg trade costs .The cost of intermediate input (ir -> js) is , and .Substituting into the CDF of => CDF of price actually bought (ir -> js) 

11. 2. General equilibrium modelIntermediate inputSince we know the price distribution in each industry and in each country, we can obtain the probability of the lowest price of goods (ir -> js) by calculating After calculation, we obtain the probability or the share of intermediate input sector s in country j actually buys from sector r in country i We can also calculate the ideal price index of the sector-r composite good when purchased by sector-s producers in country j : a constant depending only on and . 

12. 2. General equilibrium modelFinal consumptionSimilarly, we can also calculate the probability (or the share) of final demand country j buys from sector r in country i (ir -> jF)ideal price index of the sector-r composite good when purchased as final demand in country j The price index for overall consumption  

13. 2. General equilibrium modelWithout distortionsThe unit cost can be obtained through cost minimization of the Cobb-Douglas production function.: a constant depending only on Introducing wage distortionReasons of wage distortion: search frictions in the labor market of China, low bargaining power of Chinese workers, and incomplete system of workers’ rights protection, e.g., without formal employee contracts etc.Assume monopsony in China’s labor market, while perfect competition in output (intermediate input) market.The unit cost can also be obtained from cost minimization where firms can choose the optimal wage. We denote as wage distortion. Also assume wage distortions only exist in China, denoting as c, and is the same across sectors for simplicity due to lack of data. The larger value the more distortion. => no wage distortion.  

14. 2. General equilibrium modelMarket clearing Total output is used as final demand and intermediate inputs. The trade balances: country j’s imports equating to the sum of its exports and trade deficits D 

15. 3. Mapping to WIOTInformation we can get from WIOTDenote the observed data with tilde and replace the zero entries with to avoid confusion.: country-sector pair intermediate inputs, ir->js: country pair sector-specific final consumption ir->jF: country sector specific total output : country sector specific value-added : country specific trade deficit First, use these information to recover the parameters in the production and preference function. Intermediate expenditure share in production function: labor share of sector s production function: Final demand share in preference function:  

16. 3. Mapping to WIOTrecover intermediate expenditure share from recover final consumption expenditure share from Above two equations => know and , recall that The unit cost for China and the rest of the world Where With all the above equations in memory, we can then do counterfactuals. 

17. 4. CounterfactualsBasic logic : wage distortion => lower labor cost => lower unit cost in China => change in expenditure share by other countries => change in embedded VA and F=> changes of positioning in GVCs. Denote as the counterfactual value of a variable .Denote as the relative change. Unchanged value: trade deficit, trade cost and the parameters in the preference and production functions (intermediate input share, final consumption share, productivity). Only focus on the change in wage distortion in China.  

18. 4. CounterfactualsRelative change of intermediate and final demand expenditure sharesRelative change of unit cost for countries excluding China (without wage distortion) (a)Relative change of unit cost for China, (b)Relative change of the ideal price index (c) (d)By combining (a), (b), (c) and (d), we can solve for , , , and as a function of (observable) and (artificial percentage change of distortion). 

19. 4. CounterfactualsRecall the counterfactual market clearingCounterfactual trade balance in country jChange in expenditure share known =>   known => all the entries of known => new WIOT => calculate the new positioning of GVCs 

20. 4. CounterfactualsData: 2013 ver. WIOT, J=41 countries, S=35 sectors, 1995 and 2011Holding trade deficit, parameters in preferences and production functions unchanged in 1995 and 2011 level respectively. We shape comparative advantages using in Caliendo and Parro (2015). Manipulate change in distortion, see what will happen if without wage distortion ().At this stage, we don’t know the actual level of distortion, so we assume three levels of distortions exist. Low: , Medium: , High .Then the relative change in distortion => low: , medium: , high: .Calculate the counterfactual results of country-industry level under the measure of upstreamness (U) and downstreamness (D) in 1995 and 2011.Compare the difference between counterfactual and actual positioning in GVCs. 

21. 5.Results : sector index1 Agriculture, Hunting, Forestry and Fishing2 Mining and Quarrying3 Food, Beverages and Tobacco4 Textiles and Textile Products5 Leather, Leather and Footwear6 Wood and Products of Wood and Cork7 Pulp, Paper, Paper , Printing and Publishing8 Coke, Refined Petroleum and Nuclear Fuel9 Chemicals and Chemical Products10 Rubber and Plastics11 Other Non-Metallic Mineral12 Basic Metals and Fabricated Metal13 Machinery, Nec14 Electrical and Optical Equipment15 Transport Equipment16 Manufacturing, Nec; Recycling17 Electricity, Gas and Water Supply18 Construction19 Sale, Maintenance and Repair of Motor Vehicles and Motorcycles; Retail Sale of Fuel20 Wholesale Trade and Commission Trade, Except of Motor Vehicles and Motorcycles21 Retail Trade, Except of Motor Vehicles and Motorcycles; Repair of Household Goods22 Hotels and Restaurants23 Inland Transport24 Water Transport25 Air Transport26 Other Supporting and Auxiliary Transport Activities; Activities of Travel Agencies27 Post and Telecommunications28 Financial Intermediation29 Real Estate Activities30 Renting of M&Eq and Other Business Activities31 Public Admin and Defence; Compulsory Social Security32 Education33 Health and Social Work34 Other Community, Social and Personal Services35 Private Households with Employed Persons

22. 5.Counterfactual results in China in 1995

23. 5.Counterfactual results in China in 2011

24. 5.Results: what will happen to China in 1995 and 2011?In 1995 and 2011, the most remarkable change under the measure of U (Upstreamness) is in sector 16 (Manufacturing, Nec; Recycling), sector 10 (Rubber and Plastics), sector 2 (Mining and Quarrying), sector 4 (Textiles and Textile Products) and sector 14 (Electrical and Optical Equip.).If without distortion, these sectors will suffer a decline in the upstreamness measure. The higher the initial distortion, the larger change in GVCs.In 1995, the most remarkable change under the measure of D (Downstreamness) is in sector 8 (Coke, Refined Petroleum and Nuclear Fuel), sector 24 (Water Transport), sector 12 (Basic Metals and Fabricated Metal) and sector 14 (Electrical and Optical Equip.). In 2011, the most remarkable change under the measure of D (Downstreamness) is in sector 14 (Electrical and Optical Equip.) sector 8 (Coke, Refined Petroleum and Nuclear Fuel).If without distortion, these sectors will suffer a decline of downstreamness measure.We select some sectors to see the detailed positioning of countries.

25. 5. Selected results: manufacturing,Nec,recycling (16)

26. 5.Selected results: manufacturing,Nec,recycling (16)

27. 5.Selected results: electrical & optical equip. (14)

28. 5. Selected results: rubber & plastics (10)

29. Future workAt this stage, we only do counterfactuals using artificial levels of distortion. In the future, we will try to estimate the true sector-specific distortions by estimating the industry level production function in China.The two measures (U&D) of GVCs do not coincide with each other, need further concern on the evolution of the correlations of the two measures and reasons of the differences. Possible explanations: weight of service sectors, trade cost (Antràs and Chor, 2017).

30. ReferencesAntràs, Pol, et al. "Measuring the upstreamness of production and trade flows." American Economic Review 102.3 (2012): 412-16.Antràs, Pol, and Davin Chor. "Organizing the global value chain." Econometrica 81.6 (2013): 2127-2204.Antràs, Pol, and Davin Chor. "DP12549 On the Measurement of Upstreamness and Downstreamness in Global Value Chains." (2017).Caliendo, Lorenzo, and Fernando Parro. "Estimates of the Trade and Welfare Effects of NAFTA." The Review of Economic Studies 82.1 (2015): 1-44.Eaton, Jonathan, and Samuel Kortum. "Technology, geography, and trade." Econometrica 70.5 (2002): 1741-1779.Fally, Thibault. "Production staging: measurement and facts." Boulder, Colorado, University of Colorado Boulder, May (2012): 155-168.Miller, Ronald E., and Umed Temurshoev. "Output upstreamness and input downstreamness of industries/countries in world production." International Regional Science Review 40.5 (2017): 443-475.