How did China's WTO entry affect U.S. prices?

Abstract

We analyze the effects of China's rapid export expansion following its WTO entry on the U.S. prices of manufacturing goods between 2000 and 2006, exploiting cross-industry variation in trade liberalization. Lower input tariffs in China lowered costs and, in conjunction with reduced U.S. tariff uncertainty, expanded China's export participation. WTO entry therefore led to lower effective prices for Chinese exports, and we find a substantial reduction in the prices of other countries selling to the U.S., too. The largest contribution to the overall price reduction comes from lower inputs tariffs in China, with further price reductions caused by the reduction in tariff uncertainty. Other policy reforms such as the elimination of U.S. quotas under the Multifibre Agreements and of Chinese export controls also reduced prices.

Introduction

China's manufacturing export growth in the last 20 years has produced a dramatic realignment of world trade, with China emerging as the world's largest exporter. China's export growth was especially rapid following its World Trade Organization (WTO) entry in 2001, with the 2001–2006 growth rate of 30% per annum being more than double the growth rate in the previous five years. This growth has been so spectacular that it has attracted increasing attention to the negative effects of the China “trade shock” on other countries, such as employment and wage losses in import-competing U.S. manufacturing industries (Autor et al. (2013), Acemoglu et al. (2016), and Pierce and Schott (2016)). Surprisingly, given the traditional focus of international trade theory, little analysis has been made of the potential gains to consumers of products, whether households or firms, in the rest of the world, who could benefit from access to cheaper Chinese imports and more imported varieties. Our focus is on potential benefits to consumers in the U.S., where China accounts for more than 20% of imports. In principle, gains could be driven by two distinct policy changes that occurred with China's WTO entry. The first, which has received much attention in the literature, is the U.S. granting permanent normal trade relations (PNTR) to China, reducing the threat of China facing very high tariffs on its exports to the U.S. A second channel we identify is China reducing its own input tariffs. In this paper, we quantify how China's WTO entry affected the prices of U.S., Chinese and other countries' firms selling manufactured goods in the U.S. market, and we find that an important cause of these effects was China lowering its own tariffs on intermediate inputs.

To motivate our analysis, in Fig. 1 we plot Chinese exports to the U.S. in industries above and below the median input tariff cut of 4.6 percentage points. With exports of both bins indexed at 100 in 2001, we see substantially faster export growth in industries with larger reductions in their input tariffs. To understand where this faster growth might be coming from, in Table 1 we report a regression of the log-change in HS 6-digit unit values of China's exports to the U.S. between 2000 and 2006 on the corresponding change in Chinese input tariffs for that industry. Column 1 reports a simple OLS regression, and shows that Chinese input tariff reductions are strongly associated with reductions in their export prices. In column 2 we employ a simple IV regression strategy from Goldberg and Pavcnik (2005), exploiting the fact that the size of the tariff reduction is primarily determined by the pre-existing tariff level, so that the pre-existing input tariff is a valid instrument for the change in that tariff. The association between the fall in input tariffs and in export prices is slightly stronger in the IV results, with a coefficient on the change in the input tariff rising from 3.6 to 3.9.

The goal of this paper is to exploit detailed firm-level Chinese data to analyze the results illustrated in Fig. 1 and Table 1. Specifically, we are interested in the impact of China's export growth following its WTO accession on U.S. prices. To measure China's impact, we utilize Chinese firm-product-destination level export data for the years 2000 to 2006, during which China's exports to the U.S. increased nearly four-fold. One striking feature is that the extensive margin of China's U.S. exports accounts for 84% of export growth, mostly due to new firms entering the export market (69% of total growth) rather than incumbents exporting new products (15% of total growth).¹ To ensure we properly incorporate new varieties in measuring price indexes, we construct an exact CES price index, as in Feenstra (1994) which comprises a “price” and a “variety” component.² We supplement the Chinese data with U.S. reported trade data for imports from other foreign countries and U.S. domestic sales data to construct overall U.S. price indexes for manufacturing industries. With these data, we explicitly take into account that the China shock affects competitors' prices and net entry into the U.S. market.

We find that China's WTO entry reduced U.S. manufacturing industry price indexes in the median industry by 8.0% between 2000 and 2006, relative to an industry that was not directly exposed to trade reforms. That effect comes from lower effective prices for Chinese exports, and from a substantial reduction in the prices of other countries selling to the U.S., too. The biggest contribution to the overall price reduction comes from lower inputs tariffs in China, while a large contribution also comes from the reduction in tariff uncertainty. Other policy reforms such as the elimination of U.S. quotas under the Multifibre Agreement (MFA) and of Chinese export controls had added impacts on reducing prices. We conclude that the lowering of China's own input tariffs and the granting of PNTR were important sources of price declines in the United States. Other trade policy reforms helped to push down prices further.

Our paper draws on several lines of literature. Pierce and Schott (2016), Handley and Limão (2017) and Feng et al. (2017) study the effect of granting PNTR to China, but they do not study the input tariff reduction channel.³ A second literature finds that lower input tariffs increase firms' total factor productivity (e.g., Amiti and Konings (2007) for Indonesia; Kasahara and Rodrigue (2008) for Chile; Goldberg et al. (2010) for India; Halpern et al. (2015) for Hungary; Yu (2015) and Brandt et al. (2017) for China) and therefore lower prices. While we are guided by that literature, we do not estimate the impact of lower input tariffs on productivity since our main interest is in the impact on Chinese exporters' prices abroad.⁴ Rather, we will examine the impact of China's reduction in its own imported input tariffs and its WTO entry on the prices of Chinese exporters to the U.S. and the effect on other prices in that market.

A limitation of our study is that we consider only the direct benefits to the firms and households purchasing imports, and the competitive effect on U.S. prices, but we do not attempt to trace these price effects through an input-output table and into the labor market, as would be needed to evaluate the overall welfare gains to the U.S. from China's WTO entry. That broader question requires a computable model. For example, Hsieh and Ossa (2016) calibrate a multi-country model with aggregate industry data at the two-digit level, and find that China transmits small gains to the rest of the world.⁵ More recently, Caliendo et al. (2019) combine a model of heterogeneous firms with a dynamic labor search model. Calibrating this to the United States, they find that China's export growth created a loss of about 550,000 manufacturing jobs, but still increased aggregate U.S. welfare by 0.2% in the long-run. Both of these papers rely on the assumption of the Arkolakis et al. (2012) (ACR) framework of a Pareto distribution for firm productivities. In contrast, our approach does not rely on a particular distribution of productivities, and also differs from ACR in that we focus on the channels through which trade policy changes in one country (China) lead to consumer gains in another (the United States).

Our paper is organized as follows. Section 2 presents our key assumptions about U.S. consumers and presents a simple model of Chinese exporting firms. Section 3 discusses the data on Chinese exports to the U.S. and the tariffs faced by those firms, as well as data used for other countries selling in the U.S. An obvious problem with the data used in Table 1 is that the prices are in fact unit values for China's exports to the United States in each HS6 category. Those unit values could be falling due to the reduction in Chinese tariffs on imported inputs if new exporters are selling lower-priced (and possibly lower-quality) goods, thereby pulling down the unit values. To correct for this limitation, the data that we shall use for Chinese export prices to the United States comes from firm-level prices of those Chinese firms, which allows us to exclude the prices of new firms that begin exporting. We will incorporate those new firms, however, by constructing measures of Chinese import variety into the United States that reflect those new Chinese exporters, as described in section 3.1. We will incorporate that measure of Chinese import variety into the “effective prices” faced by U.S. consumers. For U.S. purchases from countries other than China, i.e. purchases from domestic U.S. firms and from other countries' exporters, we will not have the same level of detail as for the Chinese firms, but we will still attempt to construct measures of product variety in addition to the product prices from these countries.

Section 4 constructs overall U.S. manufacturing industry price indexes for China and other countries, and estimates the impact of China's WTO accession and its own lowering of tariffs on imported inputs on U.S. prices. There we find the reduction in U.S. industry price indexes by a median value of 8.0% between 2000 and 2006, with greater reductions for intermediate inputs than for final goods. We check the robustness of our results to other policy reforms and to industry controls. It is not just the average reduction in prices that we are interested in, of course, but also the variation in those price reductions across industries. We show that the cross-industry variation in price reductions has explanatory power for the change in the Chinese import share within U.S. consumption, and for the change in U.S. industry employment. Section 5 concludes.