Labor Markets, Search Frictions and International Trade: Assessing the China Shock

Master project by Marcos Mac Mullen ’18

Made in China label with Chinese flagimage source: Daily Times Peking

Editor’s note: This post is part of a series showcasing Barcelona GSE master projects by students in the Class of 2018. The project is a required component of every master program.


Authors:

Marcos Mac Mullen

Master’s Program:

Macroeconomic Policy and Financial Markets

Paper Abstract:

The goal of this paper is to assess quantitatively the impact that the emergence of China in the international markets during the 1990s had on the U.S. economy (i.e. the so-called China Shock). To do so, I build a model with two sectors producing two final goods, each of them using as the only input of production an intermediate good specific to each sector. Final goods are produced in a perfectly competitive environment. The intermediate goods are produced in a frictional environment with labor as the only input. First I calibrate the close economy model to match some salient stylized facts from the 1980s in the U.S. Then to assess the China Shock I introduce a new country (China) in the international scene. I proceed with two calibration strategies: (i) calibrate China such that it matches the variation in the price of imports relative to the price of exports for the U.S. between the average of the 1980s and the average of 2005-2007, (ii) Calibrate China such that variation in allocations are close to the ones observed in data, for the same window of time. I found that under calibration (i) the China Shock in the model explains 26.38% of the variation in the share of employment in the manufacturing sector, 16.28% of the variation in the share of manufacturing production and 27.40% of the variation in the share of wages of the manufacturing sector. Finally, under calibration (ii) I found that the change in relative price needed to match between 80 to 90 percent of the variation in allocations is around 3.47 times the one observed in data.

Conclusions and key results:

According to the model, the China Shock explains 26.35% of the variation in the share of manufacture employment, 16.28% of the variation in the share of manufacturing production and 27.44% of the variation in the share of wages of the manufacturing sector. The first of these results is consistent with findings in Autor et al. (2013). On the other hand, the variation in the unemployment rate of the economy is not matched, neither for the first nor the second calibration of the open economy. I also found that as a consequence of the China Shock, real wages increase when measuring them in terms of the price of the import good, and decrease when measured in terms of the price of the export good. This result is not in line with findings in Autor et al. (2013). The optimal unemployment insurance in the open economy is 6.13% of average wages higher than in the close economy because the unemployment rate of the open economy is higher than in the close economy (0.9% difference). Finally, the model generates a non-traditional source of comparative advantage, arising from differences in the relative bargaining power of workers.

Download the full paper [pdf]


More about the Macro Program at the Barcelona Graduate School of Economics

Special talk for master’s students by Justin Yifu Lin on “New Structural Economics”

authorLecture summary by Tuomas Kari ’16 (Master’s in International Trade, Finance, and Development)


The former Chief Economist of the World Bank and member of Barcelona GSE Scientific Council Justin Yifu Lin visited Barcelona GSE on May 2nd to give a special talk to the Master students on a new approach to development policy, titled “New Structural Economics: The Third Wave of Development Thinking”. Professor Lin, who currently teaches at the National School of Development at the University of Beijing, outlined the history of development economics and its shortcomings. The goal of the lecture was to derive lessons for optimal policy and then expand upon the idea of new structural economics, the approach Prof. Lin himself advocates.

Structuralism and neoliberalism

Prof. Lin divided the history of development into two time periods: structuralism that was dominant from 1950 to the 1980s, and neoliberalism that has been the main viewpoint up to this day. Structuralism tended to assume that there were market failures that needed to be corrected with industrial policy, such as import substitution. The failure of these policies is well documented as the government-subsidized industries rarely survived at global markets and distorted the countries’ economies. Neoliberalist reaction emphasized deregulation to rid the economy of rent seeking and liberalization to let markets determine the allocation of resources. But this too failed in developing countries to reach steady growth. Often, liberalization led to the collapse of entire sectors, high unemployment and subsequent political unrest.

The main exception to these consensus policies throughout the last half a century have been the East Asian Tigers, Hong Kong, Singapore, South Korea and Taiwan, countries that followed a dual track of capitalist and state-directed policies and achieved unmatched growth rates. As these countries were initially too poor to afford expensive subsidies to heavy industry, they promoted production lower in the value chain, and even then only by piece-meal measures. According to Prof. Lin, this lack of better options guided the Tigers to good policies by accident.

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Professor Lin delivered the Barcelona GSE Lecture at Banc Sabadell later the same day to the entire BGSE community.

Economic growth as a result of structural transformation

New structural economics is an attempt to study the determinants of economic structure and its evolution using neoclassical methods. Prof. Lin starts from the hypothesis that economic structure is endogenous to the country’s endowments and optimal policy guides the economy to activities where it enjoys comparative advantage. If a country attempts to transform its economy to activities other than those that utilize its endowments, this will only result in distortions, breaking down of market mechanisms and rent seeking. Optimal policy must start from the development of endowments (capital stock, human capital etc.) and only after try to deal with the production structure. As economic growth is ultimately a result of structural transformation, Prof. Lin argued that governments must engage in first building up the necessary endowments and then using industrial policy to help firms enter into business.

The preconditions for economic growth are having a functioning market economy efficiently allocate resources across sectors and firms, and a facilitating state that provides transitional support for firms entering and exiting the market and liberalizing the economy gradually using discretion. Lin claimed would lead to competitiveness, openness to trade, and strong fiscal and external accounts, which allow the economy to avoid crises and engage in countercyclical policies. Another benefit would be high returns to investment that provide incentives to save.

Room for more economic research

Prof. Lin promoted the setting up of Special Economic Zones to allow firms to do business free from distortions and also work as laboratories for the government to see what the comparative advantages of the economy are. He ended the lecture by proposing the development of theoretical models capable of explaining these dynamics as a fruitful avenue for the future economists in the audience.

Breakfast seminars: food for thought

By Marlène Rump ’15, current student in the International Trade, Finance and Development master program at Barcelona GSE. Marlène is on Twitter @marleneleila.

seminars

On Wednesday, October 22, we didn’t have classes, so we decided to explore one of the numerous events on the GSE calendar. For some brain and other food, the breakfast seminar on Labour, Public and Development Economics sounded just right.

The presentations scheduled were held by two of UPF’s PhD students who are in their last year. This means they are finalizing their “job market paper”, which refers to the paper they will use as a demonstration of their skills and interests when they apply for positions.

One important purpose of the seminar is giving the students an opportunity to practice presenting and defending their work, as well as receiving improvement suggestions from fellow PhD students and professors.

Backlash: The Unintended Effects of Language Prohibition in US Schools after World War I

Vicky Fouka started the seminar with her paper on language prohibition in the US Schools after World War I. She compared two states, similar in most social aspects, one of which banned the teaching of German from the primary schools for a few years and the other, her control state, which didn’t.

The prohibition, which was implemented by the authorities in early 1920s, originated from a German-hatred which was widespread in the United States after World War I. What was promoted as an integration measure had the exact opposing effects: Vicky finds that the Germans living in the state with language prohibition deepened their cultural segregation. In comparison with the control state, they were more likely to marry a German spouse and give their first child a very German sounding name.

Editor’s note: Vicky Fouka is a graduate of the Barcelona GSE Master in Economics. See more of her research on her website.

Cultural Capital in the Labor Market: Evidence from Two Trade Liberalization Episodes

The second presentation was also about the assimilation of immigrants, however Tetyana Surovtseva conducted her analysis with modern day data. Her assumption was that if the host country of immigrants increased trade with their country of origin, these immigrants had an advantage on the labor market in trade related sectors. Her hypothesis was that if the host country of immigrants increased trade with their country of origin, these immigrants had an advantage on the labor market in trade related sectors. Her underlying premise is that immigrants have a certain “cultural capital”, other than language, which is valuable for corporations involved in trade with their country of origin.

Tetyana examined the labor market demand for Chinese and Mexican immigrants in the US after a punctual improvement of trade agreements. Her findings suggest that labor market returns to the immigrant cultural capital increase as a result of trade with the country of origin.

Editor’s note: Tetyana is also a Barcelona GSE Economics alum. More about her work is available on her job market page.

Attend some seminars! Especially if you’re thinking of doing a PhD.

For both presentations there were numerous questions which gave additional insight especially on the methods of research. We also learned that most PhD students start their final thesis three years before the end of their program.

After this experience, I can highly recommend attending the seminars. You learn about interesting economic questions and see a specific application of your econometrics classes and this in only one hour. In addition, for those who are envisaging doing a PhD, the presentations give a genuine insight of the type of research you could be conducting.