Chinese Economy

May 28 and 29, 2016
Hanming Fang of University of Pennsylvania; Shang-Jin Wei of Columbia University; and Wei Xiong of Princeton University, Organizers

Cheng Chen, University of Hong Kong; Miaojie Yu, Peking University; and Wei Tian, University of International Business and Economics

Outward FDI and Domestic Input Distortions: Evidence from Chinese Firms

Chen, Yu, and Wei examine how domestic distortions affect firms' investment strategies abroad. The study first documents puzzling empirical findings concerning Chinese multinational corporations, which include that private multinational corporations are less productive than state-owned multinational corporations. A theoretical model is built to rationalize these findings and yields additional empirically consistent predictions. The key insight is that discrimination against private firms domestically incentivizes these firms to produce abroad, which results in less tough selection into foreign direct investment for them. A calibration exercise shows the quantitative impacts of domestic distortions on gains in aggregate productivity after investment liberalization.

Yi Huang, The Graduate Institute Geneva; Prakash Loungani, International Monetary Fund; and Gewei Wang, Chinese University of Hong Kong

How do Firms React to Minimum Wage Changes?

This paper provides the first systematic study of how minimum wage policies in China affected firm employment over the 2001–06 period. Using a novel administrative dataset of minimum wage regulations across more than 2,800 counties matched with firm and household data, Huang, Loungani, and Wang find that minimum wage hikes have significantly negative effects on employment. The researchers investigate the heterogeneous effect of the minimum wage on firm employment in terms of firm, industry, spatial characteristics, and labor market conditions. They show that employment falls more in response to minimum wage hikes in lower-wage firms with lower profit margins. The same is true for firms in labor-intensive industries and in labor markets with high mobility. Furthermore, a major reform in the minimum wage policy was conducted by the central government around 2004. They find that the response of firm employment growth to minimum wage hikes has become larger compared with the pre-reform period. Similar results hold for the numerous specifications and robustness checks with the attrition, implementation, and placebo tests.

Jingting Fan and Weiming Zhu, University of Maryland; Lixin Tang, Shanghai University of Finance and Economics; and Ben Zou, Michigan State University

The Alibaba Effect: Spatial Consumption Inequality and the Welfare Gains from E-Commerce

Studies show that differential access to varieties of goods contributes to inequality in living standards across cities. By eliminating the fixed cost of entry for firms, e-Commerce might disproportionately improve smaller cities' access to varieties, and reduce this inequality. Using unique data from China's leading e-Commerce platform, Fan, Tang, Zhu, and Zou first document a negative relationship between online purchasing intensity and market size. They then build a multi-region general-equilibrium model to quantify the welfare gains from e-Commerce. With an average of 1.62 percent, the welfare gains are 0.94 percentage points higher for cities in the 1st population quintile than those in the 5th quintile.

Kaiji Chen and Jue Ren, Emory University, and Tao Zha, Emory University and NBER

What We Learn From China's Rising Shadow Banking: Exploring the Nexus of Monetary Tightening and Banks' Role in Entrusted Lending (NBER Working Paper No. 21890)

Chen, Ren, and Zha argue that China's rising shadow banking was inextricably linked to potential balance-sheet risks in the banking system. The researchers substantiate this argument with three didactic findings: (1) commercial banks in general were prone to engage in channeling risky entrusted loans; (2) shadow banking through entrusted lending masked small banks' exposure to balance-sheet risks; and (3) two well-intended regulations and institutional asymmetry between large and small banks combined to give small banks an incentive to exploit regulatory arbitrage by bringing off-balance-sheet risks into the balance sheet. The researchers reveal these findings by constructing a comprehensive transaction-based loan dataset, providing robust empirical evidence, and developing a theoretical framework to explain the linkages between monetary policy, shadow banking, and traditional banking (the banking system) in China.

Ziying Fan, Shanghai University of Finance and Economics; Wei Xiong; and Li-An Zhou, Peking University

Information Distortion in Hierarchical Organizations: A Study of China's Great Famine

The literature has attributed China's Great Famine of 1959-1961 to sharp declines in grain output caused by reduced peasant incentives and excessive grain procurement. Fan, Xiong, and Zhou provide evidence to further connect these failures to information distortion inside the government system. Specifically, the researchers document the following findings. First, local officials competed with each other in massive inflation of local grain yield in an effort to cater to Mao's wishful thinking about the Great Leap Forward. Second, as a result of the inflated yield inflation, the central government failed to realize the widespread famine and organize systematic famine relief until two years after the famine started. Third, during the first two years, the central government transferred a substantial amount of grain out of the provinces that experienced severe famine while local officials in these provinces redistributed grain back to peasants using locally controlled grain stock. By revealed "knowledge," the last finding illustrates the information gap between the central government and local officials at the peak of the famine. Overall, the analysis highlights severe consequences of information distortion induced by subordinates' incentives to cater to their superior's wishful thinking.

Ayse Imrohoroglu, University of Southern California, and Kai Zhao, University of Connecticut

The Chinese Savings Rate: Productivity, Old-Age Support, and Demographics

In this paper, Imrohoroglu and Zhao show that a general equilibrium model that properly captures the role of family support, changes in demographics and the productivity growth rate is capable of generating changes in the national saving rate in China that mimic the data well. The researchers' results suggest that most of the increase in the saving rate between 1980 and 2010 is due to the interaction between the decline in the fertility rate due to the one-child policy and the shortcomings of the old-age support programs, especially against the long-term care risks, provided by the government in China. Changes in the productivity growth rate account for the fluctuations in the saving rate during this period.

Kinda Cheryl Hachem, University of Chicago and NBER; and Zheng Michael Song, Chinese University of Hong Kong

Liquidity Regulation and Unintended Financial Transformation in China (NBER Working Paper No. 21880)

China increased bank liquidity standards in the late 2000s, yet interbank markets became tighter and more volatile and credit soared. To explain this, Hachem and Song argue that shadow banking developed among small- and medium-sized banks to evade the higher liquidity standards. The shadow banks then poached deposits from big commercial banks by also broaching traditional deposit-rate ceilings. In response, big banks used their interbank market power to restrict loans to shadow banks and lent more to non-financials. The researchers model delivers a quantitatively important credit boom and higher and more volatile interbank interest rates as unintended consequences of higher liquidity standards.

Chun Chang and Jingyi Zhang, Shanghai Jiao Tong University, and Zheng Liu and Mark Spiegel, Federal Reserve Bank of San Francisco

Reserve Requirements and Optimal Chinese Stabilization Policy

Chang, Liu, Spiegel, and Zhang build a two-sector DSGE model of the Chinese economy to study the role of reserve requirement (RR) policy for capital realloation and business cycle stabilizaton. In the model, state-owned enterprises (SOEs) have lower average productivity than private firms, but they have superior access to bank loans because of government guarantees. Private firms rely on "shadow" bank financing. Commercial banks are subject to RR regulations but shadow banks are not. The researchers' framework implies a tradeoff for RR policy: Increasing RR acts as a tax on SOE activity and reallocates resources to private firms, raising aggregate productivity. This reallocation is supported by empirical evidence. However, raising RR also increases the incidence of costly SOE failures. Under their calibration, RR policy can be complementary to interest-rate policy and useful for stabilizing macro fluctuations and improving welfare.

Lin Ma, National University of Singapore, and Yang Tang, Nanyang Technological University, Singapore

Rich and Unhappy: A Quantitative Analysis of Internal Trade and Migration in China

Yiming Cao, Boston University, and Shuo Chen, Fudan University

Robin Hood on the Grand Canal: Economic Shock and Rebellions in Qing China, 1650 - 1911

Social scientists have long pondered the effects of economic shocks on social conflicts. Despite the recent literature that has employed exogenous variation in climate changes or global prices to identify the causality, the findings are still inconclusive. This paper uses the abandonment of China's Grand Canal – perhaps the largest infrastructure project in the pre-modern world – in 1826 as a natural experiment to study the link between economic shocks and social conflicts. Using a dataset covering 575 counties from 1650 to 1911, Chen and Cao have found that negative economic shocks significantly generated social instability: in the period of post-abandonment, the annual incidence of rebellions was 0.009 higher in counties bordering the canal than those that are not. The magnitude of the effect accounted for about 122% of the sample mean and was robust across various specifications. The researchers then compare the relative explanatory power of alternative explanations, and conclude that the reform was most likely to arouse rebellions by terminating the canal's role in facilitating trade.

Jiandong Ju, Shanghai University of Finance and Economics; Justin Lin, World Bank; Qing Liu, Tsinghua University; and Kang Shi, Chinese University of Hong Kong

A Dynamic Structural Analysis of Real Exchange Rate: Theory and Evidence from China

Since China joined the WTO in 2001, the Chinese economy has grown very rapidly, especially, the tradable goods sector. However, the Chinese real exchange rate did not exhibit a persistent and stable appreciation until 2005. This is a puzzling fact that is inconsistent with theories. This paper documents several stylized facts during the economic transition and argues that two features of the Chinese economy may help explain the puzzling real exchange rate pattern: i) the faster total factor productivity (TFP) growth in export sector compared with the import sector; ii) excess supply of unskilled labor. Ju, Lin, Liu, and Shi construct a small open economy model with an H-O trade structure and show that, due to heterogeneous skilled labor intensity in export and import sectors, the faster TFP growth in the export sector over that in the import sector will lead to the decline of return to capital and the rise of skilled wage. Therefore, the decrease of return to capital and the persistent low unskilled wage, which is caused by the excess supply of unskilled labor, inhibit the rise in the relative price of non-tradable goods to tradable goods as well as the appreciation of real exchange rate. Furtheremore, the researchers develop a dynamic small open economy model with multiple tradable goods sectors, and show that the model does fairly well in explaining the Chinese real exchange rate and other stylized facts in the economic transition. Finally, the authors demonstrate that their hypotheses are supported by cross-country evidence.

Yong Wang and Jenny Xu, Hong Kong University of Science and Technology, and Xiaodong Zhu, University of Toronto

Structural Change and the Dynamics of China-U.S. Real Exchange Rate

Wang, Xu, and Zhu study the dynamics of the real exchange rate between China and the U.S. since 1990. The researchers first show that a standard Balassa-Samuelson model without structural change cannot account for the observed real exchange rate behavior. They then extend the Balassa-Samuelson framework to a three-sector model with structural change and show that the model can quantitatively account for both the structural changes in the two countries and the behavior of the real exchange rate. A key element of the model is frictions to labor reallocation across sectors. Between 2000 and 2010, the manufacturing sector's share of employment in China increased from 25 percent to 34 percent. The researchers argue that this is mainly driven by a decline in the frictions to labor reallocation from agriculture to manufacturing. Without the decline in labor frictions, the manufacturing sector's share of employment in China would have declined during this period and the real value of Renminbi would have appreciated more than what is observed in the data during the same period. The results highlights the important roles of labor market conditions and structural change in determining the dynamics of real exchange rate.

Di Guo and Chenggang Xu, University of Hong Kong; Kun Jiang, Roehampton University; and Yutong Wang, University of California at Los Angeles

Political Economy of Making an Authoritarian Constitution: The Case of China

David Ong and Yu Yang, Peking University, and Junsen Zhang, Chinese University of Hong Kong

Hard to Get: The Scarcity of Women and the Competition for High-Income Men in Chinese Cities

There have been increasing reports in China of the difficulties of elite women to find suitable mates despite the growing scarcity of women. To help explain this, Ong, Yang, and Zhang consider the impact of women's preference for men who have higher incomes than themselves, found in a prior online dating study, on the competition between women as a function of their own incomes. The key characteristic of this "reference dependent preference" is to escalate the competition women face as their incomes increase by decreasing the pool of men they desire while simultaneously expanding the pool of women who desire them. The researchers first show theoretically that, as a consequence, high-income women can be made worse off when higher income men are more plentiful or richer. They then exploit variations in local sex ratios and men's income across major cities in China to test for changes in high-income women's search intensities, marriage rates, and household bargaining power. As predicted, only the search intensity, singles rates and share of housework of high-income women increased with the incomes and plentifulness of high-income men. The researchers' findings with online dating, census and time use data suggest that the difficulties of elite women stem from incentives that affect women in general.

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