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The China shock and its impact on income inequality in Vietnam

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Matthias Helble, Trang Thu Le, Trinh Q. Long 10 February 2019 The sudden rise in trade between China and the US – known as the ‘China shock’ – has been the subject of numerous studies, but the even more dramatic increase in trade between China and developing countries in Asia has been somewhat overlooked. This column studies the impact of the China shock on income inequality in Vietnam. It suggests that increased trade with China reduced income inequality. It resulted in income growth for the lowest income quantiles while higher income groups saw their income decline. The sudden rise in trade between China and the US and its impact on the US labour market, the so-called China shock, has been the subject of numerous empirical studies

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Matthias Helble, Trang Thu Le, Trinh Q. Long 10 February 2019

The sudden rise in trade between China and the US – known as the ‘China shock’ – has been the subject of numerous studies, but the even more dramatic increase in trade between China and developing countries in Asia has been somewhat overlooked. This column studies the impact of the China shock on income inequality in Vietnam. It suggests that increased trade with China reduced income inequality. It resulted in income growth for the lowest income quantiles while higher income groups saw their income decline.

The sudden rise in trade between China and the US and its impact on the US labour market, the so-called China shock, has been the subject of numerous empirical studies (e.g. Autor et al. 2016). What has been overlooked is that the increase in trade between China and some other countries, especially developing countries in Asia, has been even more dramatic and had a substantial impact on these economies.

Trade opening can be a powerful tool to foster economic growth and promote development. As the opening to international competition leads to an adjustment of factor markets as well as prices, producers and consumers are impacted. While some groups enjoy net benefits from more open trade, others might lose. Overall, the gains from trade should be welfare improving and thus offer the possibility to compensate those suffering adverse effects. However, the redistribution of benefits might not always be feasible, for example as governments might struggle with the tax collection. The empirical trade literature shows that trade opening can thus be pro-poor or pro-rich. Similarly, the impact on income inequality can go both ways, depending on which income groups gain or lose from trade opening. Goldberg and Pavnik (2007) argue that in developing countries the shift in demand for skilled workers would lead to a widening wage gap.

China and Vietnam: Inseparable trade partners

In a new ADBI working paper (Helble et al. 2018), we test how the intensifying trade relations between Vietnam and China have affected income inequality in Vietnam. Vietnam and China share a 1,281 kilometre border, and trade relations between the two countries have been marked by a continuous and rapid growth. For Vietnam, China has become by far the largest trading partner, both in terms of exports and imports. In terms of imports, Vietnam sourced around 13% of its imports from China in 2000. The percentage increased to 40% in 2014 (see Figure 1). The dominance is particularly strong for final goods of which over 50% were sourced in China in 2014. From the perspective of China, Vietnam has become the biggest trading partner among ASEAN countries. It has been widely argued that within the context of trade relations China and Vietnam have become inseparable partners.

Figure 1 Vietnam’s imports from China as a percentage of total imports (2000-2014)

The China shock and its impact on income inequality in Vietnam

Source: Helble et al. (2018)

Product markets versus factor markets

We study the period from 2002 to 2014 and examine the impact of increased imports from China to Vietnam on income inequality in Vietnam at the provincial level. Import competition from China potentially affected the economy of Vietnam mainly through two channels. First, through product markets. Increased imports from China affected households by offering additional varieties at often lower prices. Second, through factors markets. Increased trade with China changed wages and job opportunities. Increased imports China could have created or reduced employment opportunities, depending on how industries are affected. Furthermore, it could have resulted in an increase or fall in wages of unskilled or of skilled labour. 

Import competition with China lowered income inequality

Our estimation results show that import competition from China has helped reduce income inequality in Vietnam. When looking separately at imports of intermediate goods and final goods, we find that both have helped reduce income inequality in Vietnam. 

As an additional step, we apply a quantile regression approach to have a fuller picture on the effects of import competition from China on different household income groups. The results show that at the beginning of our time period, all income quantiles seemed to have suffered from increased imports from China. The negative effect increased with income, suggesting a degressive income effect. However, during the periods 2006 and 2010, no income group suffered a significant effect, except the highest income groups. The income effect completely changed in the two last periods (2012 and 2014). The two lowest income quantiles enjoyed a positive effect on their income, with the poorest group benefitting most. Figure 2 shows the results of the quantile regression for the year 2014.

Figure 2 Quantile regression of household income for the year 2014

The China shock and its impact on income inequality in Vietnam

Source: Helble et al. (2018)

When we distinguish between intermediate and final goods, the quantile regression approach yields an interesting result. More trade exposure in intermediate goods improved the income of almost the entire population. In contrast, being more exposed to final goods had the opposite effect. Most households saw their income decline.  

Overall, the results indicate that income inequality came down in Vietnam because the lower income groups experienced a relatively lower decline of income at the beginning of our time period and an increase in income at the end. At the same time, trade exposure to China led to a decline or stagnation of income for the two highest income quintiles. 

Our latest research thus sheds new light on the question on how increased trade with China has affected household income and inequality in a developing country. The case of Vietnam provides a particularly good case to measure the impact of the China shock. Our results indicate that the effect was degressive with lower income groups benefitting more than higher income groups. More research is needed to test whether this result also holds in other developing countries. Our research nicely illustrates that in the case of Vietnam increased trade did not only deliver in terms of stimulating growth, but also in lowering income inequality.

References

Autor, D, D Dorn and G H Hanson (2016), “The China Shock: Learning from Labor Market Adjustment to Large Changes in Trade”, Annual Review of Economics 8(1): 205-240.

Goldberg, P K and N Pavnik (2007), “Distributional Effects of Globalization in Developing Countries”, Journal of Economic Literature 45(1): 39-82.

Helble, M, T T Le and T Q Long (2018), “The Impact of Increased Import Competition from the People’s Republic of China on Income Inequality and Household Welfare in Vietnam”, ADBI Working Paper 864, Asian Development Bank Institute.

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