David R. Henderson  

Trade with China Reduced Domestic Inequality

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In a recent post, I challenged Mark Kleiman's view that low-income people do not benefit at all from international trade. He wrote:

But the bottom line is that all of the gains, not merely from trade but from economic growth, have been concentrated in the hands of a relative few.

That struck me as highly unlikely, and I gave my reasoning about why.

Commenter Aaron McNay pointed out evidence showing that I understated the gains to low-income Americans from trade. The evidence is in Christian Broda and John Romalis, "The Welfare Implications of Rising Price Dispersion," July 4, 2009.

Broda and Romalis show that the prices of the items in the market basket that low-income families buy have increased less than the prices of the items in the basket that high-income families buy. They write:

Using scanner data on household consumption of non-durable goods between 1994 and 2005, we document that the relative prices of low-quality products that are consumed disproportionately by low-income households were falling over this period. This implies that non-durable inflation for the 10th percentile of the income distribution has only been 4.3 percent between 1994 and 2005 (0.4 percent per annum), while the non-durable inflation for the 90th percentile has been 11.9 percent (1.0 percent annually), and 13.4 percent (1.2 percent annually) for the richest 5 percent of households in the sample. Over the period 1994 - 2005, the conventionally measured ratio between real household income at the 90th and 10th percentile rose by 5.7 percent (0.5 percent per annum) and the 95th/10th ratio rose by 7.5 percent (0.7 percent per annum). This suggests that the inflation differential in non-durable goods (around 30 percent of total consumption) is enough to offset almost 40 percent of the rise in both of these inequality ratios over this period. In the case of other common inequality measures, the 80/20th and 95/20th income ratios, the non-durable inflation differential is enough to offset over 80 percent and 50 percent, respectively, of the rise in these indicators. Moreover, we provide evidence that suggests that the increase in price dispersion is not limited to the products in our sample nor to our time period. If differences in income-group specific inflation rates in our sample are representative of the broader economy, then real income growth in the US has been much more substantial and equal than suggested by standard measures. In that case, "real" inequality may have actually fallen between 1994 and 2005. (italics in original)

First, independent of trade, this is interesting in its own right. It shows that the increase in income inequality in the United States has been dramatically overstated and, in fact, that income inequality might have fallen between 1994 and 2005.

Second, one reason prices rose less for low-income people is that they were buying goods from China. Broda and Romalis write:

We have found a strong negative correlation between the changes in prices by product module and the change in Chinese trade in that same module over this time period. This strongly suggests that trade with China may have partly driven the increase in inflation differentials by income-group.

Comments and Sharing

COMMENTS (5 to date)
Market Fiscalist writes:

In terms of purchasing power of a given amount of income then everyone should benefit from trade with China. It makes sense (for the reasons given in the post) that the poor may benefit more than the average from cheaper imports because of their spending patterns.

However if you can buy more with each $ of income, but your total income has fallen then you may still be a net loser.

It does not seem inconceivable that the lowest paid segment of workers have seen their wages fall as a result of cheaper goods being produced and imported from China.

Has any research been done on this aspect of the issue ?

Effem writes:

Of course we can explain away any individual factor...but it's very hard to see how you can conclude there isn't some problem with how the US economy functions.

We are near the top in Mean wealth, and near the bottom in Median wealth (among developed countries).


Even if your inflation argument is accurate, that'd be true for other countries as well.

So what's the "mystery problem" which makes the USA an extreme outlier among it's peers? Whatever it is, I think it is very bad for social cohesion and I'd suggest we address it before we realize Trump/Sanders are the just the tip of the iceberg.

Capt. J Parker writes:

Ok, so increased income inequality is not so bad because cheaper manufactured goods (because of trade) still allow increased living standards at the bottom of the income distribution. On the other hand, another oft stated argument against income inequality being a big problem is that people are quite likely to move from lower to higher income percentiles over their working life. But, the Broda and Romalis method of analysis suggests that these two arguments are at odds with one another since the implication is that higher inflation in things higher income groups might buy (or need to buy to elevate their income – I’m thinking here of Housing and Education) will make it harder for low income individuals to rise through the income levels. It will also make it harder for families to avoid inherited poverty. If trade liberalization created a more economically immobile underclass even if they have a somewhat higher living standard, would that be a net benefit of trade or a net loss?

There's hardly a shortage of studies documenting the improved standard of living of the poorest among us during the supposed rising inequality of incomes. For instance, Robert Fogel used to point out that the consumption of the poorest quintile of income earners was more than double their incomes!

One of my favorite comes from the Boston Federal Reserve;

In this paper, we use five decades of time‐use surveys to document trends in the allocation of time. We document that a dramatic increase in leisure time lies behind the relatively stable number of market hours worked (per working‐age adult) between 1965 and 2003. Specifically, we document that leisure for men increased by 6‒8 hours per week (driven by a decline in market work hours) and for women by 4‒8 hours per week (driven by a decline in home
production work hours). This increase in leisure corresponds to roughly an additional 5 to 10 weeks of vacation per year, assuming a 40‐hour work week. We also find that leisure increased during the last 40 years for a number of sub‐samples of the population, with less‐educated adults experiencing the largest increases. Lastly, we document a growing “inequality” in leisure that is the mirror image of the growing inequality of wages and expenditures, making welfare calculation based solely on the latter series incomplete.

My bold in the above.

Floccina writes:

It seems to me that people with relatively high paid blue collar manufacturing jobs were never a big percent of the population but that many voters without those types of job support them even to there own hurt. Low skill people without one of those jobs clearly benefit from more free trade as do high skilled jobs. The people who had those jobs lost through changes in international trade.

Which is interesting.

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