Scott Lincicome on the ‘China Shock’, Trade Policy, and US Labor Markets

The standard ‘China Shock’ narrative misses the mark, as it amplifies costs while ignoring benefits from trade.

Scott Lincicome is a senior fellow in Economic Studies at Cato Institute where he writes on international and domestic economic issues, including international trade, industrial policy and manufacturing and global supply chains. Scott joins David on the podcast to discuss what we've learned so far about the so-called China shock and where we are today in the trade war. Specifically, David and Scott discuss the historical rise of Chinese exports, its impact on US labor markets, how certain policies make it harder for US workers to adjust, and whether the Trump administration marks a genuine regime shift in international trade.

Read the full episode transcript:

Note: While transcripts are lightly edited, they are not rigorously proofed for accuracy. If you notice an error, please reach out to [email protected].

David Beckworth: Scott, welcome to the show.

Scott Lincicome: No, thanks for having me. Good to be here.

Beckworth: It's great to have you. One, you're another personality that I've grown acquainted with on Twitter and you always have funny and informed views there, but it's great to actually chat with you in person and you're over at Cato and my good buddy, George Selgin, I don't know if you had a chance to interact with him yet?

Lincicome: Yeah, a little bit.

Beckworth: A little bit. Probably the lockdown has prevented you guys from interacting more at this point.

Lincicome: Right.

Beckworth: But I get over there quite a bit and we have fun there talking monetary policy, but also at Cato, you guys have a great trade and immigration program. You're one of their scholars there and it's great to get you on the show to discuss your new paper. It's titled “Testing the 'China Shock': Was Normalizing Trade with China a Mistake?” We're going to get into that and also what's happened to trade policy. Before we do that though, Scott, tell us about your journey into this area. How did you get into trade policy?

Lincicome: It was a lot of luck in the sense that I was not really into trade, econ or even libertarian thought in college, I was kind of a slacker. But I went to DC and interned at Cato in the late '90s for their Constitutional Studies department, actually. I knew I wanted to be a lawyer. I thought Con Law sounded pretty cool and I had some pretty libertarian views on Con Law issues, speech and the rest and so that seemed like a good fit. But at the end of my internship at Cato, I didn't have a job lined up. It was a classic situation of, "Here I am. I'm out of college. I think I am going to pack up and go back home to Dallas where I was from."

Lincicome: I was essentially walking around the office saying my goodbyes and Dan Griswold, your colleague, and a few others saw that I was leaving and they actually had a job opening in the Trade Policy Center and offered me a job as a research assistant. I spent three years there and really grew fond of the topic. Brink Lindsey, who was there at the time, was a recovering trade lawyer himself, and really trade law looked like a great avenue. It still provided some of the same good versus evil dynamics that we libertarians love, but had a far more lucrative potential as opposed to Con Law. There's nine constitutional around, more now, but back then it was a pretty niche field.

Lincicome: I went to law school with that in mind and then spent about 17 years in private practice and have finally emerged from that now as a senior fellow at Cato. That was how I got into it. On the policy side, I also fell into. I mean, I was just a practicing lawyer for a little while with very little policy involvement. And then in 2008, I started working on a couple of presidential campaigns and ended up, again classic by twist of fate, heading John McCain's trade team in the 2008 election with Phil Levy who was at AEI and is now out west with a private company. I got bitten by the policy bug and from there really, I started working on papers with Cato and then as an adjunct. And now here I am.

Beckworth: Yes, and ever since president Trump has been in office, you've been really busy, I imagine.

Lincicome: I have, I have. In fact, I was pretty unpopular in the 2010s, in the sense of I would write op-eds and couldn't get them placed. I would blog in my spare time and I'd get zero page views and all that stuff. And then all of a sudden, the rise of Trump has, for better or worse, made me pretty popular. All of a sudden out of nowhere I was having journalists just call me for comments. How weird is that, you know?

Beckworth: Right.

Lincicome: And so it definitely changed things.

Beckworth: We know what they say about the definition of luck is when talent meets opportunity. You had the talent, you were just waiting and then Trump comes to office, starts a trade war and who do you want to turn to? People like you. You mentioned Dan Griswold. I've had him on the show several times. He's a great colleague here at Mercatus. And I joke with him that president Trump has been his full employment act and same thing rings true for you. So, it's great to have you on as well and to get your perspective again and discuss this really fascinating paper, “Testing the 'China Shock': Was Normalizing Trade with China a Mistake?” We'll provide a link to it in our show notes. Before we jump into the paper though, one more thing, where do we stand in terms of the state of the trade war? I had Dan on, it's probably been a year ago and of course the COVID crisis, the recession, our attention has been diverted, but I want to come back to that. What has happened so far?

Current State of Trade

Lincicome: There really hasn't been any major movement this year. You would think from the press that all of the trade wars have ended. And that's, I think really, like you said, because everybody's focused on COVID. The fact is that since president Trump's big phase one deal with China, all of the tariffs that we were complaining about in 2019, with very, very few exceptions, remain in place. Some steel and aluminum national security tariffs, they are still around. Almost all of those tariffs on Chinese imports, they are still around, the safeguards on washing machines and solar panels, they're still around. But thus, the trade war is still ongoing. And I should note, all of the retaliation against US exports remains in effect, as it was at the end of last year. There have been even some new tariff battles related to the Boeing Airbus dispute at the WTO.

Lincicome: So, look, that's all here, it's just now been demoted because of COVID. And it's good and bad in the sense that I think it's good that we're not paying daily attention to the president's tweets about trade. I think that's pretty distracting, actually. And it's far more important to pay attention to the administration's actions, whether it's at the USTR, or the Department of Commerce or wherever. That's good.

Lincicome: The bad thing, though, is that we stopped in a pretty bad place in terms of where those tariffs are, particularly given that, look, all of these tariffs have been shown now through several rigorous academic studies to hurt the US economy, to hurt US manufacturing, to depress employment. And here we are in the midst of a pretty darn deep recession and we have that artificial drag still in place. And now when the economy was humming along, when we were doing pretty well in terms of GDP growth and even in terms of manufacturing, output and jobs, maybe that was a cost worth taking, but now it would be nice if occasionally we noted that we have this artificial constraint on potential future growth.

Beckworth: That's a great point. The economy was pretty close to full employment and some would argue it was there. In fact, it took us about a decade to get to that point. And one of the big tragedies of this crisis is we just barely got there and then we've fallen away again. But also, it masked the drag of those trade barriers that you've just mentioned. That's a great point. And maybe as we come out of this crisis will be more apparent to us and maybe people like you help direct our attention back to it.

Lincicome: I would hope so. There was just a new study released Monday by the NBER that actually looked at the employment effects of the US trade remedies duty. These are antidumping and countervailing duties. We have hundreds of these special duties in place, unbeknownst to a lot of folks. This belies the idea that the United States is some sort of free trade paradise. We actually have all these very high duties on a lot of products. And in fact, on a lot of manufacturing inputs. The authors of this new paper, and I was tweeting about this yesterday actually, they looked at where these duties are in place and it's on manufacturing inputs, primarily. In fact, something like 75% of all trade remedies duties in the United States are on manufacturing inputs, so steel and chemicals and the rest. They did their fancy economy stuff and regressions and the rest and they found that this actually had a substantial disemployment effect for the downstream manufacturing industry, so for the US manufacturing sector.

Lincicome: In other words, these sectors shed a lot of jobs due to the trade remedies duties in place because basically, the producers had to either absorb the cost or raise prices, and that of course raises a pretty significant dilemma in terms of maintaining the same levels of employment and output, the rest. But even as importantly, I think, they showed that the duties did not actually increase employment in the protected sectors. It looks like jobs went up a little bit in about the first 12 months, but then they actually were below their pre-duty levels. So it didn't even save and increase jobs in the protected sectors. Actually, one of your Mercatus colleagues wrote a great paper about this, about why this might be and showing that essentially when these trade remedies duties are in place, the protected industries don't invest in innovative new equipment, they don't invest in their workforce. They just take profits and increase CEO pay and do that kind of stuff.

These sectors shed a lot of jobs due to the trade remedies duties in place because basically, the producers had to either absorb the cost or raise prices, and that of course raises a pretty significant dilemma in terms of maintaining the same levels of employment and output.

Lincicome: Essentially, they line their own pockets and leave the company in the same position it was before and then they of course try to raise prices and then that inevitably is going to, again, harm their competitiveness and their output. It's a great example, given that we have substantial tariffs on almost all imports of steel and aluminum and basically every basic steel product, all these different aluminum products that all of these US manufacturers need. They're under a different legal mechanism that have a similar effect. It would be a pretty easy industrial policy of sorts for us just to eliminate those and help a lot of manufacturers and a lot of manufacturing workers right now.

Beckworth: Scott, that's a great summary of what's happening. There's room for improvement in terms of trade policy in the U.S., but one question I have about this, even if we do get to a better place in trade policy in the U.S., has Trump permanently changed the field of traders? Is he going to leave a lasting legacy? And the reason I ask this is because I know we're both fans of Doug Irwin and his great book, “Clashing over Commerce.” He's been on my show a few times as well.

Beckworth: But in that book, he does a great history of US trade policy. He says there's these three trade regimes, these three periods where there's a dominant approach to trade. The first one's from 1763 to 1865, it's all about generating revenue for the government. Tariffs of revenue. And then from 1865 to 1930, it is restriction, protecting domestic industries. And then from about The Great Depression to the present, it's been much more about free trade. He calls it the reciprocity regime, we lower our tariffs, they lower their tariffs, but he points out every regime change required a major shock. Trump, does he rise to the level of being a major shock that will leave a lasting legacy, both for the US trade and global trade?

Trump Administration as a Trade Shock

Lincicome: It's a great question and I wish I had a great answer, but it's really still too early to say. I think that Trump has most definitely exacerbated preexisting weaknesses in the global trading system, because contrary to popular belief, the Obama administration did not leave the World Trade Organization, for example, in absolutely great shape. They also did very little to restore the pre-Great Recession pro-trade consensus results. In fact, Dan Ikenson and I in 2009, he's over at Cato as well, wrote a paper imploring president Obama to restore the free trade consensus and saying, look, there are these fissures that if not fixed, will erupt or will fracture the system. Not to pat myself on the back too much, but we proved to be pretty precious because along came Trump and really, like I said, he exacerbated those problems.

Lincicome: I don't think, however, that things are beyond repair. The fact is that a lot of countries have... Let me start this way. The United States has built up a lot of goodwill over the last 60 plus years in terms of supporting the global trading system. Our trading partners have not simply abandoned the United States, yet. At the same time, no other country has really filled the void that the Trump administration has left with respect to leading the global trading system and being a cheerleader for it. I think we're at a pivotal moment and whether Biden or Trump wins I think will determine a lot about where the United States and the world goes on trade.

Lincicome: I wouldn't expect, and I actually have a piece coming out in the dispatch next week on this, I don't expect Joe Biden, if he is president, to be this wonderful free trader. However, I do think he would be far more supportive of the institutions like the World Trade Organization and more supportive of our existing alliances, whether it be on trade or national security and the rest. And those matter a lot in terms of keeping things moving in the right direction. And so I think there's a good chance that we are not going into say the Trump era where every country battens down the hatches and just starts imposing unilateral trade barriers right, left and center. That said, if we have another four years, it's very well that all that goodwill finally runs out and that the Trump administration continues its systematic effort to really dismantle the World Trade Organization. They blocked appellate body judges, they've really sought to essentially shut the place down, at least effectively. And I think that would probably continue if not deteriorate further.

Lincicome: Outside of that, you look at other trade agreements and there's really not a lot there that the Trump administration is building on, they seem to be actually pulling back. I mean, you look at an agreement like the USMCA actually is a net negative in terms of trade by imposing new rules of origin on autos and the rest. If you have a president Trump second term, then we might really be entering an era where countries are just going to have to say, "The heck with this," and go out on their own. But I guess there's one last caveat there, there is, I think, a chance as well, that they move on just simply without the United States through some sort of international system. It's just really hard to say where we would go in that situation.

Beckworth: So Trump may or may not be a pivotal point in the trade history, so we'll have to see what happens maybe after November and then what he does in the second term. Well, speaking of pivotal points, let's use that to segue into your paper because many have made the case that the China shock was a pivotal point in the US economy. Early 2000 period over the next decade or so was a huge consequential period. You say in your piece... Again, the title was “Testing the 'China Shock': Was Normalizing Trade with China a Mistake?” You say, "Hey, it's about 20 years since this started, it's time to go back and do a proper accounting of all the issues, all the studies. Why don't you start us out by summarizing. What is the standard narrative for the China shock and what are you trying to assess about it?

Assessing the 'China Shock' Narrative

Lincicome: Right. I think there's really a broader narrative and a narrower narrative. The narrow narrative is about the China shock itself. Some economists, David Autor, Dorn and Hanson wrote a very important paper around 2015, looking at the period from 1999 to 2011 in the United States, and trying to figure out the impact that Chinese imports had on manufacturing jobs in the United States. And they crunched the numbers and came up with a top line number that Chinese imports, for whatever reason, destroyed about 2.4 million American jobs including a little over a million manufacturing jobs. Now, that's the narrow China shock narrative. There's been subsequent research using their models to show that these imports also by extension had pretty harmful effects on marriage, on drug abuse, on Midwestern industrial communities and the rest. The China shock narrative in the narrow sense is that.

Lincicome: Chinese imports destroyed a lot of American jobs, a lot of American lives. But the broader narrative, and really what drove me to write this paper is that the China shock papers have been combined with a broader narrative. And that is that the United States in the 1990s pursued a naive policy of engagement with China and that culminated in the passage of a law called permanent normal trade relations, which rubber stamped China's entry into the WTO. And it's that entry that then flipped the switch and caused the China shock, leading to 2.4 million American jobs lost and the rise of China as this repressive, powerful authoritarian regime. And that narrative is used by a lot of pundits and politicians and wonks to essentially say, "Well, that was a huge mistake. All of those choices, all of that engagement was a huge mistake. Policymakers, that naiveté and their blind disregard for the American working man, that was a huge mistake and it needs to be rectified by some new policy."

Lincicome: And some of these are pretty radical. For example, Josh Hawley has used this narrative to argue for withdrawing from the World Trade Organization. Others have used it for grand industrial policy plans and so forth and so on. So, that struck me as wrong on a lot of levels. And so I wrote the paper to try to correct for the flaws in that narrative. Really, it comes down to I think a lot of unanswered questions. I think the narrative isn't totally wrong, it's just very simplistic. It's simplistic because it doesn't ask a couple of really big counterfactual questions. Well, but first, it doesn't really ask about the China shock itself. I'll go through that, and I think that's a great way to summarize what's in the paper.

Beckworth: Before we do that, let me just follow up with a question that struck me as I was reading your paper, a broad question. What's interesting to me about the China shock and it's widespread acceptance, its popular growth among the pundits is, it's not just on the left, it's on the right. You mentioned Senator Josh Hawley, but there's a number of other people Oren Cass. There's a number of people. In fact, growing up, I really loved Ronald Reagan's embrace of free trade. I encourage our listeners to Google Ronald Reagan and free trade. He has some speeches are just amazing. He quotes Adam Smith, he quotes free trade. He says, "Protectionism never has worked. It leads to slower growth." And to go from that to you see the GOP Twitter account tweeting anti-trade, anti-immigration tweets is really surprising and honestly shocking. I might understand the left moving in that direction, but the right... I don't know, has that struck you as bizarro?

Lincicome: Yeah. And I think, again, that's part of what drove me to write this paper, that I was seeing people who I thought knew better about these issues. Again, using them, whether they were being forthright or disingenuous, I don't know. But using it as a lever to propose protectionism or all sorts of things that you thought the Republican Party stood against, including subsidies, industrial policy and the rest. And really, again accusing previous generations of free market advocates as being these foolish, naive corporatists to had a hand in destroying the American economy.

Beckworth: This is like a free trade version of the cancel culture for canceling Ronald Reagan because of his free trade views.

Lincicome: Exactly. And really, by just throwing out China shock as if that were sufficient to do the canceling, right?

Beckworth: Yeah.

Lincicome: That there was this one moment that ruined it all. And that again is why, even though China has done a lot of bad stuff and continues to do it right now, and even though there is some truth to trade and jobs and Chinese imports and the rest, it's a really simplistic narrative, like I said, and misleading, I think, about what really happened during the period and what we can take from it, to the extent that people today are using that narrative to push new policy that I, for the most part, don't agree with in terms of what I think is good economic and trade policy. I think it's important to really have a proper accounting of what really happened. That's what the papers do. 

Beckworth: All right, Scott, we've been doing the preliminaries, let's jump into the issues, why the China shock is too simplistic, why it's too naive a reading of what actually happened. Let's begin, as you do in your paper, with a discussion of the costs and benefits, and you have a section titled ‘Amplified Cost and Ignored Benefit.’ Walk us through that.

Cost-Benefit Analysis of Trade with China

Lincicome: Like I said, there are a bunch of unasked and unanswered questions in the China shock narrative that I described. The first one is, well, what else happened during this period? So if we are obsessed with 1999 to 2011, give or take, if we are convinced the Chinese imports were a problem, what else happened besides those job losses? Let's just assume they happened. Forget the methodological issues. What else happened? Fortunately, we have a lot of studies since the original China shock literature has come out. I'm looking at what else happened in the US economy due to Chinese imports. First and most obviously, we saw really impressive consumer gains. One study, for example, found that Chinese imports during the China shock period benefited each American by $250 per year for the rest of their lives. You're talking about thousands of thousands of dollars of consumer benefits over an individual's life.

One study, for example, found that Chinese imports during the China shock period benefited each American by $250 per year for the rest of their lives. You're talking about thousands of thousands of dollars of consumer benefits over an individual's life.

Lincicome: Now, look, that's cold comfort to someone who lost a job because of a Chinese manufacturer or Chinese imports or whatever, but it still is really important to note this, that this wasn't just simply one side of the ledger all lost. Look, there are these consumer benefits, but it's really important again, looking at the literature, to consider other gains. And it wasn't simply about cheap T-shirts and electronics. Other studies during the period showed that there were really substantial gains for American companies, including a lot of American manufacturers, for example, who used imported Chinese goods to make globally competitive products themselves. We talked earlier about how tariffs on manufacturing inputs hurt American manufacturers and workers.

Lincicome: Well, the flip side of that is that freer trade and less expensive inputs help these manufacturers. And that's again, what the data show. Importantly as well, there were export gains. Studies have shown that there were actual substantial job gains in manufacturing sectors that experienced that major increases in exports to China. That's of course not discussed either, that part of the equation. Then others have done what's a general equilibrium analysis. Instead of looking at these narrow partial systems, they looked at the economy as a whole, and they said look... By the end of the China shock period, they actually found economy-wide gains in terms of welfare, for all regions in the United States and for all sectors, including the manufacturing sector. They said, "Look, yes, there were these narrow pockets of discrete losses, but overall, the US economy as a whole benefit.”

By the end of the China shock period, they actually found economy-wide gains in terms of welfare, for all regions in the United States and for all sectors, including the manufacturing sector.

Lincicome: And then finally, there are studies that have looked at the types of jobs that were actually created because of the China shock. I mentioned jobs in manufacturing in the export side, but there were actually manufacturing jobs that were not on the export side. And these were at manufacturing firms that while decreasing production workers, assembly line workers, increased services workers at the same manufacturing companies and there's literature showing that these are a lot of jobs that were created by American manufacturing companies that shifted their domestic operations, so their US operations, more to services, say engineering and design and the rest. I mean, these are good jobs and so that's also really important part of the China shock equation that's never mentioned.

Beckworth: So there's both benefits, there's costs. You mentioned some of these studies and one that's really resonated with me was the Robert Feenstra work in, I believe 2017. Correct me if I'm wrong, but he found it was almost a wash. There really weren't that many losses overall if you actually add up both sides of the ledger, is that right?

Lincicome: Right, right. Feenstra has done a few of these and they're great. Essentially, he says, "Look, when you add in exports, it's almost a wash in terms of jobs." And this, again, gets back to the idea that when you hear a guy like Josh Hawley say 2.4 million jobs lost, he's only considering the negative side of the ledger and not considering all of these positives.

Beckworth: There were definitely gains, there were losses and that's an important point and encourage the readers to delve into all the studies. There's many more studies in Scott's papers, so take a look at it. But I want to move on to another point that comes out in your paper. And that is, during this time, there's effectively a structural change going on. You alluded to this, jobs are changing. We're going from blue collar jobs to white collar jobs, high paying jobs. And certainly there are people left behind, but for future generations, this is a positive gain.

Beckworth: You mentioned in your paper, Nick Bloom, he's been on my podcast a few times and I know he's an avid listener, so he's probably listening right now, Scott. But he noted how there's better and better jobs are coming out of this whole process and so there's a structural change going on. What this reminded me of is the fact that the US is always undergoing structural change. I think back to the late 1800s, there's a big transformation from agricultural to industrial types of economic activity in the US and there was lots of change, there was unrest, farmers were upset, but it happened.

Beckworth: The China shock in my mind is… in fact, you mention in the paper, China comes onto the scene when this process is happening. In fact, I had another guest I'll briefly mention, Jeffrey Freidman, on the show. He's at Harvard and he has a great study on populism and geography. He notes that much of the angst comes from communities that have lost manufacturing jobs, so those losses go back to the 1970s. So China just happens to come in the wrong time, the wrong place, and yes, it contributed, but it was an existing structural change. This was going to happen in any event. The best argument you can make is maybe China hastened it. I don't know. What are your thoughts?

Structural Changes and Late-Stage Industries 

Lincicome: No, that's exactly right. And I think that gets to really the second question that nobody asks, and this is probably the most important question of all. And it's, "What would have happened to the United States, to the US workforce in the absence of the China shock?" Let's assume for a moment that Congress really did flip a switch and all of a sudden in 1999 these Chinese imports appeared. Let's say they never flipped the switch. What would have happened? Well, you actually see in the data a couple of really important points. The first one is that manufacturing jobs as a share of total employment have been steadily moving down since the 1940s and in total numbers since the late '70s. And if you actually graph, you actually show those trend lines and then include the China shock, there's really just a blip in terms of the change.

Lincicome: Like you said, maybe you could argue that they accelerated these job losses a bit, but there was no massive shift in what was going on in terms of manufacturing jobs. But I think it's more complicated even than that. Let's leave aside the fact that there were non-trade factors contributing to job losses, productivity gains, technology, the rest. But beyond that, there was a structural shift going on in the nature of the industries that were hit by the China shock. One of my favorite studies in the paper shows that, look, the industries that were hit, textiles and furniture in particular, were actually what we call late stage industries in the United States, meaning that they had moved over the years from the Northeast and these high human capital areas, and they had moved down to the South and the Sunbelt area to what they were calling low human capital areas.

Lincicome: What made the China shock so shocking was in the sense that it simply was what finally pushed those industries off shore. They were already moving that direction. There was really no other place for them to go at that point. And so essentially, the China shock finished the job that was already going on. What was most painful about the China shock was that these low human capital areas hadn't upgraded, at least not yet, in terms of education and skill and so these workers were left in a tough spot. But that really, again, had very little to do in the broad sense with Chinese imports. It had to do with these very long-term structural changes in the industries.

What was most painful about the China shock was that these low human capital areas hadn't upgraded, at least not yet, in terms of education and skill and so these workers were left in a tough spot. But that really, again, had very little to do in the broad sense with Chinese imports. It had to do with these very long-term structural changes in the industries.

Lincicome: Finally, there's a lot of data on the role of non-China imports in the US economy. One of my favorite charts in the paper shows the share of imports of manufactured goods from the Pacific Rim, one in 1990 and the other in 2017. And what you see is the share of these imports actually is remarkably constant over that 27 year period. The only difference is that China's share goes from only 3.6% in 1992, almost 27 percentage points of the total. That shift really indicates, and this was according to some researchers at the Fed, that Chinese imports weren't really replacing US manufacturers as much as they were replacing other imports. Which, again, gets us to that important counterfactual, what would have happened in the absence of the China shock, right?

Beckworth: Yeah.

Lincicome: So we know actually from experience, because not only did I... I got a hold of some people in the Clinton and Bush administrations and asked them about what they were seeing, and they said, "Look, we were looking at the data at the time. And Chinese imports were doing just that, they were replacing non China imports. There wasn't a lot of change we could see in displacing American manufacturing." But even better is that president Obama gave us a wonderful experiment in 2009 when he imposed these really high tariffs on Chinese tires as part of this special safeguard mechanism. What we saw is that this didn't result in a magical renaissance for American tire manufacturing or entire jobs, all it did was shift the source of imports to other non-China imports.

Lincicome: So we saw imports from Thailand and Brazil and elsewhere increase and over a little bit of the longer term, those jobs disappeared again anyway. That really belies the idea that Chinese imports were somehow unique, that they might've been... And they probably were more price competitive, and they probably accelerated these trends a little bit, but it was not this flipping of a switch in this massive shock that occurred to American workers.

Beckworth: That was another great insight I got from your paper is that 2000 and 2001 wasn't some big inflection point in our trade relations with China. As you saw, the tariff rates have been going down already, the US Congress had been giving most favored trading nation status to China since the '80s, I believe, as you mentioned in the paper.

Lincicome: Right.

Beckworth: So this is part of an ongoing story. That's probably the next point in your paper is, this wasn't a naive or shocking development when they did pass it. I mean, we look back now and say, "What were they thinking?" But this was just part of an existing trend that we've alluded to already. Maybe speak to that some more.

Domestic Reforms Explaining China's Rise

Lincicome: Sure. And again, it's a good segue to the next question. And that is, did PNTR really open up the United States to China and cause the China shock? As you've already mentioned, US tariff rates were already low for China. The United States had been granting annual normal trade rates to China for decades at this point. And by the time PNTR rolled around, some economists calculated that the chances of denying PNTR was only about 1.5%. The US economy was relatively open to Chinese imports already. And yes, there is an argument, and I think it's valid, that the permanency of PNTR did help create some longer term uncertainty in the market and allow for Chinese imports to accelerate a bit. But it's far from the idea that again, there was this switch flipped.

Lincicome: But the other really important point is that PNTR was only one of many factors, and certainly not the main factor, that fueled China's export competitiveness over this period. It turns out that the reason China became such an export powerhouse was because it was reforming domestically including by lowering its own import tariffs. But also things like property rights and other domestic policies that really allowed the Chinese economy, that had been pretty dormant due to decades of communist rule, that it allowed it to become an export powerhouse. There's a lot of studies that show that the real driver of China's rise and China's export competitiveness wasn't some decision made by Congress. We Americans, we always like to think we're in the center of everything. We caused it.

It turns out that the reason China became such an export powerhouse was because it was reforming domestically including by lowering its own import tariffs. But also things like property rights and other domestic policies.

Lincicome: Well, no, it turns out that the vast majority of the factors causing China's rise were China-specific, what China did as part of its accession to WTO and just unilaterally as part of its escape from the command and control economy of the '70s. And just as importantly, we see that, look, the United States didn't simply rubber stamp China's WTO entry. This was a process. It took about 15 years. United States was the last holdout allowing China to enter the WTO. And by the time that final vote occurred, China's WTO accession was really a fait accompli.

Lincicome: This was a country that had over a billion people, it was, as mentioned, reforming economically. The WTO is an open trade organization that has countries like Cuba in it. It's not some sort of democracy club. And at the same time, every other WTO member had already agreed to let China in. So the United States didn't have really that much leverage at that point in 1999 to 2000. So, it's disingenuous or misguided to think or to claim that the United States could have blocked China's rise or blocked China's entry into the WTO. The best that we could have hoped for was denying PNTR.

It's disingenuous or misguided to think or to claim that the United States could have blocked China's rise or blocked China's entry into the WTO.

Lincicome: But when you look at that decision, and I think this is a really important point, that was not some sort of naive decision based on some hope, as some claim now, by American policymakers that China was going to become the next Japan, that China was going to democratize, they're going to have this wonderful liberal democracy, everything was going to be wonderful and we'd be singing kumbaya at the WTO. The reality is that the decision was far more pragmatic, that if the United States had denied PNTR, essentially, US exporters, including a lot of farmers who were very politically powerful, would have been on the outside looking in at China's market because the United States would not have been able to enjoy the benefits of China's WTO accession, meaning greater market access, predictability, dispute settlement and the rest. Meanwhile, the EU and Brazil and India and Japan and Australia and the rest would have enjoyed those benefits.

Lincicome: So, from a really basic commercial perspective, it was either join in and get those benefits or sit on the outside and not. And sitting on the outside also would not have blocked Chinese imports, as we mentioned. We had been granting NTR every year, even if we didn't, there were ways that of course global supply chains could have allowed Chinese content to enter the United States just simply through Vietnam or Thailand or the rest. So there really wasn't this easy way to block those imports anyway, even if we had denied the annual NTR. But then there also were foreign policy considerations. The United States had bigger fish to fry back then, whether it was North Korea or Iran or other rogue nations and viewed denying PNTR as a really major diplomatic problem that was going to thwart those other efforts. And so, again, it was far more a pragmatic and realistic decision and really the best and only decision to grant PNTR at the time.

Lincicome: Now, certainly, since that time, there has been backsliding in terms of human rights, in terms of foreign policy by China, in terms of mercantilism and the rest. Especially on the trade side, I don't think it's as bad as some claim. There's actually evidence that China is in a lot of ways reforming, whether it's on intellectual property protections or the rest, but there certainly has been backsliding and certainly outside of trade, a lot of troublesome behavior. The real problem here isn't PNTR or the WTO, the problem is that the United States and other countries haven't really policed China's actions as they could have, whether it's through really aggressive dispute settlement at the WTO, which has actually proven pretty effective in terms of curbing Chinese behavior. Nobody's perfect, but the Chinese tend to comply with bad WTO decisions, or whether it's having regional trade agreements, like the Trans-Pacific Partnership, which of course the United States abandoned, or, and I think this is really important, simply doing our own domestic economic reforms.

Lincicome: We had one of the least competitive corporate tax rates in the world until just a couple of years ago. Even now, it's not that great. We have a bunch of outdated labor policies in terms of worker adjustment and retraining and the rest. Our immigration policy is really idiotic in terms of if you're thinking about emerging technologies and in terms of policing China's rise... There's a great paper a couple of weeks ago that came out that showed that US restrictions on high skilled immigration actually benefited other nations, so harmed the US technology sector, but also benefited Canada and China. There are things that we could have been doing that we just didn't do. I think those policies actually deserve a lot of attention and a lot of blame, but instead, policy makers and pundits simply want to point at PNTR and blame that.

Beckworth: Well, since we're doing counterfactuals, let me pose another one to you. What if we had followed through with the Trans-Pacific Partnership, TPP? The argument I've heard is if we had done that, first, China wasn't a part of that, so it would have been all these Pacific Rim countries, this new, great trading region and they would have felt left out and it would have nudged them. They would have to join and they would have agreed to some kind of norms, just like the WTO nudged them in some areas. The TPP would take them through the finish line. Do you see that actually have occurred if we had followed through with it?

Lincicome: I think it's possible in the long-term. I certainly don't think that if president Trump had in 2017, instead of just abandoned the... Let's say president Trump made some tweaks to things like rules of origin or whatever, announced that the TPP was fixed and it somehow got through Congress in 2017, I don't think that today China would be a TPP member. I think that's pretty naive. The disciplines that were in the TPP were pretty onerous in terms of state-owned enterprises and industrial subsidies, and a few of the things that were really targeting China's economic model. It just was not something that the Chinese were going to say, "We missed out on the TPP, we're going to join and we're going to give up our state-owned enterprises."

Lincicome: In the longer term, however, I think that was a more realistic possibility, either by admitting China to the TPP or what I think more likely is multilateralizing the TPP disciplines at the WTO. ‘Multilateralize’ is one of those fake words that trade people like to use. But essentially, the idea is you take disciplines that are found in a regional trade agreement, and because you've created a lot of folks that have already signed on to those disciplines at the regional level, they then become supportive of bringing those into the WTO.

Lincicome: You then have a group, whether it's everybody or a group of willing nations, what we call collateral agreement, that slowly but surely makes those rules, not simply TPP rules, but WTO rules. And I think that was a possibility, and maybe it still will be, eventually, because most nations agreed with them other than China and so there was potential there. Also, potential in digital trade, that's another area that we need to work at the WTO on. Actually, China needs some help on as well. That was the possibility. But I don't agree that China would be a TPP member today had Trump not pitched it.

Beckworth: Let's go back to the loss. As we talked earlier about this ledger, and there were losses, there were gains, and I agree as a good economist you've got to look at both sides, but unfortunately, what makes the headlines is the losses, right?

Lincicome: Right.

Beckworth: In the real world, politicians have to be mindful of this. They got to get reelected. They can't say, "Hey, John lost his job over here, but Joe got a new one," you know?

Lincicome: Right.

Beckworth: They got to worry about the guy who lost their job. There were communities, let me put it this way, where they were stricken harder than others. I mentioned Jeffrey Freidman's research and he showed the communities that had a high share of manufacturing employment in 1970s tended to vote more for Trump in 2016. They also had the biggest losses. The question is, well, why didn't they rebound? Because you mentioned in your paper, some communities actually did rebound. They adapted quickly, they didn't have the problem, but some communities they simply couldn't adjust to change. I mean, one of the defining characteristics of a capitalistic system as you change is painful, but then you move on, but it seems some of these communities got left behind. What do you tell those communities? What's the real reason there, if it's not China... If your counterfactual is true that this change would have occurred no matter what, what should have been done differently there?

Adjustment Problems and Labor Market Rigidity

Lincicome: First, it's I'm glad you brought this up, but I think another big misreading of the China shock literature is that it's about trade. If you actually read the papers, which I hope some people have, although I don't think a lot of people have, you see that the authors really are very upfront about they think the issue is adjustment, that the United States had an adjustment problem, not a trade problem. And like I do note it and as I noted in the paper, most American communities have adjusted. So the question is, why haven't these others? This, to me, is a pretty clear indication that this is a state and local policy issue and not a national trade policy issue.

Lincicome: And I think a lot of it has to do with the nature of the industries, the nature of the communities. The United States had mill towns, and these mill towns were based on a single mill, a single industry. And that model, of course, it creates pretty significant problems if there is a shock of any kind, whether it's a technology shock, a trade shock or whatever, because at that point then, if your sole source of growth disappears, then there's nothing really to sustain it. So I think that's one of the issues. But the other is, I think there was an acceptance in a lot of places that they needed to change and that simply, textiles, furniture, whatever was simply not the future. A great example of this is Greenville-Spartanburg down in South Carolina.

Lincicome: This is one of my favorite places in the country. This was a big textile town and they were hit very hard by the globalization period of the '90s and early 2000s. But at the same time, they were very open and welcoming to foreign investment and they also had, in some ways, a unique local community that had some German, which is another whole story. But that attracted BMW, it attracted Michelin, it attracted a bunch of global manufacturers. And today, they are this really cool, diverse town that has moved on from textiles and has moved into other types of manufacturing, in particular BMW and motor vehicles.

Lincicome: Other places aren't even doing manufacturing anymore. You'll get a place like Hickory, North Carolina here in my home state, Hickory was a big furniture town. In the 2000 during the China shock period when a lot of furniture manufacturing was off shore, these were, again, these late stage industries on their way out of the country anyway. The companies in Hickory didn't just fold up, what they did was they changed their business model and they moved into services and into design. And so Hickory today has a lot of furniture companies that have a lot of jobs in design and marketing and the rest. There was a great article in Bloomberg about that area now. And in fact, they still have furniture manufacturing there for certain things that you really can't outsource, like large, upholstered furniture that doesn't ship well. And they can't find manufacturing workers, they couldn't a year ago, because nobody wanted to work in manufacturing there, everybody wanted to work in services.

Lincicome: There are communities that have made, I think, a proactive decision to allow and to foster that adjustment and they've done so. Some of that I think also has to do with state policies, whether it's right-to-work laws or other issues that really have nothing to do with trade, manufacturing, and foreign investment and the rest, and I think those things have hindered other places, particularly in the Rust Belt places like Michigan.

There are communities that have made, I think, a proactive decision to allow and to foster that adjustment and they've done so. Some of that I think also has to do with state policies, whether it's right-to-work laws or other issues...and I think those things have hindered other places, particularly in the Rust Belt places like Michigan.

Beckworth: Those are great points. Let me add to them another possibility, because I've had several guests on the show, we've talked about this issue, and that is the decline in labor mobility in the US David Autor himself says, "Look, don't read trade into this so much. You need to read why didn't the communities adjust," as you said. One of the things I think he gets at is, in the past, if your town was hit hard, you'd move to another area of the country that did have a boom in economy. So if you're in Michigan, why don't you move to Texas, for example? And what we've seen over the past two decades is decline in interstate mobility.

Beckworth: Some of the stories you hear, I just want to get your take on them, is one, housing supply. Like in some cities, there's really strict zoning. A lot of talk about nimbyism, not in my backyard, San Francisco being probably the best example of this, but also things like occupational licensing, non-compete clauses, all these things that make it difficult to pack up and move from where you are to another state. These are state and local issues, as you mentioned, but if these things aren't addressed, they make the labor market rigid, not flexible. And for capitalism to thrive, you got to have flexible labor markets. What are your thoughts on that?

Lincicome: No, I totally agree. In fact, I allude to it in the China paper, and this is actually going to be an area of my future research. I agree a hundred percent, there are a lot of things that we did during these shocking periods of the '90s and 2000, during these periods of great technological and trade disruption. At the exact same time, we were doing a lot of things to discourage labor mobility, labor dynamism, economic dynamism, so entrepreneurialism and the rest. And I think you hit on several. The only others I would add are the drug war and criminal justice issues as well. We did a lot of things that made it really difficult for people who had a drug conviction to get a job, and that makes it quite difficult. Another area that I've noticed is the war on terror. You got a lot of folks go overseas and then come back and find themselves hooked on opioids or the rest. And again, losing this ability to move and better themselves. And obviously, I think occupational licensing, housing issues definitely play a role as well.

Lincicome: But I will say one thing that is a bit depressing is I also think demographics are an issue here. We're older and there's a paper maybe a year or two ago that looked at the declining economic dynamism in the United States and tied it in significant part to simply the age of the average US worker. Some of that is unfortunate, you just had an older workforce that was unwilling to move. But another area just off the top of my head is housing. Not on the housing cost side, but on people had houses that they suddenly couldn't sell during these periods, that also plays a potential role.

Beckworth: On the demographic front, we needed to have more babies then, huh, Scott?

Lincicome: Yes. Babies and immigrants, both.

Beckworth: Babies and immigrants, that's right. A true American economic patriot needs to have their fair share of children. I've done my part, I think you've done your part as well on that front. Well, any parting thoughts before we go? Our time is running out here. Any words of wisdom before we end the show?

Lincicome: No. I think we've covered everything. I would just note that the only other thing that I think is worth emphasizing is that it's really disingenuous to claim that American policy makers during this period didn't try to stop these seismic trends, or didn't try to intervene in the economy to help manufacturing workers and manufacturers. And I note this in the paper, but in fact, there were tons of special tariffs and subsidies and the rest that sought to try to stall or stop these really seismic changes in the American workforce, in the American economy. The truth is that this wasn't a problem of inaction, it just was a problem of failure. They just didn't work very well.

In fact, there were tons of special tariffs and subsidies and the rest that sought to try to stall or stop these really seismic changes in the American workforce, in the American economy. The truth is that this wasn't a problem of inaction, it just was a problem of failure.

Lincicome: And that's, again, really important because as people are proposing similar policies today on the theory that our policymakers didn't do these things, they didn't impose tariffs, they didn't subsidize workers or whatever, and we now have to do it, it's critically important to note that that's just not really the case. That the China shock occurred, these changes occur despite government intervention, so it's not a reason to then try them again.

Beckworth: And that is a good reason to go out and read Scott's paper. We will have it up on the show note page, and I'm sure Scott would love to take questions from you if you have any on this issue. Well, with that, our time is up. Our guest today has been Scott Lincicome. Scott, thank you so much for being a part of the show.

Lincicome: My pleasure. Thanks for having me.

Photo by Mark Ralston via Getty Images

About Macro Musings

Hosted by Senior Research Fellow David Beckworth, the Macro Musings podcast pulls back the curtain on the important macroeconomic issues of the past, present, and future.