Trade and inequality, revisited — Rooftops edition

by on April 25, 2008 at 10:54 pm in Economics | Permalink

Another way of investigating the relationship between inequality and
trade with poor countries implies that China may actually help the
poor, suggests new work from University of Chicago economists Christian Broda and John Romalis.

Instead of focusing purely on what’s produced outside of the
country, Broda and Romalis turn their attention to an interesting but
obvious relationship between imports and consumption within our border:
The goods exported by poorer countries are typically consumed by
lower-income Americans. Our typical methods of quantifying inequality,
however, don’t take this into account.

At the same time, inflation in the price of these goods has fallen
behind inflation in services, which make up a greater portion of what
wealthier people buy. Taken together, these trends imply that official
measures may be overstating the rise in inequality.

Looking at trade data between 1994 and 2005, Broda and Romalis
construct inflation rates for different income groups and find that
rates for the richest outpaced rates for the poorest by about 4 percent
over the period. Since income inequality between the top and bottom 10
percent of earners grew by about 6 percent, the different inflation
rates among income groups wipes out about two-thirds of the rise in
inequality
.

The emphasis in that last sentence is mine.  It continues:

China’s role in this new way of analyzing inequality is large, accounting for about 50 percent of the total reduction.

And scream this part from the rooftops too [how do you scream a parenthesis?]:

(A very interesting aside. Broda and Romalis also find that the poor
are more likely than the rich to buy newer goods. Because of the lag in
how quickly the CPI tracks new products, the researchers argue that
once this "new goods bias"
which serves to keep official inflation rates higher than they actually
are since newer goods are typically cheaper, is factored out,
inequality between the rich and the poor between 1994 and 2005 may not
have changed at all.)

Here is the link.  Again, here is the Broda and Romalis paper.  If this holds up it is big, big news and we must revise many claims that have been made about inequality, trade, and China.

jsalvati April 25, 2008 at 11:21 pm

Isn’t this very related to the idea that consumption inequality is a lot lower than income inequality?

ideogenetic April 26, 2008 at 12:35 am

Is the Chinese government’s dollar peg (an American middle-class/poor subsidy) taken for granted in the study? Would a real free-trade regime with a floating dollar not backed by petrodollar hegemony or mercantilism produce similar results?

Steve Sailer April 26, 2008 at 12:53 am

The problem with being poor in 21st Century America is not that you can’t buy enough stuff, it’s that you have to hang around with other poor people.

Jacob Oost April 26, 2008 at 4:50 am

Differing inflation rates for differing income groups, what? How does that work? Are they calling any rise in price level inflation, or are they counting money supply growth outpacing production growth as inflation?

Jacob Oost April 26, 2008 at 8:45 am

Yeah, but inflation is a monetary phenomenon.

spencer April 26, 2008 at 9:57 am

Goods account for a larger share of poor peoples purchases and consumption,
but this does not necessarily mean that the poor are more likely to but new goods than the rich.

If a family with $30,000 income spends 50% of their income on nondurable goods or $15,000 while a family with a $100,000 income spends 15% or $15,000 on nondurable goods it does not follow that the poor are more likely to buy new nondurable goods even though they spend more of their income on nondurable goods.

JSK April 26, 2008 at 12:26 pm

@Jacob: What a way to misinterprete Friedman. Monetary policy has ‘long and variable lags’, in other words one percent of extra money will not raise the price of every good with one percent. A lot of U.S. money has been sucked up by the housing market, and I would say that the poor spend a smaller proportion of their income on housing then the rich. Therefore general inflation – even with it being ‘a monetary phenomenon’ – can have widely differing impacts on different groups.

Lord April 26, 2008 at 1:15 pm

For the poorest I had no doubt this is the case. They don’t work in import competing industries so their wages are not affected by trade. Those who work in import competing industries are generally better paid whether skilled or unskilled and suffer much more being pushed down into the working poor resulting in a diminishment of the middle class. If you like the third world, you will love the future.

Max April 26, 2008 at 9:16 pm

Yeah, I can see that. The rich guy who buys a classsic, but old Rolls Royce for his collection is just the offset for the poor guy struggling to make the payments on a Plymouth Neon.

David R. Henderson April 27, 2008 at 9:52 am

Tyler,

The article you quote (in Portfolio) on the Broda/Romalis results states one of their key conclusions incorrectly. The Portfolio article states, “Broda and Romalis construct inflation rates for different income groups and find that rates for the richest outpaced rates for the poorest by about 4 percent over the period.” If that’s all they found, the result would be ho-hum. What makes it “shout from the rooftops” is that the rates for the highest-income (not richest) outpaced rates for the lowest-income (not poorest) by 4 percentage points, not 4 percent.

Best,

David

Miles April 27, 2008 at 11:22 am

So the poor gain from trade in terms of expenditure.

To say if trade is beneficial overall, don’t we need to know how trade affects incomes too? – for example by combining this study with work that might be available on one of the following phenomena:

- What role did trade play in the observed widening inequality?
- Are the real wages of the poor adversely affected by trade?
- Can movements of people into or out of the lower income sections of society be attributed to trade?

mik April 29, 2008 at 5:03 pm

Certainly there have been textile or steel workers who’ve gone from 20 an hour to 10 an hour at Wal-mart. However, manufacturing jobs peaked in the 1950s and declined since mainly due to greater automation.

If automation is the biggest factor we should have lots of new/renovated factories that employ few workers but have high output.
A casual drive thru Michigan or Ohio will disabuse any non-economist from that idea.

Factories moved to China because workers are cheap, not because their productivity is higher. Most often it is lower.

However in China manufactiring employment very well may be declining because of increase in productivity.

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