Impact of China's Integration on Selected OECD Economies

The trade reforms that China has embraced as a result of its WTO accession are a continuation of a long standing trend that saw sustained reduction in non-tariff barriers and in levels and dispersion of tariffs. However, in the area of services, China’s commitments represent milestones. Plans include the opening of key services sectors to foreign participation, elimination of geographical limitations, forms of establishment, and scope of business activities among others. What are the implications of these reforms for China and OECD countries? The paper provides some estimates on the basis of a multi-country, multi-sector computable general equilibrium model of the world economy that features increasing returns to scale and large-group monopolistic competition. Importantly, the model includes a treatment of foreign direct investment on a bilateral basis which, given the importance of foreign presence in the Chinese economy, is essential for understanding the impacts of its liberalisation. Our results show that China itself clearly stands to gain substantially from its liberalisation. Implementation of the WTO commitments by China in goods and services sectors is estimated to increase its real income by almost 2%, while a scenario with full liberalisation is expected to yield a 3% increase in its real income. A major part of these gains comes from the improved efficiency with which China uses its resources. We find a limited impact on OECD economies as a result of China’s implementation of WTO commitments and complete liberalisation in the area of tariffs and services barriers. The structure of bilateral trade flows between China and individual OECD economies reflect divergent patterns of comparative advantages as well as differences in structure of trade barriers and geographical location. The most direct impact is expected through improved export performance of OECD countries that are already trading with or investing intensively in China but still face significant market access barriers. The observed trade patterns suggest that the impact through the market access channel is likely to be more important for Korea, Japan, Australia, and New Zealand, while the impact on other OECD economies is likely to be limited. The second channel through which China’s liberalisation may affect OECD economies is increased competitiveness of Chinese exporters who would experience declining costs of intermediate products and services as a result of liberalisation. The non-negligible market shares of China in OECD countries’ imports suggest that increased import competition is indeed an important outcome of China’s liberalisation. However, these competitiveness effects felt in both domestic OECD markets and third country markets are almost always outweighed by the market access effects (through better access to China’s market), resulting in the majority of cases in overall net gains for the OECD countries. Finally, FDI-related effects are important as they dominate the modest welfare gains of most OECD countries in the services liberalisation scenarios. While China experiences losses from its outward FDI, most OECD countries benefit from increased incomes from their investments in China. The scenarios in which China is assumed to fully remove its import duties and services barriers result in expansion of global gains by an additional one percentage point as compared to the WTO accession scenario. This suggests that China’s WTO commitments in the area of both goods tariffs and services barriers are already quite ambitious and deliver the bulk of the gains that can be had from such reforms. Still, most OECD countries enjoy additional gains in both absolute and per capita terms from the fuller liberalisation scenario. It is important to note that our results are conditional on production, consumption, trade and investment data reflecting the time of China’s WTO accession and may hence be only approximate given the pace of structural changes within the Chinese economy as well as the relationships between China and its OECD commercial partners. Our results are also broadly in line with the existing literature and, more fundamentally, with the underlying trade data. On a per capita basis the biggest gainers from implementation of WTO commitments by China are Korea, Japan, EU15, Canada and US. All the gaining OECD countries benefit from allocative efficiency, substantial favourable terms of trade effects and increased income from services FDI to China. It should be noted however that our analysis has not accounted for the dynamic effects of China’s openness and is therefore likely to provide lower bound estimates.