Output Shocks In China: Do The Distributional Effects Depend On The Regional Source?

The tension between growth and inequality in the process of economic development has been recognised in the research literature as well as in policy-making circles for many decades. In few countries in the modern world is this problem more acute than in China where inter-provincial disparities are large by world standards and where remarkable economic growth in the past three decades has tended sooner to widen than to narrow them. Not surprisingly, the source of such inter-provincial disparities in China has been the subject of considerable research. Yet we have relatively little empirical knowledge of the effects on the provincial distribution of output of shocks to macroeconomic variables such as GDP. This is an important gap in the empirical literature: macroeconomic shocks are likely to have a differential impact on the provincial economies and so affect the provincial output distribution. Policy-makers need to know the sign, size and timing of such effects before making policy decisions designed to influence output at the national or regional level. In this paper we focus on the regional source of national shocks and ask whether the effect at the provincial level depends on the regional source of the shock. We use two alternative methods for this. The first is one recently employed by Chen and Groenewold (2015) to analyse the provincial effects of shocks to national output and investment using a restricted VAR model due to Lastrapes (2005). The method extends their work by disaggregating national GDP into three regional outputs – for the coastal, central and western regions of China. Our second method uses a sequence of VAR models, each with three regional outputs and one provincial output. We find that the two methods give remarkably similar results – both provide strong evidence that a shock to a particular region’s output has its main effects on the provinces in that region, although this is more marked in the short run than in the long run and differs somewhat across regions. In particular, a shock to national output which originates in the coastal region has an affect mainly on the coastal provinces in both the short and long runs. Such a shock is therefore likely to exacerbate existing inter-provincial disparities. However, there is more diffusion of the effects of a central shock, particularly in the long run which may help alleviate disparities. A shock to the western region also generates spillover effects in the long run although these are to the coastal provinces and will therefore likely widen existing disparities.