Association for Public Policy Analysis & Management

There is no doubt that trade liberalization is the key driver for China’s economic miracle. However, the income inequality in various forms has also surged during the reform era. As most scholars focused on analyzing urban-rural income gap, regional income disparity and national income inequality, there are relatively lack of systematic studies on the impact of international trade on intra-provincial income inequality, so this paper aims to make a contribution to the literature by filling in this gap. In addition, as most citizens usually have a more direct feeling of the intra-provincial income inequality compared to the national or regional income inequality because of proximity, focusing on the intra-provincial income inequality will be more consistent with the contemporary economic and social circumstances in China. Given the skill-biased feature of trade and rapidly increasing proportion of service of China’s trade in recent years, I propose two hypotheses. First, trade in goods will increase the absolute income of all the three social groups (highly-skilled, middle-skilled and less-skilled workers), but it will widen the income inequality among these three groups. Second, trade in service will also increase the absolute income of these three groups, however, it will have a larger disequalizing effect than trade in goods.

To test these two hypotheses, I will use the fixed-effect panel regression model covering all the 31 provinces from 1993 to 2014 based on data availability. The income quantile will be used as the dependent variable to evaluate the change of income distribution across the three income groups. The two main theoretical variables are trade (exports + imports) in goods divided by GDP and trade in services divided by GDP. In order to capture the “channel effect” of human capital, two interaction terms (trade in goods * education and trade in service * education) are constructed. In addition, since FDI is another key component of globalization which also affects income distribution in China, I include the inward FDI adjusted by GDP as a control variable. The Gini coefficient index is used for robustness check. Due to the concern of potential heteroskedasticity, the feasible generalized least square (FGLS) method with cross-province weights will be applied to obtain unbiased and consistent results. If the empirical results support the two hypotheses, it will confirm the “channeling effect” of human capital on enlarging the income gap among the three income groups. Furthermore, it will also prove that trade in service has a larger disequalizing effect than trade in goods due to some of its features that manufacturing goods cannot perform.

As China’s embrace of globalization has become an irreversible trend, the disequalizing effect of trade on income distribution calls for the government to make more investment on education and technical training in order for low-skilled workers to catch up with the rapid development of the internet-based technology. In addition, due to the lag effect of investment on education, the government should increase the compensation package for the disadvantaged groups in the market competition, providing a “cushion” for economic and social stability.