Economic Growth and Complexity across Chinese Regions: the Role of Cost-saving Production Diffusion

We analyze how increases of average local wage levels contribute to economic restructuring and manufacturing industry performance across Chinese regions. In an unbalanced panel of prefectural cities and industries, spanning the years 1999-2007, we employ an instrumental variables approach to identify a causal relationship. We find that rising wages are negatively related to industry performance and show that the effect is concentrated in China’s economically most advanced regions. Industries that make intensive use of (lowskilled) labor decline, but appear to expand in locations where wages are comparatively low. We argue that this is in line with a mechanism of cost-saving industry diffusion. Comparing the economic performance of locations where such industries expand to those where they do not, we find that both economic complexity and subsequent per capita income growth increased faster in the former group. On average, the estimated relative increase amounts to 0.10-0.15 standard deviations of the local economic complexity index (ECI), which translates into 1.3-1.8 percent faster capita income growth in the years 2007-2014.