Department of Economics

Trade as an engine of creative destruction: Mexican experience with Chinese competition

How does the internationalisation of the Chinese economy effect producers in other countries?

China’s economy is booming, second only to the US. Since the economic reforms which began in 1978, it has become the largest exporter and manufacturing economy in the world today. But how does the internationalisation of the Chinese economy effect producers in other countries?

No country is entirely insulated, but middle-income countries with already established positions in global manufactured markets, are likely to be the most immediately affected by competition from China.


Summary

A research paper by Professor Alan Winters, Leo Iacavone, a former Sussex student, and Ferdinand Rauch set out to evaluate the effects of the surge in Chinese exports on Mexican manufacturing firms from 1994 to 2004.

Mexico is a middle-income country with an already established manufactured market that competes with China in terms of low-wages. China challenged Mexican firms in both its home market and in its main export market, the USA. Chinese exports to Mexico and the United States increased substantially in terms of both value and share from 1994 to 2004.

The investigation analysed the impact of Chinese competition on Mexican manufacturing firms at the sectoral, plant and product level. The research looked at both the so-called extensive margins of Mexican firms – the extent to which they changed the set of products they produced or even stayed in existence – and also at their intensive margins – the changes in sales of existing products to existing markets.  As competition could affect both the domestic and export markets, both businesses that serve the home market and those that export to the US were examined. The project also considered the use that Mexican firms were able to make of imports of their inputs from China to improve their efficiency.

The study provides an example of how trade can work as a force of ‘creative destruction’ that makes sectors and firms adjust so as to compete effectively.

* ‘Creative destruction’ refers to the “process of industrial mutation that incessantly revolutionises the economic structure from within, incessantly destroying the old one, incessantly creating a new one”. (Joseph Schumpeter).

Methodology

The main source of data was the Monthly Industrial Survey (EIM) data on Mexican plants provided by the Mexican Institute of Statistics (INEGI). This dataset covers about 85% of all Mexican industrial output and contains detailed information on sales and exports of each of the products manufactured by Mexican plants, as well as information on employment. The data tracks plants and products throughout the period of investigation including their introduction and exit from the market. 

Key findings

The key findings confirm that the rise in Chinese exports has significantly influenced production patterns in a major middle-income country, Mexico.

The surge in exports:

  • Impacted most negatively on smaller firms and less important products. Competition forced some marginal products to be dropped and smaller, less productive plants to close down.
  • Larger firms and core products were mostly impervious to the shock.
  • Larger firms have been able to benefit from the Chinese exports to Mexico as this has brought cheaper and a larger variety of imported intermediate inputs to improve the competitiveness of their core products, increasing average productivity levels and even leading to expansion among the larger firms.

These results indicate that insulating the domestic market from overseas competition will not increase productivity as doing so would benefit less productive firms and marginal products.

Recommendation: The researchers recognise that firm efficiency is not the only concern of economic policy – for example, one also needs to consider the prices that consumers pay and levels of employment. However, they argue that policy makers should recognise the centrality of large and efficient firms in the national response to external competition and accommodate reallocation, in terms of market shares within firms and between firms, as a key to productivity growth. 


Access the paper

Lacovone, Leonardo; Rauch, Ferdinand; and Winters, L Alan (2013) Trade as an engine of creative destruction: Mexican experience with Chinese competition. Journal of International Economics, 89 (2). pp. 379-392. ISSN 0022-1996)

To access the full paper, see Sussex Research Online