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Did Trade with China Make

U.S. Manufacturing Less
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Innovative?
A major new paper suggests it did. by Walter Frick
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Did Trade with China Make
U.S. Manufacturing Less
Innovative?

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A major new paper suggests it did. by Walter Frick
Published on HBR.org / December 08, 2016; updated December 08, 2016 / Reprint
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In early 2016 economists David Autor, David Dorn, and Gordon Hanson
published an influential paper that highlighted some of the costs of
global trade. They reviewed the literature and reported that trade with
China had cost the U.S. as many as one million manufacturing jobs
since 1999, had lowered wages, and had not led to the new jobs and
industries that trade proponents had promised.
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The main case for trade, though, was always that it would improve
overall welfare by allowing a greater variety of products to be produced
more efficiently. China might focus on producing labor-intensive goods,
but the U.S. would shift toward work that was more valuable and

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innovative. If trade’s “winners” compensated the “losers,” everyone
could benefit.

On Monday the same trio of economists published a paper, with

coauthors Pian Shu and Gary Pisano, that complicates this story. Was

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increased trade with China really pushing U.S. companies to become
more innovative? For manufacturers, at least, they found that the
answer was no. In fact, the relationship went in the opposite direction:
U.S. manufacturers exposed to competition from Chinese imports
became far less innovative.
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The researchers looked at trade data from 1991 to 2007, during
which time China became a global manufacturing powerhouse. They
measured how varying levels of exposure to Chinese imports affected
U.S. manufacturers’ performance and patenting. Competition with
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China was associated with decreased performance on several measures.

“Aggregate firm sales revenues, employment, available capital, market
valuation, and investments in new technology have diminished
as competitive conditions have tightened, thereby contributing to
diminished profitability,” the authors wrote. These effects held up after
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controlling for numerous other variables.

The first takeaway from this paper is that more competition,

from trade or otherwise, doesn’t necessarily lead to more innovation.
While competition can force firms to innovate to fend off rivals, it
can also cut profit margins, leaving companies with less to invest in
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research and development. A widely cited paper from 2002 posited an

inverted-U relationship between competition and innovation: Too little

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 HBR / Digital Article / Did Trade with China Make U.S. Manufacturing Less Innovative?

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competition, and firms won’t bother to innovate; too much, and they
won’t be able to afford to.

The second takeaway, which is trickier, concerns the relationship

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between trade and innovation. Is it possible that trade has hurt
rather than bolstered American innovation? The research literature is
mixed. There’s evidence that European manufacturers became more
innovative in response to competition from China, for example, but also
that Canadian manufacturers became less innovative. It’s possible that

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this difference corresponds to the inverted-U. Because manufacturing
prior to China’s rise was more competitive in the U.S. than in the
EU, trade with China could have pushed the U.S. onto the too-much-
competition side of things while spurring European manufacturers to
become more innovative.
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And the new U.S. evidence is only looking at innovation in
manufacturing. It’s possible that other U.S. industries became more
innovative, thanks to cheaper inputs made possible by trade. “I
have no reason to think that globalization reduces innovation in net
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[worldwide],” Autor told me, but he emphasized that manufacturing

plays an outsize role in U.S. innovation. As he and his coauthors write in
the paper, “Manufacturing still generates more than two-thirds of U.S.
R&D spending and U.S. corporate patents despite accounting for less
than one-tenth of U.S. private non-farm employment.”
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It’s hard to say exactly what this new evidence means for the overall
case for global trade, and the authors caution against overgeneralizing
the result. Most economists believe that trade is beneficial in the long
run, but long-run prosperity depends heavily on innovation. If this
new paper shows anything, it’s that we can’t just assume that more
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competition and open markets will deliver new ideas. Under the right
circumstances, they can. But if they squeeze entire industries’ ability to

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invest or make it easy to rely on cheap labor rather than technology, the
result could be less innovation, rather than more.

This article was originally published online on December 08, 2016.

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Walter Frick is a contributing editor at Harvard Business Review,
where he was formerly a senior editor and deputy editor of HBR.org.
He is the founder of Nonrival, a newsletter where readers make

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crowdsourced predictions about economics and business. He has
been an executive editor at Quartz as well as a Knight Visiting Fellow
at Harvard’s Nieman Foundation for Journalism and an Assembly
Fellow at Harvard’s Berkman Klein Center for Internet & Society. He
has also written for The Atlantic, MIT Technology Review, The Boston
Globe, and the BBC, among other publications.
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This document is authorized for educator review use only by Cuong H VUONG, IESEG School of Management until Jun 2024. Copying or posting is an infringement of copyright.
Permissions@hbsp.harvard.edu or 617.783.7860