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How Labor Markets Adjust to Import Competition

May 4, 2023 by Juan Blyde - Matías Busso - Kyunglin Park - Darío Romero Leave a Comment


When competition from abroad inflicts severe shocks on a country’s firms, the headlines are often about failing businesses and job losses. The shocks may come from different sources: trade reforms, competition from a foreign manufacturing powerhouse, or the entry of big retail chains from abroad. Although the trade shock is likely to bring a number of positive effects, including a greater variety of goods and lower prices for consumers, the focus is often on the short and medium-term ills caused by liberalized trade, especially when it comes to job losses.  

What is often left out of the story are the long-term effects on the labor market as the economy adjusts. We analyzed this dynamic in Mexico after a major competition shock created by China’s entry into the World Trade Organization in 2001 and the arrival of cheaper Chinese products to compete with those of Mexican firms both in Mexico’s domestic market and its export market targeting the United States. We examined not only the short- and medium-term effects, but also the long-term ones. Our study found that manufacturing employment and wages initially experienced a significant decline, particularly in the northern regions of the country, which were more exposed to import competition. After 20 years, however, these negative effects on total employment and wages disappeared, with the informal sector playing an important role in absorbing workers and buffering the shock.

A Deeper Look at the Affected Labor Markets

We relied on the pre-shock distribution of economic activity in Mexico and the change in imports by sector to identify the supply side shock—the effect of the change in the supply of goods—on the country. We found that in the short-term an additional $1,000 in import exposure per worker caused a reduction in manufacturing employment per working-age person of 1.8 percentage points. Wage, blue collar, and formal employees were the most affected. That is because medium- and large-sized firms in the manufacturing sector, which were typically formal firms, produced less and either exited the market entirely or reduced their workforce in response to the increased competition. In fact, our estimates show that if the import shock had never occurred, there would have been 7.6 percent more employment in the manufacturing sector by 2018 than there was.

But, again, that was not the final story. Over time, there was a shift, and informal employment, including in services, increased significantly to compensate for the losses and eventually erase the economy’s employment decline.

Policy Implications

Our findings have significant policy implications. Over the 20-year period, the smallest and least productive firms were the most likely to exit the market. That implies a need to build greater flexibility in the labor market so that small firms, including family-owned businesses, can withstand changes in global events. That could include more entrepreneurial training so that company owners can grow their businesses or develop other product varieties to compete, giving them the resilience to cope with external market shocks, including in international trade. It could also include more vocational and skills retraining for workers that would facilitate labor mobility and job transitions to different sectors, occupations (or both), increasing wages and employment levels in the process.

When countries open up to trade, their economies can be expected to become more specialized in certain sectors and less in others in keeping with the traditional gains from international trade. For that to happen, a reallocation of resources, capital and labor is necessary. Import shocks are part of that process and they will continue to occur, perhaps to an even greater degree in an increasingly globalized world. It is important for policy makers to support firms and workers so that they can adjust smoothly. This can take time. Governments can help speed the process by removing barriers that prevent workers from adapting their skills to potentially new occupations or sectors, or that prevent companies from modifying their production processes for a changing environment.


Filed Under: Microeconomics and Competitiveness Tagged With: #labormarket

Juan Blyde

Juan S. Blyde is a Principal Economist in the Integration and Trade Sector of the Inter-American Development Bank (IDB). His career has focused on producing and coordinating economic research using empirical evidence to inform the design of public policies in areas related to international trade and economic integration. Prior to joining the IDB, he worked as an economist at the Congressional Economic and Financial Advisory Office of Venezuela and taught international trade at Andrés Bello Catholic University. Juan holds a Ph.D. in Economics from the University of Colorado at Boulder and a bachelor’s degree in economics from the Andrés Bello Catholic University (Venezuela). His work has been published in various academic journals such as Journal of International Economics and Review of International Economics, among others.

Matías Busso

Matias Busso is a Lead Economist in the Research Department at the Inter-American Development Bank. He is also a Research Fellow at the Center for Distributive, Labor and Social Studies (CEDLAS) and a member of the executing committee of the Network of Inequality and Poverty of LACEA. His research uses empirical evidence and theory to inform the design of more effective public policies in areas related to labor, education, and productivity. Matias received his Ph.D. in Economics from the University of Michigan in 2008. He has published articles in the American Economic Review and The Review of Economics and Statistics, among others.

Kyunglin Park

Kyunglin Park is a consultant at the Research Department of the Inter-American Development Bank (IDB) in Washington, DC. Prior to joining the IDB, she worked as a research assistant at the Korea Chamber of Commerce and Industry, London School of Economics (LSE), and at UNDP Belarus. Her research interests include urban and regional economics and development economies. She holds an M.Sc. in Local Economic Development from LSE (United Kingdom), and a B.A. in Economics from Sogang University (South Korea).

Darío Romero

Darío Romero is a postdoctoral associate based at New York University - Abu Dhabi, with a focus on political economy and applied microeconomics in developing economies, particularly in Latin America. His research interests center around economic history, economic growth, and trade. Prior to his current position, Dario held roles at Universidad del Rosario, J-PAL LAC, and the IDB. His educational background includes a PhD in Economics from Columbia University, as well as an MA. in Economics and a B.A. in Economics and Political Science from Universidad de los Andes.

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