3

Costs of Protection in China

Summary of Results

This chapter reports the static benefits of trade liberalization and the
accompanying adjustment costs for 25 highly protected goods in China.
We do not attempt to measure the dynamic benefits—higher domestic
productivity, more variety of goods and services, and more competition.
However, these additional dynamic benefits are at least as large as the
static gains calculated here and possibly much larger. Appendix E gives
illustrative calculations for just one dynamic benefit—more competitive
markets.
We examine 25 highly protected goods that are imported in large quanti-
ties and highly protected to estimate the costs of protection in China. We
then make rough estimates of the total of tariff and nontariff barriers
for these 25 goods by calculating the difference between the CIF (cost,
insurance, and freight) price of imported goods and the wholesale landed
price of imported goods in the protected domestic market. We obtain an
estimate of the tariff equivalent of the nontariff barrier by subtracting the
estimated tariff rate from the total calculated barrier (see appendix B for
the details of this calculation).
We estimate that, for 1994, China’s consumer surplus loss from trade
protection for these 25 goods totaled $35 billion, which suggests that
liberalizing trade for these 25 products would create a significant con-
sumer surplus gain. That gain would be about 6.2 percent of GNP using

13

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nominal exchange rates.1 Put another way, trade protection saves jobs at
an average annual cost of $3,132 per job for these 25 highly protected
goods. By comparison, average annual per capita income in 1994 was
about $774 (China Statistical Yearbook 1997). Assuming one worker per
family of four, that suggests average wages of about $3,100, about the
same as the cost of protection per job. Further estimates indicate that the
potential consumer surplus gain from eliminating tariffs and nontariff
barriers on all goods, not just on the 25 goods that are the focus of this
study, would be about $78 billion, or roughly 14 percent of China’s nomi-
nal GNP. We have not attempted to estimate the cost to the economy and
to consumers of preserving jobs, but the figure is probably about the same
as for the highly protected sectors.
The basic calculations for the highly protected sectors are summarized
in table 3.1. This table indicates that in 1994 the sum of the weighted
averages of tariff and nontariff barriers for the 25 selected products was
43.8 percent (the tariff rate averaged 21.7 percent, while the average tariff
equivalent of nontariff barriers was 22.1 percent). Imports were 36.3 per-
cent of the sum of imports (landed value) and similar domestically pro-
duced goods (this sum being about $179 billion).
It is worth comparing these figures with similar estimates derived in
previous studies for Japan, the United States, and South Korea.

Japan. In 1989, tariff and nontariff barriers averaged 178 percent for high-
ly protected industries—food and beverages, textiles, metal products,
chemical products, and mechanical products. Of this amount, tariffs aver-
aged only 5 percent, while nontariff barriers averaged a tariff equivalent
of 173 percent. The standard deviation of protection within these indus-
tries was 4.9 for tariff and 81.7 for nontariff barriers. The Japanese import
ratio for the highly protected products was 12 percent (the sum of imports
and domestically produced products being $442 billion).

United States. In 1990, the estimated protection in the United States for
21 highly protected products was 35 percent, with tariffs accounting for
16 percentage points and nontariff barriers accounting for 19 percentage
points of this protection. The standard deviation of protection within
these industries was 23 percent. The US import ratio was about 21 percent
(the sum of imports and domestic goods being $260 billion).

1. To measure Chinese GNP in dollars, we use a nominal exchange rate of 8.6 yuan/
dollar throughout this book. In China, the difference between market exchange rates and
purchasing-power exchange rates is significant. According to World Bank estimates (World
Bank 1996), at purchasing-power exchange rates, China’s 1994 GNP was about $3,012 billion.
At market exchange rates, China’s 1994 GNP was $552 billion. Using a purchasing-power
calculation, the consumer surplus gain from liberalizing these 25 sectors is about 1.2 percent
of GNP.

14 THE COSTS OF PROTECTION IN CHINA

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South Korea. In 1994, the estimated height of trade barriers was 38.6
percent for all tradable goods, with tariffs accounting for 7.9 percentage
points. For agricultural products, the average estimated trade barrier was
160 percent, with tariffs accounting for 17 percentage points. The standard
deviation of protection for all industries was 15 percent. The South Korean
import rate was 3.8 percent (the sum of imports and domestic goods
being $384 billion).
These comparisons suggest that the overall height of barriers for highly
protected industries in China is lower than in Japan, about the same in
South Korea, and higher than in the United States. Unlike Japan and
South Korea, in China tariff and nontariff barriers are about the same
height. This indicates that changes in the trading system and regulations
alone, without tariff reductions, could lower the level of protection in
China. In addition, China’s import ratio for the selected goods is the
highest among these four countries, which indicates that China depends
more heavily on the world market for the goods that it protects the
most. Our calculation shows lower Chinese trade protection than popular
wisdom suggests. Chapter 4 discusses the possible reasons for this result.
Trade liberalization would have a significant impact on the Chinese
economy. Liberalizing the 25 highly protected sectors would lower the
Chinese index of landed prices for imported goods to an average of 0.68,
compared with 1.00 before liberalization. Furthermore, the CIF value of
imports would increase by 37.6 percent. The price index for comparable
domestic goods would fall to an average of 0.90 compared to 1.00 before
liberalization, and the value of domestic production would decrease by
34 percent. These changes would raise the import ratio (measured in
current values) from 36 to 56 percent.
By comparison, similar trade liberalization in Japan would raise the
import ratio (again measured in current values) from 11 to 14 percent; in
the United States, the import ratio would rise from 21 to 25 percent. This
comparison suggests that total liberalization would exert a greater impact
on China’s economy than on the other two countries.
It is worth comparing the consumer-surplus ratio for China with that
of Japan and the United States to measure the benefit of liberalization in
different countries. According to our calculations of this ratio, which is
the increase in consumer surplus resulting from liberalization divided
by total domestic production and the landed value of imports before
liberalization, China has a ratio of 19.5 percent, Japan a ratio of 25 percent,
and the United States a ratio of 13 percent. Thus, in terms of the consumer
surplus ratio, China would gain more from liberalization than would the
United States, but less than would Japan.

Selection of Goods
We used three criteria to select goods for this study: import volume
(greater than $10 million in 1994), tariff rates (greater than 7 percent in

COSTS OF PROTECTION IN CHINA 15

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Table 3.1 Domestic production, landed value of imports, tariff and nontariff barriers,
import ratio, 1994
Domestic Imported value Trade barriers
(millions of dollars) (percentages)
productionb Import
(millions of CIF value Landed ratioh
Product categorya dollars) CIF value plus taxesc valued Totale Tarifff Nontariffg (percentage)
Food
Sugar 2,492 404 473 1,141 141.4 30.0 111.4 31.4
Wheat 16,165 949 1,072 1,849 72.4 0.0 72.4 10.3
Rapeseed oil 2,107 363 410 876 113.6 25.0 88.6 29.4
Beverages
Soft drinks 1,445 35 41 84 105.6 65.0 40.6 5.5
Inedible raw materials
Plywood 1,065 970 1,135 1,658 46.1 20.0 26.1 60.9
Wool and wool tops 375 1,040 1,217 1,450 19.2 15.0 4.2 79.5
Synthetic fiber
(artificially produced) 3,538 1,137 1,330 1,623 22.0 15.0 7.0 31.4
Crude oil 12,639 1,849 2,163 2,557 18.2 1.5 16.7 16.8
Natural rubber 411 396 463 662 42.9 30.0 12.9 61.7
Synthetic rubber
(artificially produced) 198 263 308 440 42.9 30.0 12.9 69.0

Fossil-fuel products
Gasoline 6,408 1,305 1,728 2,155 24.7 6.0 18.7 25.2
Diesel fuel 6,379 235 289 391 35.2 9.0 26.2 5.8
Chemicals
Ammonium phosphate 33 763 862 1,486 72.4 0.0 72.4 97.8
Plastics
(chemically produced) 3,179 5,536 6,477 8,867 36.9 25.0 11.9 73.6

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Manufactured goods
Rolled-steel final products 32,577 14,459 16,917 23,481 38.8 15.0 23.8 41.9
Copper and copper
3,220 713 834 978 17.2 10.0 7.2 23.3
products
Aluminum and aluminum
3,462 369 432 550 27.5 18.0 9.5 13.7
products
Transportation equipment
Motorcycles 3,761 571 742 1,716 131.2 120.0 11.2 31.3
Autos (sedans) 4,861 674 1,577 3,694 134.2 110.0 24.2 43.2
Miscellaneous manufactured goods
Color televisions 4332 383 448 531 18.6 0.0 18.6 10.9
Videocassette recorders 741 533 624 962 54.3 8.0 46.3 56.5
Air conditioners 1,939 948 1,109 2,270 104.7 90.0 14.7 53.9
Microcomputers 207 371 434 490 13.0 7.0 6.0 70.3
Color tubes 1,474 689 806 1,077 33.6 15.0 18.6 42.2
Program-controlled 1,215 2,867 3,354 4,058 21.0 12.0 9.0 77.0
switchboards
Total/average 114,224 37,822 45,247 65,049 43.8 21.7 22.1 36.3
Note: Columns may not sum because of rounding.
a. Because the National Bureau of Statistics and China Customs define goods in different ways, we made ad hoc adjustment to compare
imports with domestic goods. For example, autos (sedans) are defined as cars with an engine size under 5,000cc, and copper and copper
products and aluminum and aluminum products each combine two goods categories.
b. Domestic production values are converted to the dollars using the average foreign exchange in 1994, 8.6 yuan/dollar.
c. Taxes refers to the domestic taxes, including value-added and consumption taxes.
d. Landed values reflect trade barriers and taxes, including tariffs, tariff equivalents, value-added taxes, consumption taxes. The values are
calculated by multiplying the quantity of imports by the estimated wholesale price in the domestic markets. Wholesale prices of imported
goods were obtained from a survey of trading companies and government authorities.
e. The total trade barrier is defined as the percentage markup that must be added to the CIF price plus value-added and consumption taxes
to be equal to the wholesale price of imported goods in the domestic market.
f. As of 1994, the Chinese tariff system was highly complex, and few collected statistics about tariff revenue by product were available.
Hence, the tariff rates (t) are calculated starting with statutory tariff rates and making adjustment for provisional tariff rates, reductions,
exemptions, preferential foreign exchange rates, etc.
g. The nontariff barrier (n) is defined as the difference between the total trade barrier and the tariff rates.
h. The import ratio is defined as the ratio of the landed value of imports to the sum of the landed value of imports and domestic production.
Sources: National Bureau of Statistics, Yearbook of China Customs, and Statistics Bulletin of China Customs.
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1994), and data availability. The 25 selected products represent 30 percent
of China’s total merchandise imports in CIF value. Moreover, the produc-
tion of corresponding domestic substitutes accounts for nearly 35 percent
of Chinese industrial- and agricultural-sector GNP in exfactory price
terms.
Each product selected had been subject to a tariff of at least 7 percent
or to an equivalent nontariff barrier. This criterion was applied because,
as part of its policy of gradual liberalization, China has stipulated a
temporary tariff of 7 percent for selected sectors while maintaining the
statutory tariff rate. As mentioned, the 25 products selected have a weight-
ed average tariff rate of 21.7 percent and a weighted average tariff equiva-
lent of nontariff barriers of 22.1 percent (with the sum of the two being
43.8 percent).
The available data for domestic production and imports should be
comparable and the nature of domestic and imported products similar.
China’s statistical data collection system is still in its infancy; therefore,
some data sets are not comparable with others. In this study, difficulty
arose because classifications are not equivalent. For domestic goods, Chi-
na’s National Statistics adopts the Standard Industrial Trade Classification
(SITC) system; for imported goods, the customs statistics uses the Harmo-
nized Commodity Description and Coding System (HS).
Several imported goods were excluded from the study because they
have no domestic substitutes (e.g., palm oil in bulk) or the data for the
domestic counterpart were not available (e.g., potassium chloride). Fur-
thermore, some imported capital goods differed greatly in quality from
their domestic substitutes so that they are incomparable and are not
included (e.g., injection molding machines). The selection of products was
designed to ensure that selected products are not only imported but also
produced domestically.

Estimating the Degree of Protection in China

Conceptually, protection is represented in this study as tariffs plus the

tariff equivalent of nontariff barriers (t Ⳮ n). We surveyed China’s trading
companies and searched through price and volume data on imported
goods to obtain rough estimates of the difference between the wholesale
landed price of each imported good in the protected domestic market
and its CIF price before any markup for tariffs or nontariff barriers. We
then used this difference to derive t Ⳮ n.2 Before examining our estimates

2. By contrast, Sazanami, Urata, and Kawai (1995) estimate the degree of protection in Japan
by comparing the exfactory price of domestic products and the CIF price of imported prod-
ucts.

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Table 3.2 Summary of surveyed trading firms
Number of firms Markup Landed to CIF
Sector surveyed factor “K”a price ratiob
Food and live animals
Sugar 3 14.0 1.63
Wheat 4 10.0 1.16
Rapeseed oil 4 14.0 1.63
Beverage and tobacco
Soft drinks 15 20.7 2.41
Crude materials, inedible
Plywood 8 14.7 1.71
Wool and wool tops 5 12.0 1.40
Synthetic fiber 20 12.3 1.43
Crude oil 5 11.9 1.38
Natural rubber 8 14.4 1.67
Synthetic rubber 10 14.4 1.67
Mineral fuels, lubricants and related materials
Gasoline 4 14.3 1.66
Diesel oil 4 14.3 1.66
Chemicals
Ammonium phosphate 5 10.0 1.16
Plastics 25 13.8 1.60
Manufactured goods
Rolled-steel final products 5 14.0 1.63
Copper and copper products 5 11.8 1.37
Aluminum and aluminum products 5 12.8 1.49
Machinery and transport equipment
Motorcycles 5 25.8 3.00
Autos (sedans) 8 25.6 2.98
Miscellaneous manufactured goods
Color televisions 15 11.9 1.38
Videocassette recorders 10 15.5 1.80
Air conditioners 22 20.6 2.40
Microcomputers 25 11.4 1.33
Color tubes 4 13.4 1.56
Program-controlled switchboards 3 12.2 1.42
Simple average 9.1 14.6 1.70

Note: A total of 227 firms were surveyed, including 84 in Beijing, 32 in Guangdong, 25 in

Hebei, 18 in Henan, 6 in Hubei, 30 in Jiangsu, 8 in Shaanxi, and 24 in Sichuan.
a. The markup factor "K" is the ratio of the landed price of imported goods in the product
category (in yuan) and the CIF price of those goods (in dollars).
b. This price ratio is calculated based on the "K" values, with both prices in the same
currency unit (8.6 yuan = 1 dollar). Note that some goods were imported at a preferential
exchange rate of 5.4 yuan per dollar.

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for t Ⳮ n (table 3.1) we should note several problems in pursuing this
approach (see table 3.2 and box 3.1).
First, the wholesale landed price of imported goods in the protected
domestic market often fluctuates greatly in response to market forces. In
addition, it was impossible to obtain complete price data for the base year
(1994). Hence, we focus on the price differentials of the most important
variants of each of the 25 goods.
Second, it is difficult to distinguish between tariff and nontariff barriers.
The Chinese customs authorities have not yet established a comprehensive
database of tariff revenue on a good-by-good basis. Tariff and nontariff
rates had to be estimated because only nominal tariff rates, but not actual

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rates, were available. To estimate these tariff and nontariff rates, we mainly
relied on statutory tariff rates and adjusted them for known changes, such
as temporary tariff rates and tariff reductions or exemptions. For products
with very few tariff reductions or exemptions (e.g., sedans and motorcy-
cles), we applied the statutory tariff rate. For products with extensive
tariff reductions or exemptions (e.g., color televisions), we assigned a zero
tariff. After the tariff rate was determined, the remainder of t Ⳮ n was
assumed to be the tariff equivalent of nontariff barriers.
Third, foreign exchange controls and exchange rate premiums are
among China’s major means of trade protection, and they must be taken
into consideration. Adjustments were made for import goods that enjoyed
‘‘exchange rate protection’’ in 1994 (e.g., wheat, fertilizer, edible oils, and
sugar). In 1994, the average unified exchange rate was 8.6 yuan/dollar,
but the central government imported the listed products at an overvalued
exchange rate of 5.8 yuan/dollar. The exchange rate premium on the four
products has been interpreted as a tariff equivalent (see appendix B).3
Before the various yuan exchange rates were merged in January 1994,
domestic enterprises were permitted to retain part of their foreign
exchange earnings. 4 This system was abolished in January 1994, but
unused foreign exchange quotas were still valid. The unused quotas could
be used to purchase foreign currency and import products at an exchange
rate of 5.8 yuan/dollar, the official rate when the system was abolished.
Hence, in calculating t Ⳮ n, we made corresponding adjustments for the
use of foreign exchange quotas. We divided foreign exchange quotas,
which were actually used to buy foreign currency to import goods, by
the adjusted5 value of the imported good to obtain the weight applied
to the exchange rate of 5.8 yuan/dollar. The post-January 1994 unified
exchange rate of 8.6 yuan/dollar was assigned a weight corresponding
to the remaining adjusted imports. The weighted sum of the two exchange
rates reveals the required conversion factor (i.e., the weighted average of
the two exchange rates). This conversion factor reduces the unified
exchange rate of 8.6 yuan/dollar in 1994 by 3.4 percent, to 8.3 yuan/
dollar, which we use to calculate t Ⳮ n.

3. The premium is part of t Ⳮ n, because the CIF price is calculated on the basis of 5.8
yuan/dollar to compare landed and CIF prices.
4. Before 1994, 80 percent of the foreign exchange earnings of domestic firms was retained
in the form of exchange quotas and divided among the trading company, the producer,
and the local government. These retained exchange quotas could be used to import goods
in accordance with China’s foreign exchange regulations, or they could be sold in the
supplementary exchange market at a market exchange rate.
5. The adjustment excludes processing trade when calculating ‘‘adjusted total imports,’’
because materials imported, processed, and then reexported do not involve an expenditure
of foreign currency.

COSTS OF PROTECTION IN CHINA 21

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 While attempting to establish own- and cross-price elasticities of
demand and supply for imported and domestic goods, which are the
fundamental parameters of our methodology, it quickly became clear that
empirical work on Chinese elasticity parameters is in its infancy. Our
survey of the existing literature turned up little useful information; there-
fore, we calculated the elasticity parameters required for this study by
adopting the Almost Ideal Demand System (AIDS) (Deaton and Muell-
bauer 1980). This methodology required that we estimate five elasticity
parameters: the own-price elasticity of demand for imported goods (Emm),
the own-price elasticity of demand for domestic goods (Edd), the cross-
price elasticity of demand for domestic goods with respect to the price
of imported goods (Edm), the cross-price elasticity of demand for imported
goods with respect to the price of domestic goods (Emd), and the own-
price elasticity of supply of domestic goods (Es). The estimated elasticity
parameters are presented in table 3.3 (appendix C shows how we made
the calculation).

Change in Domestic and Import Prices and

Quantities Following Liberalization

The data described in the preceding sections were used in the partial
equilibrium model (described in appendix A) to solve the basic equations
(equations A.6 to A.9). The solutions to the basic equations were used to
estimate the equilibrium prices and quantities that would characterize
the domestic and imported goods markets after liberalization. The results
of this exercise are summarized in table 3.4.
Table 3.4 shows that, if these 25 goods were liberalized, the average
domestic price index would fall to 0.90 (from 1.00). The value of domestic
production of these goods would decline from a preliberalization level
of $114.2 billion to $78.2 billion, a 31.5 percent fall (this figure differs from
the figure in table 3.4 due to rounding). The decline in value comprises
a decline in quantity of about two-thirds and an average price decline of
about one-third. The drop in output would occur because cheaper
imported goods would replace more expensive domestic goods. Obvi-
ously, there is no unanimity of opinion within China that such changes
are desirable. However, trade liberalization promotes efficient resource
utilization by compelling workers and capital to move to sectors where
China has a comparative advantage.
As for imported goods after liberalization, the landed price index for
imports would drop to 0.68 from 1.00, and the CIF value of imports would
increase by approximately $30 billion. The landed value of imports would
increase to a lesser extent because higher import volumes would be offset

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Table 3.3 Elasticity parameters for partial equilibrium model
Emm Edd Edm Emd Es
Food
Sugar –1.91 –3.59 2.75 2.75 2.66
Wheat –0.26 –1.47 0.86 0.86 3.33
Rapeseed oil –0.16 –0.96 0.56 0.56 1.59
Beverages
Soft drinks –1.43 –0.19 0.81 0.81 2.92
Inedible raw materials
Plywood –0.88 –1.40 1.14 1.14 2.28
Wool and wool tops –1.51 –2.25 1.88 1.88 1.67
Synthetic fiber (artificially produced) –1.01 –0.66 0.83 0.83 1.15
Crude oil –2.24 –2.32 2.28 2.28 3.10
Natural rubber –1.24 –0.47 0.85 0.85 1.43
Synthetic rubber (artificially produced) –1.16 –0.81 0.98 0.98 1.38
Fossil-fuel products
Gasoline –2.67 –1.37 2.02 2.02 2.59
Diesel fuel –0.64 –0.66 0.65 0.65 0.64
Chemicals
Ammonium phosphate –2.37 –0.60 1.48 1.48 2.26
Plastics (chemically produced) –1.83 –2.96 2.39 2.39 2.74
Manufactured goods
Rolled-steel final products –2.36 –0.90 1.63 1.63 4.53
Copper and copper products –1.83 –0.14 0.99 0.99 2.76
Aluminum and aluminum products –2.39 –4.07 3.23 3.23 6.01
Machinery and transport equipment
Motorcycles –0.39 –0.37 0.38 0.38 1.15
Autos (sedans) –0.10 –1.43 0.77 0.77 4.95
Miscellaneous manufactured goods
Color televisions –0.70 –0.49 0.59 0.59 2.49
Videocassette recorders –0.81 –0.72 0.77 0.77 2.23
Air conditioners –1.55 –1.64 1.60 1.60 2.16
Microcomputers –1.04 –1.19 1.11 1.11 1.28
Color tubes –1.32 –0.48 0.90 0.90 1.19
Program-controlled switchboards –0.78 –2.06 1.42 1.42 3.40
Emm: own-price elasticity of demand for imported goods.
Edd: own-price elasticity of demand for domestic goods.
Edm: cross-price elasticity of demand for domestic goods with respect to price of imported
goods.
Emd: cross-price elasticity of demand for imported goods with respect to price of domestic
goods.
Es: own-price elasticity of supply for domestic goods.
Source: Authors’ calculations based on the model devised by Deaton and Muellbauer
(1980).

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Table 3.4 Estimated domestic and landed import prices and values following liberalization
Domestic goods Imported goods
Percentage change in value
Percentage Imported value
Production after liberalization
d
change in Without VAT With VAT Import ratio
value after (millions of dollars)
production Price index and CT and CT (percentage)
Price liberali-
index after zation Without With Without With
liberaliz- (millions of CIF Landed VAT VAT and CIF Landed CIF Landed VAT VAT
a b c
ation dollars) Value Quantity price price and CT CT value value value value and CT and CT
Food
Sugar 0.68 603 –75.8 –64.3 1.00 0.41 876 2,115 85.4 –23.2 347.5 85.4 59.2 77.8
Wheat 0.91 10,575 –34.6 –27.8 1.00 0.58 1,135 1,957 5.9 –38.6 82.5 5.9 9.7 15.6
Rapeseed oil 0.85 1,369 –35.1 –23.3 1.00 0.47 422 901 2.8 –51.9 119.7 2.8 23.6 39.7
Beverages
Soft drinks 0.83 694 –52.0 –42.1 1.00 0.49 98 202 140.0 16.8 393.3 140.0 12.4 22.5
Inedible raw materials
Plywood 0.89 725 –32.0 –23.5 1.00 0.68 1,386 2,024 22.1 –16.4 78.3 22.1 65.7 73.6
Wool and wool tops 0.92 299 –20.1 –13.1 1.00 0.84 1,354 1,614 11.3 –6.7 32.6 11.3 81.9 84.4
Synthetic fiber 0.91 2,906 –17.9 –10.0 1.00 0.82 1,506 1,837 13.2 –7.2 38.1 13.2 34.1 38.7
Crude oil 0.93 9,474 –25.0 –19.6 1.00 0.85 2,679 3,167 23.8 4.8 46.4 23.8 22.0 25.1
Natural rubber 0.85 278 –32.3 –20.5 1.00 0.70 629 899 35.8 –4.9 94.0 35.8 69.3 76.4
Synthetic rubber 0.85 135 –31.6 –19.8 1.00 0.70 397 568 29.1 –9.7 84.6 29.1 74.6 80.8
Fossil-fuel products
Gasoline 0.89 4,280 –33.2 –25.3 1.00 0.80 2481 3,094 43.5 15.1 79.0 43.5 36.7 42.0
Diesel fuel 0.86 4,981 –21.9 –9.2 1.00 0.74 318 430 10.0 –18.6 48.6 10.0 6.0 7.9
Chemicals
Ammonium 0.75 13 –60.2 –47.2 1.00 0.58 2,059 3,549 138.8 38.5 311.6 138.8 99.4 99.6
phosphate
Plastics 0.88 1,941 –38.9 –30.3 1.00 0.73 8,389 11,485 29.5 –5.4 77.3 29.5 81.2 85.5

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Manufactured goods
Rolled-steel final 0.91 18,910 –42.0 –36.0 1.00 0.72 31,238 43,358 84.7 33.0 156.3 84.7 62.3 69.6
products
Copper and 0.95 2,629 –18.4 –13.9 1.00 0.85 1,058 1,240 26.8 8.2 48.6 26.8 28.7 32.0
copper products
Aluminum and 0.93 2,007 –42.0 –37.3 1.00 0.78 600 765 38.9 9.0 77.2 38.9 23.0 27.6
aluminum products
Transportation equipment
Motorcycles 0.81 2,398 –36.2 –21.4 1.00 0.43 952 2,200 28.2 –44.6 196.4 28.2 28.4 47.8
Autos (sedans) 0.90 2,646 –45.6 –39.7 1.00 0.43 1,588 3,719 0.7 –57.0 135.8 0.7 37.5 58.4
Miscellaneous manufactured goods
Color televisions 0.97 3,846 –11.2 –8.1 1.00 0.84 495 587 10.5 –6.8 31.0 10.5 11.4 13.2
Videocassette 0.89 515 –30.5 –22.2 1.00 0.65 814 1,255 30.5 –15.5 101.3 30.5 61.2 70.9
recorders
Air conditioners 0.74 749 –61.4 –47.8 1.00 0.49 2,088 4,274 88.2 –8.0 285.3 88.2 73.6 85.1
Microcomputers 0.95 182 –11.8 –6.8 1.00 0.88 463 524 6.8 –5.5 20.7 6.8 71.8 74.2
Color tubes 0.86 1,046 –29.0 –17.0 1.00 0.75 1,027 1,372 27.4 –4.6 70.2 27.4 49.5 56.7
Program-controlled 0.95 977 –19.6 –15.5 1.00 0.83 3,626 4,387 8.1 –10.7 30.8 8.1 78.8 81.8
switchboards
Total /average 0.90 78,178 –34.3 –26.9 1.00 0.68 67,677 97,523 37.7 –8.4 119.5 37.7 48.1 55.5
VAT = Value-added tax.
CT = Consumption tax.
CIF = Cost, insurance, and freight.
a. The domestic price before liberalization is indexed to 1.00.
b. The CIF price index remains unchanged because of the small-country assumption.
c. The landed value before liberalization is indexed to 1.00.
d. After liberalization, import values are calculated with and without VAT and CT.
Source: Authors’ calculations using the partial equilibrium model explained in appendix A.

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by lower landed prices.6 Increased demand for imports and decreased
demand for domestic goods would raise the import ratio from 36 to 56
percent for the highly protected industries studied here.
Many Chinese observers question whether increased imports would
benefit the average Chinese firm. Primary resources accounted for 14.2
percent of total imported goods in 1994, while manufactured products
(mainly capital goods and intermediate goods) accounted for 85.8 percent
of the total. The benefit of liberalization to the average Chinese firm
derives from cheaper primary resources, capital goods, and intermediates,
which could be imported through the international market. These goods
would enable a firm to improve its technology and decrease its production
costs. However, infant firms with promising potential that cannot yet
produce goods to compete with imports may be crushed before they
mature. This purported benefit of strategic protection has become an
important issue within Chinese policy circles.

Welfare Effects of Liberalization

Table 3.5 shows that, following liberalization, the consumer-surplus gain

would total $35 billion, with the consumer-surplus ratio being 19.5 percent
(the total consumer-surplus gain divided by the sum of domestic produc-
tion and the landed value of imports before liberalization). The loss of
producer surplus accounts for $10.1 billion, about 29 percent, of the total
consumer surplus gain; the loss of government tariff revenue and quota
rents accounts for $19.8 billion, about 57 percent of the gain; and the
national efficiency gain accounts for $5 billion, about 14 percent of the
gain. Note that the efficiency gain figure includes only static benefits and
does not reflect dynamic benefits, which are probably much larger.
One point that deserves mention is that the estimated loss of govern-
ment tariff revenue, 84 billion yuan ($9.8 billion) on 25 import products,
is much higher than the actual tariff revenue collected in 1994, 27.3 billion
yuan ($3.2 billion) on all imports. Evidently, in estimating t Ⳮ n for each
of the 25 imports, the effect of tariff reductions/exemptions is underesti-
mated due to inadequate data on a good-by-good basis. As a result, the
tariff revenue loss is overestimated, while the corresponding quota rent
loss is underestimated. This does not affect the overall estimate of the
degree and the cost of protection in China. It does mean, however, that
more of the burden of liberalization would be absorbed by the privileged
firms and individuals that control import rights.

6. After liberalization, the CIF value and the landed value of imports are assumed to be
the same.

26 THE COSTS OF PROTECTION IN CHINA

Table 3.5 Estimated welfare effects of liberalizing 25 sectors in
a
1994 (millions of dollars, except where noted)
Consumer Producer Tariff Total Consumer
surplus surplus revenue Quota efficiency surplus
b
gain loss loss rent loss gain ratio
(a+b+c+d) (a) (b) (c) (d) (percentages)
Food
Sugar 1,497 543 142 527 285 41.2
Wheat 2,099 1,299 0 776 23 11.7
Rapeseed oil 759 286 103 363 7 25.4
Beverages
Soft drinks 268 195 27 17 30 17.5
Inedible raw materials
Plywood 685 104 227 296 58 25.2
Wool and wool tops 275 28 183 51 13 15.1
Synthetic fiber 606 294 200 93 19 11.7
Crude oil 1,214 773 32 361 47 8.0
Natural rubber 289 55 139 60 36 26.9
Synthetic rubber 178 26 92 40 19 27.9
Fossil-fuel products
Gasoline 1,116 596 104 323 93 13.0
Diesel fuel 959 852 26 76 5 14.2
Chemicals
Ammonium
phosphate 1,064 6 0 624 433 70.0
Plastics 3,076 333 1,619 771 353 25.5
Manufactured goods
Rolled-steel final
products 11,845 2,503 2,538 4,026 2,778 21.1
Copper and copper
products 320 157 83 60 19 7.6
Aluminum and
aluminum products 352 211 78 41 23 8.8
Transportation equipment
Motorcycles 1,746 635 891 83 137 31.9
Autos (sedans) 2,502 378 1,735 382 7 29.2
Miscellaneous manufactured goods
Color televisions 227 139 0 83 4 4.7
Videocassette
recorders 460 70 50 289 52 27.0
Air conditioners 2,057 383 998 163 512 48.9
Microcomputers 69 11 30 26 2 9.9
Color tubes 503 195 121 150 37 19.7
Program-controlled 787 54 402 302 29 14.9
switchboards
Total/average 34,954 10,130 9,819 9,983 5,022 19.5
a. The welfare effect in this table correspondsto the areas delineated in figure A.1.
b. The consumer surplus ratio is the consumer surplus gain divided by the total of domestic
production and the landed value of imports before liberalization.
Source: Authors’ calculations, based on the data in tables 2.1, 3.1, and 3.2. Methodology is
summarized in appendix A.

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The Effect of Liberalization on Employment

Reduced employment in the protected industries would be one of the

major drawbacks of liberalization. The estimated impact of full liberaliza-
tion on employment is reported in table 3.6. We assume that the number
of jobs in the protected industries would drop by the same percentage
as does the quantity of domestic output.7 This translates into job losses
of about 11.2 million, about 26.9 percent of employment in affected indus-
tries, from total liberalization. Meanwhile, without liberalization, each job
retained in the protected industries costs consumers an average of $3,132
annually and creates an average efficiency dead weight loss of $450.
A glance at table 3.6 reveals that potential job losses in wheat are a big
part of the story, perhaps about 70 percent of total losses. In fact, about
85 percent of total losses appear to occur in the agricultural sector, which
includes sugar, rapeseed oil, and wheat. China’s agricultural sector har-
bors surplus labor that accounts for vast implicit unemployment. Wang
Chen (1996) estimated that the rural labor force in China was 446 million
in 1994 and total employment was about 308 million. This leaves implicit
unemployment, or surplus labor, of 138 million, about 31 percent of the
total rural labor force. Potential job losses in the agricultural sector, which
would add to this huge implicit unemployment, help to explain why the
government is reluctant to liberalize trade in cereals and other basic crops.
Our estimation shows that 1.7 million jobs are potentially eliminated
in the industrial sector for the 22 goods studied (15 percent of total losses
for all 25 goods). Furthermore, because the 22 industrial goods that we
study are estimated to account for between one-third and one-half of all
industrial production, we estimate that the total number of industrial
workers dislocated from liberalization would be about 3.5 to 5.0 million.
The total number of industrial labor losses is likely to be overstated,
however, because the calculations do not reflect dynamic benefits. In fact,
if dynamic benefits were included, the calculations would probably show
that trade liberalization increases domestic production in several sectors.
(See appendix E for more analysis of dynamic gains.) Domestic production
of ammonium phosphate, wool and wool tops, and synthetic fiber would
increase by about 40 percent because of liberalization. Using the same
method, employment in these sectors might be expected to increase from
about 1.0 million to about 1.4 million.

7. Because the value of domestic production falls by much more than the quantity, we are
implicitly assuming that the drop in the price of domestic output is absorbed by lower rents
and returns to capital or by lower wages, but not by still greater cuts in the number of
workers. If firms responded to falling prices by using labor more efficiently, the supply
curve would shift downward and domestic output would fall by less. This kind of dynamic
response is certainly possible, but it is not captured in the static methodology used in
this book.

28 THE COSTS OF PROTECTION IN CHINA

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Table 3.6 Estimated effect of liberalization on employment in 1994
Change in
employmenta Cost per jobb
Employment Consumer Total
before surplus efficiency
liberalization Number loss loss
(thousands) (thousands) Percentage (dollars) (dollars)
Food
Sugar 460 –296 –64.3 5,059 964
Wheat 28,000 –7,784 –27.8 269 3
Rapeseed oil 6,057 –1,411 –23.3 539 5
Beverages
Soft drinks 137 –58 –42.1 4,654 525
Inedible raw materials
Plywood 125 –29 –23.5 23,338 1,968
Wool and wool tops 598 –78 –13.1 3,509 168
Synthetic fiber 196 –20 –10.0 30,934 986
Crude oil 979 –192 –19.6 6,330 245
Natural rubber 1,000 –205 –20.5 1,407 173
Synthetic rubber 141 –28 –19.8 6,359 687
Fossil-fuel products
Gasoline 598 –151 –25.3 7,389 615
Diesel fuel 266 –24 –9.2 39,180 208
Chemicals
Ammonium 286 –135 –47.2 7,877 3,208
phosphate
Plastics 787 –238 –30.3 12,890 1,478
Manufactured goods
Rolled-steel final 667 –240 –36.0 49,396 11,586
products
Copper and copper 162 –23 –13.9 14,,268 858
products
Aluminum and copper 207 –77 –37.3 4,559 299
products
Transportation equipment
Motorcycles 144 –31 –21.4 56,721 4,460
Autos (sedans) 109 –43 –39.7 57,808 167
Miscellaneous manufactured goods
Color televisions 176 –14 –8.1 15,859 305
Videocassette recorders 33 –7 –22.2 62,876 7,041
Air conditioners 56 –27 –47.8 76,802 19,131
Microcomputers 81 –6 -6.8 12,500 345
Color tubes 124 –21 –17.0 23,905 1,764
Program-controlled 133 –21 –15.5 38,156 1,383
switchboards
Total/average 41,522 –11,160 –26.9 3,132 450

a. The percentage change in employment is assumed to correspond to the percentage change in

domestic output.
b. The cost of protection per job is defined as the consumer surplus loss (or the total efficiency loss)
divided by the change in employment following liberalization.
Sources: Cost Survey of Farm Products (1993); National Statistics Yearbook (1994); China Auto
Yearbook (1994); and other government and industry information sources.

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 Thus, trade liberalization would do only negligible damage to the
already distorted Chinese industrial labor market (surplus industrial labor
in 1995 was estimated to be about 200 million, 40 times larger than the
largest potential loss from trade liberalization). Nonetheless, the political
consequences of liberalization might prove more significant, because the
political voice of the unemployed factory workers has proven to be several
times stronger than that of the peasants.
Whatever the true size of potential employment losses, to soften the
adjustment shock, China has opted for gradual liberalization. On top of
the huge surplus labor pool, trade liberalization could add 5 million more
unemployed workers in the industrial sector. Many of these workers are
employed in the state-owned enterprises, and it seems likely that workers
in these enterprises will not be summarily laid off. Instead, they may be
retained at the implicit cost of substantial on-the-job subsidies (residence,
health care, pension, etc.). Or they may be gradually furloughed with
severance benefits. Such measures to soften the blow of liberalization
entail a significant implicit cost of liberalization. Moreover, because they
involve public expenditures, government authorities are not inclined to
hasten liberalization.

30 THE COSTS OF PROTECTION IN CHINA

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