Globalisation and the Labour Market

Trade, Technology and Less Skilled Workers in Europe and the United States

Robert Anderton, Paul Brenton, John Whalley

• Publisher: Taylor & Francis
• Year: 2004
• eBook ISBN: 9781134362004
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

Incorporating new empirical data and using a wide variety of methods such as econometrics, general equilibrium and case studies, this detailed volume provides a thorough investigation into the causes of the deterioration in the relative economic fortunes of less-skilled workers across various countries, with a focus on the role of globalization.

It reveals how in the past thirty years, the decline in the wages and employment of less-skilled workers relative to skilled workers in Europe and North America has coincided with an acceleration in 'globalization'. The latter's rapid pace is indicated by the strong growth in both world trade and foreign direct investment which, in turn, have been stimulated by various factors such as reductions in trade barriers a drastic decline in the costs of communication and transportation and the internationalization of production. Although it is now widely held that the main cause of this rise in inequality seems to be a shift in demand towards higher skilled workers, this book aims to shed light on whether it is trade or technology that is primarily responsible for this demand shift.

Importantly, the studies in this book describe how globalisation and technological change are interacting rather than separate forces. Topical and timely, this significant book will be a valuable read for academic researchers, analysts and professional economists in the policy making community.

1
Globalisation and the labour market

Robert Anderton and Paul Brenton

Introduction

This book is a detailed investigation into the causes of the deterioration in the relative economic fortunes of less-skilled workers across various countries, with a focus on the role of globalisation. Over the past thirty years, the decline in the wages and employment of less-skilled workers relative to skilled workers in Europe and North America has coincided with an acceleration in ‘globalisation’. As described by Greenaway and Nelson (2000), the rapid pace of globalisation is indicated by the strong growth in both world trade and foreign direct investment (FDI) which, in turn, have been stimulated by various factors such as: reductions in trade barriers; drastic declines in the costs of communication and transportation; and the internationalisation of production.

Although it is now widely held that the main cause of this rise in inequality seems to be a shift in demand towards higher skilled workers, this book aims to shed light on whether it is trade or technology that is primarily responsible for this demand shift. More specifically: has the rapid growth of labour-saving technological progress reduced the relative demand for less-skilled workers; or has increased international trade with lowwage countries—that is, nations with an abundant supply of low-skill and low-wage labour—decreased the demand for low-skilled workers in the advanced industrialised countries? This is not a new question and is part of an ongoing debate which has stimulated a large amount of research on this issue.¹ So far, the majority of studies conclude that it is technology (i.e. skill biased technical change) rather than trade that has been the main cause of growing inequality in the labour market.

Research on this issue has been steadily evolving, initially using rigid traditional approaches but more recently applying richer methodologies accompanied by more appropriate and sophisticated datasets. This has been partly in response to the realisation that actual inequality outcomes and other economic developments have not always been in line with the expectations of traditional models—the real world has turned out to be far more complex! This book tries to move the analysis further forward by including papers which not only widen the methodologies used but also fine tune the analysis by suitably matching the data and techniques used with the questions being asked. It also tries to give the trade explanation for inequality a ‘fair hearing’ by thoroughly investigating the trade mechanisms and recognising the important interactions between globalisation, trade and technology. Accordingly, this chapter begins by describing the traditional trade theories and their weaknesses as well as the benefits of newer approaches. Against this background, the motivation for this book is then further explained along with descriptions of the individual chapters and their value-added.

Traditional analysis

The traditional framework for analysing the mechanisms by which trade may influence wages is the Heckscher-Ohlin-Samuelson (HOS) model incorporating the Stolper- Samuelson theorem. This approach assumes high-skilled workers are abundant in the advanced countries, with low-skilled workers prevalent in the newly industrialising countries and emerging market economies. If trade opens up between the advanced countries and the rest of the world, the theorem predicts that the former group of countries will export high-skill-intensive products and import low-skill-intensive goods. Because of the downward pressure exerted by low-priced imports from newly industrialising/emeiging market economies, this implies that the price of low-skillintensive manufactures relative to high-skill-intensive will decline in the advanced economies. As a result of the decline in relative prices, the theorem predicts that the wages of low-skilled workers relative to that of high-skilled workers will decline in the advanced industrialised countries.²

How well does the HOS model describe the stylised facts? At first sight, the theorem seems to correspond with the observed decline in the relative wages of the less-skilled. But the key condition that there must first be a decline in the relative price of low-skillintensive goods is not clearly evident in the data. For example, Lawrence and Slaughter (1993) investigate developments in US import and export prices and discover that, if anything, the price of low-skill-intensive products rose relative to products using significant amounts of skilled labour (implying, within the HOS framework, that trade contributed to greater equality of wages in the US).³ Meanwhile, Anderton and Brenton (1999a) show that developments in product prices for broad industrial sectors in Germany and the UK also do not provide evidence of the changes in relative prices required for the HOS theorem to explain rising inequality. However, they did find that the relative price of imports of unskilled labour-intensive products did fall in the UK in the 1980s. That is, if low-wage countries had not increased their share of UK imports then the import prices of low-skilled products would have been higher. Even for high-skilled sectors, such as machinery, trade with the low-wage countries has depressed UK import prices, but by much less than that for unskilled-intensive products. The key point remains, however, that increased trade with low-wage countries does not necessarily translate into changes in relative prices. One reason may be that companies in advanced industrialised countries might respond by upgrading the quality of their products in low-skill-intensity sectors in order to escape increasing import competition from low-wage countries, thereby putting upward pressure on domestic output prices in these sectors. Another relevant point highlighted by Anderton and Brenton (1999a) is that price outcomes within broad sectors usually defined as low-skill-intensive, such as textiles, are far from homogeneous.

These points—and, indeed, some of the chapters in this book—highlight the problems of empirically testing the HOS theorem, particularly in terms of defining and precisely measuring an industry in terms of its skill-intensiveness. For example, if the industry sectors which are usually assessed as low-skill-intensive actually differ across their subsectors in terms of their skill requirements, then increased trade with low-wage countries could lead to a decline of the unskilled-intensive activities and the expansion of skill-intensive activities within the sector. Accordingly, the aggregate relative price of the sector may not change much, while the relative employment of skilled labour will increase in the sector even in the absence of technological advances. Furthermore, the HOS prediction that the demand for labour would fall only in the unskilled-intensivesectors seems at odds with the fact that the demand for unskilled workers relative to those with skills has fallen across virtually all sectors in many advanced industrialised countries.

Different approaches

It therefore seems that the strict application of the standard HOS and Stolper-Samuelson theories omits the intricacies of the ways firms and industries in advanced economies adjust to increased competition from low-wage countries. In particular, traditional trade theories such as the HOS theorem primarily explain movements in relative wages across industries, whereas industrialised countries have experienced a dramatic fall in the relative wages and employment of unskilled workers within sectors. Therefore, the impact of globalisation appears to be more complicated than is allowed for within the confines of standard factor proportions trade theory. As a consequence, researchers started to look more carefully at how firms within sectors respond to the more intense competition provided by increased imports from low-wage countries. One explanation of how trade with low-wage countries may push down the relative wages and employment of unskilled workers within industries is provided by the notion of ‘outsourcing’ (see, for example, the seminal papers by Feenstra and Hanson, 1995 and 1996a, b). Outsourcing occurs where firms take advantage of both the low-wage costs of relatively labour abundant countries and modern production techniques—whereby the process of manufacturing a product can be broken-down, or fragmented, into a number of discrete activities—and move the low-skill-intensive parts of production abroad, but continue to carry out the high-skill-intensive activities themselves.⁴ Once the low-skill activities have been performed, the goods are then imported back from the low-wage countries and either used as intermediate inputs or sold as finished goods. Hence, trade with low-wage countries via this route will shift demand away from less-skilled towards skilled workers in advanced industrialised countries, and put downward pressure on the relative wages and employment of low-skilled workers within industries.

Casual but direct evidence suggests that outsourcing plays a significant role in modern production. For example, Nike employs a relatively small number of persons in the US for marketing and other headquarter services, whereas far more people are employed in low-wage countries producing shoes that are sold to Nike.⁵ In their case study analysis, Anderton and Schultz (1999) show that outsourcing of production to low-wage countries is quite common in the medical equipment industry in both Germany and the UK and involves finished goods as well as intermediate inputs.⁶ involves finished goods as well as intermediate inputs. So, theory and case study evidence support the notion that outsourcing may have played a substantial part in the wage and employment prospects of unskilled workers in industrial countries. Is this substantiated by statistical evidence across a range of industries in different countries? Early pioneering work by Feenstra and Hanson (1995 and 1996a, b) used US industry import shares as a proxy for outsourcing in the US. Although they found that the growth of imports explained a notable part of the increase in inequality in the US, Feenstra and Hanson proxied outsourcing by US imports from all countries, which implicitly captures the outsourcing of production activities to high- as well as low-wage countries. However, there is no obvious reason why firms would outsource low-skill-intensive activities—which is the key mechanism by which outsourcing may affect the demand for the less-skilled—to advanced industrialised countries which are relatively abundant in skilled labour.

By contrast, papers such as Anderton and Brenton (1999b, c) and Anderton et al. (2002) explicitly identify imports solely from low-wage countries and use this as a variable for explaining changes in the relative wages and employment of the low-skilled, and thereby more accurately proxy outsourcing to low-wage countries. Using these more accurate measures, the impact of trade on inequality becomes clearer and is more pronounced.⁷ These papers also show that it is important to disaggregate the analysis by industry as outsourcing might be more pervasive in some industries than in others. For example, the scope for outsourcing partly depends on the degree to which production of the final good can be fragmented into discrete stages which embody substantially different factor intensity ratios. This, in turn, will be determined by technological conditions in the industry in question. Hence, whether outsourcing is more prevalent in high or low-skill-intensive sectors is an empirical question.⁸

More recent papers also demonstrate that using appropriate empirical definitions of outsourcing can have an important bearing on the significance and magnitude of outsourcing on inequality. For example, Hijzen et al. (2004) proxy UK international outsourcing by imports of intermediates using detailed data from input-output tables for fifty manufacturing industries. This measure shows that international outsourcing has had a strong negative impact on the demand for unskilled labour in the UK over the period 1982–1996. Strauss-Kahn (2003) also uses input-output tables, but constructs a measure of vertical specialisation—defined as the share of imported inputs in production—and investigates its impact on labour demand in France. Her estimates show that vertical specialisation contributed 11 to 15 per cent of the decline in the share of unskilled workers in French manufacturing employment for the 1977–1985 period and for 25 per cent of the decline during 1985–1993.

In summary, the incentives and the potential to outsource may be greater in either high or low technology/skill sectors, and will depend upon a variety of factors which may differ between countries. It follows that outsourcing and its impact may be quite different across countries, particularly if their labour markets are fundamentally different. One would expect adjustment to increased competition from low-wage countries to occur mainly via changes in the relative wages of the less-skilled in the flexible labour markets of the US and UK, while relative employment is more likely to be affected in the more rigid labour markets of continental Europe.

The contribution of this book

The key message from the earlier analysis is that assessing the impacts of trade and technology on inequality requires flexibility and diversity in terms of the theoretical and empirical approaches used. This is where the motivation for this book becomes clear as the individual chapters make a valuable contribution to research on this issue as they continue the evolution of ideas, methodologies and data applied to this question. They apply a wide variety of economic methodologies—ranging from econometrics, general equilibrium models and case studies—across a broad range of countries in order to answer the above questions on the ‘globalisation-trade-technology-inequality’ debate. By analysing the wage and employment experiences of less-skilled workers across different countries and industries, the book not only attempts to improve our knowledge of the mechanisms by which globalisation and technology might cause inequality, but also seriously contributes to our understanding of how policy-makers might help industries and less-skilled workers to successfully adjust to globalisation and new technology.

The individual chapters constitute a very detailed analysis using, for example, highly disaggregated bilateral trade data combined with detailed industry-level data. This allows distinctions to be made which are important from a theoretical viewpoint, such as distinguishing between, say, high and low-wage country import suppliers, or between skilled-intensive and unskilled-intensive industries. In addition, case studies are undertaken whereby information gained from, for example, visits to manufacturing plants provide detailed information on the impact of technology and globalisation at the firmlevel.

In Chapter 2, Anderton and Oscarsson investigate the reasons behind the increase in inequality between skilled and less-skilled workers in the US by assessing the impact of imports and technological change on the wage bill and employment shares of skilled workers. Using highly disaggregated bilateral trade data, which allows the crucial distinction between imports from high- and low-wage countries at a highly detailed industry level the authors’ econometric results show that rising imports from low-wage countries seem to explain a significant part of the rise in US inequality in low-skillintensive sectors, while technological change (proxied by R&D expenditure) explains the rise in inequality in high-skill-intensive sectors. The authors also find that the technology-based explanation for rising inequality in high-skill sectors is actually partly a trade-based explanation due to mechanisms such as ‘defensive innovation’.⁹

In Chapter 3, Ana Rute Cardoso adopts a less traditional approach by econometrically analysing the impact of trade and technology on the job creation and job destruction of skilled and unskilled workers in Portugal during the 1980s and 1990s. Several variables explaining job flows are included in the econometric specification, namely: competitive conditions in international product markets (proxied by industry import and export prices), technological conditions (proxied by the share of computer related professionals in the industry) and firm attributes that can capture institutional factors, such as the type of ownership of the company, its age, size and location. The results show that technology indicators seem more relevant determinants of job flows than competitive conditions in international product markets. Indeed, firms in technologically more advanced industries have expanded job opportunities for the skilled labour force (as job creation took place at a faster pace than job destruction), while the net employment of unskilled workers in these sectors remained unchanged. Regarding the impact of international trade, import prices are found to have no impact on job creation or job destruction for the unskilled or on job creation for the skilled. Consequently, there is no evidence of the much discussed possible impact of falling import prices on the jobs of the less skilled in Portugal. By contrast, rising export prices for Portugal—pointing to an increase in the quality of Portuguese exports—have been associated with an increase in the relative employment of skilled workers as rates of job creation have been significantly greater than job destruction for skilled workers (with job creation offset by job destruction for the unskilled). Accordingly, the results therefore point to an economy slowly increasing its specialisation in skilled labour-intensive activities in response to developments in Portuguese trade.

Ludo Cuyvers, Michel Dumont and Glenn Rayp, in Chapter 4, investigate the impact of trade with low-wage countries on the wages and employment of various EU countries. The authors’ econometric approach assesses the impact of trade on European wages using a panel econometric approach based on data for 10 countries, 12 sectors (ISIC two-digit level) and 12 years (1985–1996). The results show that only at lower levels of statistical significance does international trade seem to have influenced income inequality among workers, particularly with respect to trade vis-à-vis Asia. By contrast, a Generalised Leontief cost function approach revealed more convincing evidence of a significant influence of international trade on employment demand. For virtually all EU countries, the import competition elasticity of low-wage countries with respect to labor demand is statistically significant and negative. However, the effect of technological change on labour demand is found to be greater than the trade impact, implying that technological innovation matters more for employment than the globalisation of trade.

Yet another informative methodology is applied in Chapter 5 where Lisandro Abrego and John Whalley assess the possible impacts of trade and technology on labour market inequality using Calibrated General Equilibrium (CGE) models. They argue that the exploration of the outcomes of alternative structural models within a CGE framework, rather than reduced form econometrics based models, may be the best way forward to sort out trade and technology effects on wage dispersion. They find that in a differentiated-goods CGE model with perfectly competitive labour markets, increased wage inequality is basically the result of technological change, with trade playing a more limited role. By contrast, incorporating labour market imperfections into the model for unskilled labour significantly changes this result, increasing the relative contribution of trade.

The next three chapters are based...

Table of contents

• Cover Page
• Title Page
• Copyright Page
• Figures
• Tables
• Contributors
• Biographical details of the editors
• Foreword
• 1 Globalisation and the labour market
• 2 Inequality, trade and defensive innovation in the United States
• 3 The impact of increased openness on job creation and job destruction in Portugal
• 4 International trade and the income position of low-skilled and high-skilled workers in the European Union
• 5 Using structural models in trade-technology wage inequality decompositions
• 6 Adjustment to globalisation
• 7 International trade in intermediate inputs
• 8 Outsourcing, outward processing and output quality
• 9 Adjusting to globalisation
• Bibliography