China Imports: SF Fed Research Misses the Point

Recently the San Francisco Fed released a new study  entitled “The U.S. Content of “Made in China””.  The study argues that “[g]oods and services from China accounted for only 2.7% of U.S. personal consumption expenditures in 2010.”  This figure was cited approvingly by a large number of publications and bloggers,  including the LA Times, the WSJ,  Fortune, The Street.com,  and  Matt Yglesias,  who writes:

When Americans go buy stuff, they’re overwhelmingly buying things that are made in America:

Sorry, Matt. I’m going to explain why the SF Fed study shouldn’t be taken seriously. In fact, the study has two main flaws:

  • The authors did not distinguish between dollar shares and quantity shares of imports. When imported goods are much cheaper than domestic goods, then the quantity share can be much larger than the dollar share.
  • The input-output tables used by the authors contain no actual information about how much of Chinese imports are going to personal consumption.  In fact, all imports are  divided among sectors by a simple rule known as the “proportionality assumption.”  So in reality,  Chinese imports could constitute much more of PCE–or much less–than the SF Fed economists calculate.

Dollar Shares versus Quantity Shares

So first let me explain the difference between dollar shares and quantity shares. I’ve just finished the second edition revision of my intro economics text, Economics:The Basics.  When explaining the basic concepts of supply and demand to students, it’s always important to clearly differentiate between quantity (as measured in physical units) and cost (as measured in dollars).  The same cost  can correspond to higher or lower quantities, depending on the price.

The same distinction applies to Chinese imports. It is clearly true that Chinese imports are priced lower per unit than the domestic-made products that they replace.  Similarly, China-made imports are much cheaper than the Japan-made or European-made imports that they replace–that’s why U.S. retailers changed their sourcing over the past ten years.

As a result,  if we measure the share of Chinese-made products in PCE, our answer is going to be much different if we calculate the dollar share, versus calculating the quantity share. An example will make this clear. Suppose that a U.S. shirt factory sells 100 shirts at $50 a piece, for a total cost of $5000.  Now suppose a Chinese manufacturer comes into the market and offers to sell an identical shirt for $5 a piece. In the first year, the Chinese manufacturer sells 50 shirts and the American manufacturer sells 60 shirts.  What share of the market do the Chinese shirts have?

Measured in dollars,  the Chinese have 7.7% of the market ($250/($250+$3000)).

Measured in quantity of shirts,  the Chinese have 45% of the market (50/110)

Which share is right?  For sizing the  impact of imports on U.S. jobs and manufacturing, the quantity share is much more relevant than the dollar share.

In fact, it’s very easy to construct examples where the dollar share of imports goes down, but the quantity share goes up. If China offered its imports to the U.S. for a near-zero price, then China’s dollar share of the U.S. would be close to zero (assuming that there was some U.S. manufacturing left) but the quantity share would be close to 100%.

The authors of the SF study are calculating the dollar share, not the quantity share.  That’s why their number seems so low.

In order to calculate the quantity share, we need to know the relative price of Chinese imports compared to equivalent U.S. products. It would also be useful to be able to compare the price of Chinese imports with imports from other countries.  (See a recent article in the  Journal of Economic Perspectives, Offshoring Bias in U.S. Manufacturing). It makes an enormous difference whether Chinese made imports are 5% cheaper than the equivalent U.S. products, or 50% cheaper.

However,  the Bureau of Labor Statistics does not collect such relative price data across countries.  At  no point does the BLS measure the difference in price between a shirt made in China versus one made in Italy or the U.S.  In fact, when the sourcing of a particular  good changes from one country to another,  the import price index often treats it as a new product, even if it is functionally identical.  (Take a look at the BLS explanation of its import price methodology here).

Proportionality Assumption

The second problem with the study is that the government statisticians have no information–repeat no information–about whether an imported goods or service is going to consumption, to capital spending, or being used as an intermediate input.  How could they? That question is never asked on any economic survey form.

Here’s the description of the problem from the official BEA ‘bible’,  Concepts and Methods of the U.S. Input-Output Accounts

Unfortunately, data on the use of imports by industries and final uses are not available from our statistical data sources. Thus, to develop an import matrix, we make the assumption that imports are used in the same proportion across all industries and final uses.

This is what’s known as the “proportionality” assumption. The proportionality assumption is *not* harmless, especially when it comes to calculating the contribution of a single country, such as China, to PCE (see for example the paper here).  It might very well be that Chinese imports are much more concentrated in PCE than the proportionality assumption suggests, especially in areas such as computers where the Chinese are more likely to have a low-end product (Best Buy does not sell U.S.-made supercomputers, do they?)  Or Chinese imports could go much more into investment goods than anyone realizes. The point is that there is no information to make a judgement.

So the calculations of the SF Fed economists are fundamentally based on a huge assumption which may or may not be true.  At a minimum, they should  have offered up their calculation as a range.

BTW, if the SF Fed economists still are prepared to defend their calculations, I’m happy to debate them in any forum.

Comments

  1. You assert that the quantity share is more important, and provide evidence that the two measures differ. I agree, they’re clearly different. I do not see you present any evidence that using the quantity share is ‘better’ or that there’s some bias in ‘dollar share’. The article you link does not contain the phrase ‘quantity share’. My intuition is that dollar share is better. I much prefer to compare dollars because they contain information about quality that simple quantities do not. If hire workers, I’m paying them on basis of how much I can sell their output for, not by how many units they produce. Please provide clarification as to why the bias goes the other way.

    • Mike Mandel says:

      1. Americans benefit from imported goods because they are cheaper than the equivalent U.S. produced good of the same quality.
      2. ‘Cheaper’ means that the cost of buying the same amount is lower.
      3. Dollar share is lower than quantity share.
      4. The impact on U.S jobs and production is correlated with the quantity share, not the dollar share.

  2. Presumably, the dollars that were once spent on manufactured goods are now spent on something else. For this effect to be important to “US jobs” generally, you’d need to show that the ‘surplus’ dollars are not spent on domestically produced goods.

    Maybe another way of saying this is that dollar share lets you adjust for changes in the mix and denominator of the quantity figure.

    • Real wages have declined since 2000, some say since the 1970’s. Given the way health care, education, energy, food, and home prices (until recently) have outpaced inflation, I keep wondering how declining manufactured goods could possibly offset those increases to produce reportedly low inflation, and I find it hard to imagine surplus discretionary dollars for the typical household in this context. After all, not everyone is clothing children, regularly upgrading appliances and cars, or furnishing a home, so they’re hardly gaining from these supposed bargains.

  3. In your example, consumers have 10% more shirts and $1750 left either to spend on hiring the former workers to make new products or to buy bonds to pay unemployment benefits. Paying someone $50 to make a $5 shirt is little better than the worst case of paying them to make nothing. The dollar share is better since the quantity share neglects opportunity costs.

  4. And why should we care about “the impact of imports on U.S. jobs and manufacturing” in those affected industries? We already know they’re hard-hit by the competition, but we also know that the money that US consumers save by having cheaper shirts means they are more likely to go out to eat at US restaurants, creating more and better jobs in that market and many others. You make an argument that the SF Fed economists are miscalculating, but you never argue why the particular miscalculation matters. In fact, almost all of us are better off if the shirts that can be done cheaper abroad are done abroad, while those that can sustain their higher price stay here. The only reason that wouldn’t be the case is if you value the jobs of the few over the well-being of the many, which you apparently do.

    • Mike Mandel says:

      If you really believe the 2.7% number, the amount saved isn’t very much

    • No, because according to your own math, the Chinese are undercutting the US producers by anywhere from 50-90%. So the lower the 2.7% number, particularly when combined with higher unit sales, US consumers are actually saving much more, by not having to pay 2-10 times as much to have US workers produce the same shirts.

      • Mike Mandel says:

        yes, but that’s not the math the SF guys are using. You can’t have it both ways. Either it’s a big number or a small number.

      • Not quite, they don’t address the issue of whether the Chinese are undercutting US producers by 5% or 50%, because they only care about the Chinese dollar share now. You raised the issue of price-cutting because you claim that with bigger price cuts came bigger Chinese unit sales. But if you claim big price cuts that means US consumers are also saving a lot more, so you are the only one trying to have it both ways. :)

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  1. […] Mandel responds with two points in support of the “the sky is falling because we don’t make anything […]

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