China’s experience suggests that it not how much you export, but what you export that matters.

In What’s So Special about China’s Exports?, Dani Rodrik discusses how the goods China exports are unusual given the characteristics of the country. China, a country abundant in labor and scarce in human and physical capital, exports goods that are three times more sophisticated than what would be normally expected for a country at its income level. Rodrik believes that this sophistication is largely responsible for China’s phenomenal growth over the last twenty five years. China provides an interesting economic lesson because it did not follow the traditional economic advice for development, but instead promoted growth through unique, experimental gradualism policies that other countries may want to emulate.

Rodrik begins by chronicling China’s success over the past half century. China is now one of the world’s biggest trading powers, accounting for 6% of global trade flows. The share of exports in its GDP rose from virtually nothing in the 1960s to close to 30 percent in 2003. This rate of increase is much larger than what is seen elsewhere in the world. Inward direct foreign investment has risen from close to zero in the early 1980s to around 5 percent of GDP. These prognosticators suggest that China’s trade and economy will continue to grow and make China an ideal economic case study.

Rodrik creates a formula to show that China’s export basket is not only growing but is indeed unusual. Generally, wealthier countries produce more technological-intensive goods because they have the required capital initially. Also, in a more structured market, an entrepreneur has greater incentive to invest because he or she will be able to capture the benefits of his or her investment. The market is less likely to collapse, and the risk that the idea will be stolen and copied is smaller. Despite China not having these qualities, it still has been able to export sophisticated goods.

Rodrik uses an indicator she calls EXPY to demonstrate how GDP per capita is correlated with the overall sophistication of a nation’s exports. EXPY is calculated by computing the weighted average of the incomes of the countries producing a certain commodity to generate a value called PRODY and then taking the weighted averages of the each PRODY to create EXPY for each country. Her EXPY value incorporates data from the PRODY of 5000 commodities. The correlation coefficient between GDP per capita and EXPY values is strong at 0.83.

China stands out the most, with India following second. Rodrik believes that the fact that these two high-performing economies have export profiles skewed towards high productivity goods is not a coincidence. She determines that in 1992, China’s exports were associated with an income level that is more than six times higher than China’s per-capita GDP at the time. However, income has risen more quickly than sophistication so this number has now dropped to three.

From the EXPY studies, Rodrik deduces:

1. There is a robust relationship between the initial level of a country’s EXPY and the subsequent rate of economic growth experienced by that country. The estimated coefficient implies that a doubling of the productivity of a country’s exports increases its overall per-capita GDP growth by 6%. Therefore, had China exported only those goods that countries at China’s level of income tend to export, its growth rate would have been significantly lower. A high level of EXPY does not fully account for China’s growth performance over this period but it does help explain it.
2. Having a larger populations improves EXPY. Larger economies have more entrepreneurs engaged in discovery, and therefore, everything else being the same, will have more productivity.
3. There is at best a very weak positive partial correlation between EXPY and the stock of human capital and virtually no partial correlation with institutional quality (i.e. the “rule of law.”)

The author also focuses on how China ignores the standard economic advice for helping developing countries to grow and adopts its own policy. This policy should be studied because other countries are trying emulate China and it must learn from its own policies in order to continue its growth.

The standard recommendations for developing countries pursuing growth are:

1. dismantling quantitative restrictions on imports
2. reducing import tariffs
3. making the currency convertible for transactions
4. eliminating bureacratic red tape and other impediments to direct foreign investment
5. improving customs procedures
6. establishing the rule of law

Measured by these guidelines, China’s policies should produce a disaster instead of such a competitive threat in the world market.

China opened up to outsiders gradually, and significant reforms lagged behind growth by at least a decade or more. Although monopoly state trading was liberalized relatively early beginning in the late 1970s, China used a complex and highly restrictive set of tariffs, non-tariff barriers, and licenses that were not relaxed until the 1990s. Rodrik does not believe that these policies of China should be imitated but says that they are interesting nonetheless. She believes instead that China’s use of foreign investors to spur domestic capabilities can be used by other developing countries to promote growth.

Rodrik reviews the development of the Chinese consumer electronics industry to illustrate the statistical picture she developed in previous sections and to highlight the role of government policies. She believes that this aspect of China’s evolution is reproducible and should be emulated by other countries that are hoping to grow. China’s success in consumer electronics stands out as one industry where one would not expect a country of China’s income a priori. Although low labor costs improve China’s comparative advantage in technology, they alone cannot account for China’s achievement. China’s factories have steadily diverged from being simply an assembler of components (where the low labor costs help the most) to becoming a place where the complete product is manufactured.

Rodrik emphasizes that foreign investors figured prominently in this evolution and other countries should consider adopting these policies. China created special economic zones where foreign producers could operate with good infrastructure and with minimum hassle. Although it welcomed foreign companies, it did so with the goal of promoting domestic capabilities. To achieve this domestic growth, China’s policies ensured that technology transfer would take place and strong domestic players would emerge. Early on, reliance was placed predominantly on state-owned national firms. Later, foreign investors were required to enter into joint ventures with domestic firms (e.g. mobile phones and computers). Domestic markets were protected to attract Chinese investors. Intellectual protection laws were weakly enforced and this helped domestic producers to imitate foreign technologies. Also, localities received substantial freedoms to tailor their own policies, which led to the creation of industrial clusters in particular areas of the country. This idea of learning from foreign investors is reproducible, and Rodrik recommends other countries adopt this idea.

Rodrik concludes that sooner or later China will have to “discover” new products to sell if it plans on continuing its spectacular growth. Part of the reason China has been growing so fast is that its technology was behind the developed world but foreign investors helped China catch up. She is optimistic, however, that China will find ways to prevent its growth from running out of steam.