Productivity Growth of the Nontradable Sectors in China

• Published date: 01 November 2014
• DOI: http://doi.org/10.1111/rode.12109
• Author: Dong He,Tommy Wu,Wenlang Zhang,Gaofeng Han
• Date: 01 November 2014

Productivity Growth of the Nontradable Sectors

in China

Dong He, Wenlang Zhang, Gaofeng Han, and Tommy Wu*

Abstract

Little is known about the total factor productivity of the nontradable sectors in China. In this paper we esti-

mate productivity growth of the nontradable sectors by studying the relative price movements of the

nontradable sectors vis-à-vis the tradable sectors, i.e. changes in the internal real exchange rate. We find

that prices of the nontradable sectors have risen significantly faster than those of the tradable sectors since

China’s accession to the WTO, and as a result China’s internal real exchange rate has appreciated faster

than the renminbi real effective exchange rate. We also find that the nontradable sectors have seen much

lower productivity growth than the tradable sectors. We argue that it is important to raise China’s produc-

tivity growth in the nontradable sectors through policy actions to achieve growth rebalancing and contain-

ing inflationary pressures in the medium run.

1. Introduction

Productivity growth in the nontradable sectors has important implications for future

growth and longer-term inflation in Mainland China (henceforth China). A successful

change of economic structure in China to become a consumption-based economy will

depend largely upon growth of nontradable sectors and the increase in the share of

labor income in total output. As laid out in the 12th five-year plan, the Chinese gov-

ernment has pledged to rebalance the growth pattern by promoting domestic final

demand and developing the service sector. At the same time, nontradable sectors

productivity growth also matters for China’s longer-term inflation as these sectors,

which are typically labor intensive, are expected to expand for the years to come.

Growth in labor productivity in the nontradable sectors needs to be high enough to

absorb the increase in nominal wages and hence contain inflationary pressures.

Yet, little is known about productivity of the nontradable sectors in China. It is

widely known that inputs and outputs in service sectors are difficult to quantify. In

particular, China’s service sectors outputs have often been underestimated and

employment data is problematic, especially for those years of deep structural reforms.

Against this background, we estimate the total factor productivity (TFP) growth of

nontradable sectors indirectly using the relationship between the internal real

exchange rate (IRER), or the price of nontradable goods relative to tradable goods,

and the productivity differentials between tradable and nontradable sectors.

Achieving higher labor productivity in nontradable sectors hinges not only on

efforts to expand the investment in services, but also on the TFP growth of these

* Wu (corresponding author), He, Zhang, Han: Research Department, Hong Kong Monetary Authority,

55/F Two International Finance Centre, 8 Finance Street, Central, Hong Kong S.A.R. E-mail: ttowu@

hkma.gov.hk. The authors would like to thank the anonymous referee for useful comments and are grateful

to Kai Guo, Isabel Yan, Shang-Jin Wei, Nigel Chalk, and seminar participants at the People’s Bank of

China and the Hong Kong Monetary Authority for their comments. The views and analysis expressed in

this paper are those of the authors and do not necessarily represent the views of the Hong Kong Monetary

Authority.

Review of Development Economics, 18(4), 655–666, 2014

DOI:10.1111/rode.12109

© 2014 John Wiley & Sons Ltd