Technological Change and Wages in China: Evidence from Matched Employer–Employee Data

• Author: Russell Smyth,Vinod Mishra
• Published date: 01 February 2014
• DOI: http://doi.org/10.1111/rode.12073
• Date: 01 February 2014

Technological Change and Wages in China:

Evidence from Matched Employer–Employee Data

Vinod Mishra and Russell Smyth*

Abstract

The relationship between research and development (R&D) intensity and wages is examined using a

unique matched employer–employee dataset. The ordinary least squares estimates suggest that a one

standard deviation increase in R&D intensity is associated with an increase in the hourly wage rate

between 3.4% and 6.9% for the full sample, depending on the exact specification. The instrumental vari-

able estimates are that a one standard deviation increase in R&D intensity is associated with an increase in

the hourly wage rate between 5.5% and 11.4%. The wage elasticity with respect to R&D intensity is found

to be higher in larger firms as well as for better educated workers and workers with technical skills. Consist-

ent with the rent-sharing hypothesis it is also found that the wage elasticity with respect to R&D intensity is

higher for workers who belong to the Communist Party or union.

1. Introduction

There is widespread recognition that investment in research and development (R&D)

requires an educated and skilled workforce (Dunne and Schmitz, 1995). However, to

this point, most studies that have examined the effect of technical change on wages

have done so for developed countries and, in particular, Europe and the USA. Few

studies exist for developing countries or post-socialist transition countries (exceptions

are Liu et al., 2004; Kuku et al., 2007; Patrinos and Sakellariou, 2003). This is some-

what surprising given that many developing countries are struggling to make the tran-

sition from being cheap manufacturing bases to higher value added production. A key

issue in making this transition is whether these countries have the human capital base

to absorb investment in research and development.

China provides a good case for this study. China has traditionally been referred to

as the “world’s factory” because it was thought to have an abundance of low-cost

labor, but there is now increasing thought being given to the idea that China’s role

as the “world’s factory” is nearing an end, reflecting structural change in the labor

market and rising wages. With an increasing number of higher education graduates,

debate centers on whether China can move up the value added chain and become

competitive in business process services and complex manufacturing technologies.

There is much conflicting anecdotal evidence on whether China can so do. On the

one hand, in the National Guidelines for Medium and Long-term Plans for Science

and Technology Development (2006–2010), the Chinese government made it clear

that it sees science and technology as the key driver for economic growth and stated

that it wants China to be an innovation-oriented nation by 2020 (Chinese Ministry

of Science and Technology, 2006). The official rhetoric is reflected in growing

expenditure on R&D. China is now a world leader in R&D, having surpassed Japan

* Mishra: Department of Economics, Monash University, VIC 3800, Australia. Tel: +61-3-99047179; Fax:

+61-3-99047179; E-mail: vinod.mishra@monash.edu. Smyth: Monash University, VIC 3800, Australia.

Review of Development Economics, 18(1), 123–138, 2014

DOI:10.1111/rode.12073

© 2014 John Wiley & Sons Ltd

to have the second highest R&D expenditure in the world after the USA (Battelle,

2010).

On the other hand, there is wide acknowledgement that China has a skill shortage

and that there is a serious mismatch between the training that graduates from China’s

universities are receiving and the attributes for which employers are looking on both

the manufacturing and R&D sides. Farrell and Grant (2005) have characterized the

problem as “the shortage among plenty”. These authors suggest that it is unlikely

China will be able to climb the value added ladder because only 10% of Chinese pro-

fessionals with at least seven years of experience have the skill set to work for higher

value-added firms. China’s talent vacuum is particularly acute in the 45–55 age group,

reflecting the lasting adverse legacy of the Cultural Revolution on China’s human

capital base (Simon and Cao, 2009). The global financial crisis did not dampen the

demand for skilled labor. This phenomenon is reflected in firms across the board

paying higher wages to attract talent. According to the Boston Consulting Group

(2011) Chinese wages have increased 15–20% per annum since 2000. Wages in the

Chinese information and communications technology (ICT) sector have been con-

verging with international levels in Europe and the USA with headhunters in Beijing

and Shanghai reporting that Chinese firms such as Datang, Huawei and Lenovo are

paying wages close to those available in the USA, in order to attract qualified workers

to their engineering design units and R&D laboratories (Simon and Cao, 2009).

If investment in R&D requires a more skilled workforce, it follows that firms that

invest more in R&D should pay higher wages. This paper seeks to answer the ques-

tion: “Do firms using the most advanced technology, reflected in R&D intensity, pay

higher wages?” The contribution of this paper is threefold. First, we seek to establish

whether the wage–R&D intensity profile documented for other, predominantly devel-

oped, countries holds for China. Second, assuming a positive relationship between

R&D intensity and wages, we empirically explore alternative theoretical explanations

for this relationship. Third, we use a unique micro-level dataset that links firm-level

investment in R&D to individual employee wages, rather than use industry-level

investment in R&D and plant level data on wages. Our approach has advantages

over studies that have used average data at the plant or firm level. In the case of the

latter, individual worker characteristics that might influence their productivity and,

therefore, their wages cannot be taken into account, and certain characteristics of

the workplace, such as size of the firm, that might call for compensating wage

differentials,cannot be captured.

2. Relationship Between R&D Intensity and Wages

A positive relationship between R&D intensity and wages is based on the technology-

skill complementarity hypothesis, which states that investment in R&D will increase

the demand for skilled workers and, as a result, increase the average wage. Techno-

logical change represents a shock to the production environment, which means that,

at least in the short run, job tasks and operating procedures become less well defined.

Workers with higher human capital and training will be better placed to adjust to

technological change. When a firm invests in R&D, it increases the demand for learn-

ing by its employees, while employees with higher human capital are better able to

learn (Bartel and Lichtenberg, 1987; Allen, 2001). However, even within groups of

workers with a given level of human capital, there will be considerable heterogeneity

in ability and effort. Within groups of workers with a given level of human capital,

employers will seek the hardest working and most talented workers,

124 Vinod Mishra and Russell Smyth

© 2014 John Wiley & Sons Ltd