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Business Research for Business Leaders
09 Jan 2014Working Paper Summaries

Economic Transition and Private-Sector Labor Demand: Evidence from Urban China

by Lakshmi Iyer, Xin Meng, Nancy Qian and Xiaoxue Zhao
One of the key economic and historic events of the late twentieth century was the transition of centrally planned socialist economies to market economies, including the movement of labor from state employment to private employment. The authors examine two questions: 1) What are effective policies for gradually transitioning labor into the private sector? 2) What is the adaptability of labor demand in the new private sector during economic transition? Data from urban China and show that delinking housing benefits from state-sector employment accounts for more than a quarter of the overall increase in labor supply to the private sector during 1986-2005. Furthermore, increasing the private-sector labor supply by 10 percent reduces wages by 1.8 to 3.2 percent. These results have several implications: First, employer-provided housing benefits contribute to reduced labor mobility across sectors, a phenomenon called "job-lock" (similar patterns have been documented for employer-provided health benefits in the United States). Second and more importantly, the private sector, even in its infancy, can absorb a significant amount of labor without large wage declines. However, the projected magnitudes of labor movement into the Chinese private sector are so large that they still imply drastic private-sector wage reductions, if capital and technology movements remain at the same rate as in these data. Thus, to minimize wage reductions, Chinese policy makers may want to consider policies that increase the availability of other factors of production into the private sector, such as greater capital availability or adoption of newer technologies, to raise labor productivity. Key concepts include:
  • China makes an excellent case for study, in part because, in contrast to Eastern Europe, China has experienced considerable variation in the timing of economic reforms across provinces and cities.
  • Using the staggered timing of urban housing reform in China, the authors show that delinking housing benefits from state-sector employment accounts for more than a quarter of the overall increase in labor supply to the private sector during 1986-2005.
  • To minimize wage reductions, Chinese policy makers may want to consider policies that increase the availability of other factors of production, such as capital or technology, in the private sector.
  • Evidence that increasing labor mobility reduces the higher wages earned by private-sector workers suggests that transition may be very unpopular with certain segments of the population despite its potential welfare benefits. Policy makers should bear this mind.
  • Policy experiments and newly available micro-data from transitioning economies can be used to provide well-identified estimates and enhance our understanding of the transition process.

Author Abstract

This paper studies the policy determinants of economic transition and estimates the demand for labor in the infant private sector in urban China. We show that a reform that untied access to housing in urban areas from working for the state sector accounts for more than a quarter of the overall increase in labor supply to the private sector during 1986-2005. Using the reform to instrument for private-sector labor supply, we find that private-sector labor demand is very elastic. We provide suggestive evidence that the reform equalized wages across sectors and reduced private-sector rents.

Paper Information

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