1 Global Trade Imbalances, Structural Change and China: What Scope for Fundamental Adjustment? ERIC GIRARDIN* (University of the Mediterranean) ROBERT F. OWEN**+ (University of Nantes) August 2012 Abstract China’s international economic relations have been largely redefined by two apparently parallel developments: a persistent build-up in global trade imbalances, which have triggered acute bilateral policy concerns, and an ongoing profound transformation of the Chinese economy. Policy debates regarding conceivable trade implications of an eventual appreciation of the renminbi have largely focused on aggregate price effects without recognizing the extent to which redefined global production networks and regional economic factors involving China can critically determine the mechanisms of industrial restructuring and, thereby, trade performance. This paper argues that a number of critical factors, notably engendered by an increasingly prominent role of multinational enterprises and redefined international production structures, determine China’s longer-term bilateral and global trade shares. Such mechanisms are argued to potentially offset certain of the effects of bilateral exchange rate changes, and other hypothetical policy prescriptions for alleviating China’s current trade imbalances. More specifically, the highly asymmetric distribution across Chinese provinces of both MNEs’ production and trade activities, reflecting trade-offs between inter-provincial trade costs, wage-cost differentials, technological transfers, and sunk cost investments, are argued to condition macro trade adjustment processes. This motivates empirical specifications for alternative panel estimates, which explain the evolution of both provincial and aggregate international trade shares over the period spanning 1996-2009, and thereby provides a basis for simulating short and longer-term trade adjustment effects of hypothetical exchange rate changes. Keywords: trade imbalances, China, regions, foreign direct investment, exchange rates, structural change JEL Codes: F12, F23, F32, O14, O53 *GREQAM, Faculty of Economics, University of the Mediterranean, 14 Avenue Jules Ferry, Aix en Provence cedex 13621, France, Telephone: 33-42914836. Fax: 33-42914873. E-Mail: eric.girardin@univmed.fr ** LEMNA, Nantes Institute of Economics and Management (I.E.M.N - I.A.E.), University of Nantes, Chemin de la Censive du Tertre, B. P. 52231, 44322 Nantes cedex 3, Telephone: 33-2-40-14-17-61 (direct) et 33-2-40-14-17-17. Fax: 33-1-39-21-90-96. Mobile: 33-676878853 E-mail: robertfowen@gmail.com +Corresponding Co-author Acknowledgement: The diligent research assistance of Sabina Ciorasteanu is greatefully acknowledged. Part of this research was undertaken while the second named author was a Visiting Research Scholar at the ADBI Institute in Tokyo. The associated institutional support is also appreciated.