*Article* **The China Shock Impact on Labor Informality: The Effects on Brazilian Manufacturing Workers**

**Lourenço S. Paz**

Department of Economics, Baylor University, Waco, TX 76798, USA; lourenco\_paz@baylor.edu

**Abstract:** The vigorous growth of the Chinese economy together with its increasingly successful role in international trade may have profoundly impacted developing countries. This study examines the large increase in the international trade exposure of the Brazilian economy during 2000–2012 to assess the impacts of import competition on its manufacturing formal and informal labor markets. In this period, import penetration grew by more than 20 percent in Brazil, and the share of the import penetration originating in China increased from 3 to 20 percent. At the same time, the share of informal workers in manufacturing declined from 27 to approximately 15 percent. Employing a switching regression model and Brazilian household survey data, this study finds that a greater industry-level Chinese and 'rest of the world' import penetration increases the likelihood of jobs becoming informal at different intensities, and these effects are smaller in unskilled-labor intensive industries and manufacturing states. Additionally, both types of import penetration positively impact the average informal wage. In contrast, the estimates suggest that a larger Chinese import penetration reduces average formal wages, while imports from elsewhere have the opposite effect. The results also indicate that the magnitude of the effects on wages are moderated by the unskilled labor intensity of the industry and whether the worker is located in a manufacturing state.

**Keywords:** Brazil; China; import penetration; informal labor markets; wages

**1. Introduction**

China has experienced an impressive economic transformation in terms of fast economic growth and of increasing participation in international trade since the late 1970s. Indeed, China's share of world trade increased from four percent in 2000 to ten percent in 2012, while the world trade flows expanded by 75 percent (United Nations 2003). This unprecedented expansion in China's exports both in absolute and in relative terms became known as the China shock. This rapid ascension of China as a major manufacturing powerhouse—about 90 percent of its exports are made of manufactured goods (Paz 2018) raised fears of deindustrialization in Latin American and other developing countries. Such concerns are grounded on the fact that China has a huge labor endowment that makes it a labor-abundant country relative to those in the developing world. Moreover, its large domestic market leads to economies of scale that are important in several manufacturing industries (Moreira 2006). These features provide China with a strong competitive edge in world markets.

According to many observers, manufacturing not only generally pays higher wages than agriculture or services, but is also a key contributor to economy-wide productivity growth. Additionally, developing countries typically display a large share of informal workers in manufacturing. These informal workers are usually less productive, paid lower wages, and account for at least a quarter of the manufacturing labor force in countries like Brazil, Colombia, and Mexico (Paz 2014; Dávalos 2019). Since the manufacturing sector is the most exposed sector to import competition, it is paramount to study the effects of globalization on developing countries' manufacturing, separately for formal and informal workers.

**Citation:** Paz, Lourenço S. 2022. The China Shock Impact on Labor Informality: The Effects on Brazilian Manufacturing Workers. *Economies* 10: 109. https://doi.org/10.3390/ economies10050109

Academic Editors: Ralf Fendel, Robert Czudaj and Sajid Anwar

Received: 28 March 2022 Accepted: 4 May 2022 Published: 7 May 2022

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**Copyright:** © 2022 by the author. Licensee MDPI, Basel, Switzerland. This article is an open access article distributed under the terms and conditions of the Creative Commons Attribution (CC BY) license (https:// creativecommons.org/licenses/by/ 4.0/).

In this vein, the case of Brazil is interesting because it is Latin America's largest economy with a sizable manufacturing industry (Araújo and Paz 2014). Moreover, Brazil exhibited during 2000–2012 an increase in its manufacturing import penetration, in excess of 20 percent. At the same time, China's accession to the WTO granted Chinese products better access to foreign markets (Chandra 2014). In fact, the Chinese share of Brazilian imports increased six-fold, from 3 to 20 percent, which made China the largest exporter to Brazil. Interestingly, Facchini et al. (2010) point out that Chinese manufacturing goods seem to be close substitutes of those produced in Brazil. In the 2000–2012 period, the share of informal workers in manufacturing declined from 27 percent to approximately 15 percent in 2012. This is in stark contrast to the increase in informality of 8 percentage points that took place between 1989 and 2000 during the 1990s trade liberalization in Brazil (Paz 2014). In view of these disparate responses to increased import competition, the China shock seems to be a good candidate to explain the distinct response of informality to trade liberalization in the 2000s.

Unfortunately, there are few studies focusing on the impacts of the China shock on formal and informal workers in manufacturing, especially for Latin America. This study represents a step towards, filling this gap by studying how imports from China and from the rest of the world (ROW) affected Brazil's manufacturing labor market in the 2000–2012 period. It combines two strands of the literature. The first strand investigates the effects of international trade on informality and uncovers mixed results, e.g., the cross-country studies by Dávalos (2019) for Latin American countries, Aleman-Castilla (2020) for Mexico, Paz (2014) and Almeida et al. (2022) for Brazil. The other strand of the literature looks at the heterogeneous effect of trade according to the source of the imports. Pierola and Sanchez-Navarro (2019) for Peru and Paz (2018, 2019b) for Brazil find that Chinese imports did impact differently in labor markets in Latin America when compared with imports from elsewhere.

This study conducts a rigorous empirical analysis to examine how the informality of manufacturing employment in Brazil was affected by the changes in the industrylevel import penetration of goods sourced in China and in the ROW. This analysis utilizes household-level data from the Brazilian demographic census and the Pesquisa Nacional por Amostra de Domicilios (PNAD), which comprise detailed employment and demographic information about both formal and informal workers. The methodology employed here follows Paz (2014) by estimating the effects of Chinese and ROW import penetrations on the likelihood of holding an informal job via an IV Probit model, and then employing a switching regression model for estimation of the effects of these types of import penetration on both average formal and informal wages. This specification has the merit of addressing both worker self-selection into formal and informal jobs, and the potential endogeneity of trade policy.

The empirical results indicate that greater industry-level Chinese and ROW import penetrations increase informal job likelihood, albeit at different intensities. Furthermore, these effects are modulated by the unskilled labor intensity of the industry and by the degree of industrialization of the specific Brazilian state. Indeed, in unskilled-labor intensive industries, ROW import penetration has a negative effect on informality likelihood and the Chinese import penetration has no effect, while both types of import penetration have positive impact on the remaining industries. An increase in Chinese import penetration reduces informality whereas ROW import penetration increases it in manufacturing states. In contrast, both types of import penetration positively affect informality in non-manufacturing states.

The effects of import competition on average formal and informal wages are more complex. A larger ROW import penetration decreases the average formal wage, except for in manufacturing states or in non-unskilled-labor intensive industries. In contrast, an increase in Chinese import penetration raises the average formal wage, except in manufacturing states. Both Chinese and the ROW import penetration have positive effects on the average informal wage, but of different magnitudes. Additionally, both have negative effects on

the informal wages of workers located in non-manufacturing states. Taken together, these results suggest that Chinese and ROW import effects on Brazilian manufacturing workers are different, and such heterogeneity depends on the location and unskilled labor intensity of the industry.

The remainder of this paper is organized as follows. The next section provides an overview of trade related policies in Brazil since the 1990s, and describes the data used and their descriptive statistics. The theoretical framework and its corresponding empirical methodology are discussed in Section 3. The empirical estimates are displayed and analyzed in Section 4. Finally, Section 5 presents the conclusions.

#### **2. Policy Background, Data, and Theoretical Framework**

This section provides a brief overview of the changes in trade-related policies that have taken place in Brazil since the 1990s. This is followed by a description of the original sources of each component of the dataset employed here and the respective cleaning and assembly procedure used. Next, descriptive statistics on the evolution of the import competition in the Brazilian economy and its labor market outcomes during the 2000–2012 period are presented. Finally, the theoretical framework that motivates the analysis is laid out and its testable hypotheses are discussed.
