# **1 INTRODUCTION**

Trade and labor markets are intimately connected. While labor market functioning is an important factor in a country’s ability to respond to trade opportunities or shocks, there can also be potentially important labor market disruptions when trade integration changes. The focus of this paper is on the responses to shocks, but both realities stem from the fact that changes in trade costs—such as reductions in tariffs or non-tariff measures (NTMs)—produce relatively large resource reallocations and much smaller net gains in economic welfare.<sup>3</sup> “Resource reallocation” in this context means movements of factors of production: workers and capital. So the reallocation effects of trade cost changes can have important human consequences because they involve sometimes substantial movements of people from one task to another, one sector to another, and when activities cluster spatially, from one place to another. This paper aims to identify aspects of trade policy and complementary policies for people, places, and sectors, which can maximize the aggregate economic gains from increased trade integration, while minimizing disaggregated labor market losses.

Talking about the problem in this way makes clear that any government contemplating bringing about a change in trade costs faces two challenges. The first is a familiar aggregate problem: how can policy maximize the gains from trade by allowing resources—workers and capital—to move so as to take advantage of specialization by comparative advantage? But no less important is the second disaggregated problem: how can policy minimize the costs for particular actors, especially workers, involved in that movement? It is important to state from the outset that there is no single, perfect answer to these twin challenges. Indeed, the answers to the two questions sometimes conflict in important ways.

In addition to this two-fold policy challenge within countries, experiences regarding the labor market effects of trade vary between countries. To emphasize such differences in country experiences, it helps to look at one aspect of the literature examining the impacts of increased import competition from China following its 2001 World Trade Organization (WTO) accession. Estimates of the impact vary for the United States, but the key insight is that the biggest changes are at the local level: aggregate impacts are much smaller, though still substantial. A reduced form estimate from Acemoglu et al. (2016) gives the figure of 2.0 million to 2.4 million US manufacturing jobs lost, which translates into a substantial amount of labor market disruption, which in turn means lost jobs and impaired wellbeing. But a similar approach using data for Ethiopia by Ngoma (2022) finds a stunningly different result: increased imports from China translated into major economic gains, including more jobs for Ethiopian workers, with corresponding increases in incomes and well-being.

Better understanding the mechanisms that give rise to these disparate labor market impacts from changing trade costs is a key objective of this paper. Clearly, the United States and Ethiopia differ along many dimensions, so it is important to make an effort to identify which ones give rise to such distinct labor market experiences from closely related changes in policy—in this case reductions in trade costs vis-à-vis China, combined with gains in Chinese competitiveness in a variety of manufacturing sectors. But understanding the underlying mechanisms also matters from a human and

> 3 Anderson and Van Wincoop (2004) define trade costs as the set of factors that drive a wedge between producer prices in the exporting country and consumer prices in the importing country. They therefore include “classical” trade policy factors like tariffs, but also behind-the-border regulations, institutional quality, and other factors that affect the costs of moving goods or services between countries. This paper uses the term “trade policy” broadly to refer to any policy that affects trade costs. It therefore includes standard tariffs and non-tariff measures, but also a range of other policies that affect trade but that do not come under the traditional umbrella of trade costs. The expanding scope of both the World Trade Organization (WTO) and regional trade agreements supports this broad use of the term.

2