Inter-regional barriers and economic growth: Evidence from China

Abstract

This paper examines the impact of a policy reform in China that removed inter-regional market barriers by incorporating counties into larger prefecture-level divisions. Employing a difference-in-differences approach, we compare the economic performance of incorporated counties before and after the reform to two control groups: counties that applied for incorporation but were unsuccessful, and counties that were incorporated at a later time. Our findings suggest that the reform had an immediate and sustained positive effect on the economic growth of incorporated counties. Using firm-level data, we provide evidence that the reform reduced policy-induced frictions, leading to increased regional specialization in industries with comparative advantage, more entries of new firms, and more exits of low-profit-margin firms. Overall, the research highlights the importance of reducing inter-regional market barriers in promoting economic growth in developing countries.