Local Content Policy and Total Factor Productivity: Evidence from Automobile Component Manufacturing

Abstract

Is industrial policy effective? This issue has been a hot topic in academic circle. This paper focuses on local content policy in Chinese automobile industry in 2005 and combines tax holiday in the same period to empirically analyze their impacts on firm TFP and answer the question above by using micro data of component manufacturing and vehicle manufacturing in Chinese automobile industry from 2002 to 2007. It comes to the following conclusions:firstly, the main mechanism of the TFP improvement of automobile component manufacturers lies in vertical technology spillover effect of vehicle manufacturers on automobile component manufacturers, but the rise in market size and short-term market monopoly degree also leads to the inertia of these component manufacturers in terms of productivity improvement; secondly, there is heterogeneity among the impact of local content policy on firm TFP with different ownership structure; domestic and nonstate-owned firms take more advantages of technology spillover from vehicle manufacturers, and foreign-invested firms benefit more from the rise in market size, while productivity of state-owned firms is not significantly influenced by local content policy; thirdly, the relationship between local content policy and tax holiday shows two sides; under local content policy, FDI that enjoys tax holiday offers more technology spillover to domestic component manufacturers; however, firms that enjoy tax holiday lack the motive for self-improvement on their efficiency. These conclusions above bring some implication to a new round reform in Chinese industry:local content policy is effective to a certain extent, especially for China's strategic emerging industries like high-end equipment manufacturing industry, and the policy orientation is conductive to laying the foundation of the construction of new industries; however, industry policy should not be overused, and its policy-making should place more emphasis on organic combination and complementation of different policy instruments, which can help different policies work together to ensure the efficiency improvement of firms.