Local Protectionism, Market Structure, and Social Welfare: China's Automobile Market

Abstract

While China has made great strides in transforming its centrally-planned economy to a market-oriented economy, there still exist widespread interregional trade barriers, such as policies and practices that protect local firms against competition from non-local firms. This study documents the presence of local protectionism and quantifies its impacts on market competition and social welfare in the context of China's automobile market, the largest automobile market in the world. Using the census of vehicle registration records, we show that joint ventures and especially state-owned enterprises command much higher market shares in their headquarter province than at the national level. Results from a spatial regression discontinuity analysis at provincial borders, falsification tests, and a consumer survey suggest that this pattern is not driven by differences in consumer preference or dealer network and point to local protectionism such as subsidies of local brands as the leading contributing factor. We then set up and estimate a market equilibrium model to quantify the impact of local protectionism, controlling for other demand and supply factors. According to our counterfactual analysis, local protectionism leads to significant consumer welfare loss arising from choice distortions. In addition, these protective policies are associated with sizable redistribution that favors wealthy households.