Escaping Import Competition and Downstream Tariffs in China

Ann Harrison, Professor of Business Economics and Public Policy, Wharton School of Business, University of Pennsylvania

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This research proposes and provides evidence for a new source of gains from trade: Firms invest in product differentiation to escape import competition. In the data and in the model, these investments are associated with increases in measured productiv- ity, introduction of new goods, and shifts to skill-intensive sectors. Investment in differentiation downstream leads upstream firms to also invest in differentiation. For China, these “downstream tariff” reductions increase the measured productivity of suppliers by more than they increase the productivity of firms directly competing with imports.