Competition, Openness and Innovation in China – an integrated firm-level model



This paper contributes to the literature by examining the innovation effects of domestic and foreign competition in an integrated model, with a special emphasis on the moderating effects of ownership and productivity. Using a firm-level production and trade tariff linked panel dataset from 387,725 Chinese firms over the 1998-2007 period and China’s WTO entry as an exogenous paradigm change in openness, the paper finds that the innovation effect of competition is stronger in a more open economic system. The innovation responses of these firms to openness-induced competition differ between the pre- and post-WTO entry periods. The innovation effect of a decrease in sectoral input tariffs became positive and significant post-WTO entry. The paper also finds that market concentration has an inverted U-shaped impact on innovation with an optimal Herfindahl level of 15-25%. Ownership and productivity level of the firms also played a significant moderating role, with high-productivity and private firms post-WTO entry both appearing to have a higher level of optimal competition, and both respond positively to higher levels of foreign competitions induced by input tariff reduction in comparison to their counterparts.

Working Paper