Policy Brief: Reverse Brain Drain?

Traditionally, the so-called “brain drain” has flowed from developing to advanced economies. Now, thanks to increasing digitalization and, not least, to the covid pandemic, this will no longer be the case—and it will have noticeable effects on some labor markets. This is particularly evident in the labor market relationship between China and the European Union.

Looking back, the way China affected the European labor market since the 1990s has been rather different. Trade exposure to China, for instance, benefited highly skilled German workers but hurt low-skilled ones,[1] a finding reinforced from a different angle by a study that shows that import penetration of final goods from China has had negative effects on manufacturing employment in France, Germany, Japan, South Korea, the United Kingdom and the United States. Conversely, import penetration of intermediate inputs from China can have positive effects that might even outweigh the negative effects in some of those countries, thanks to exports to China of the resulting final products.[2]

But things are changing. China is rapidly evolving from a developing to a developed economy, featuring rising labor costs and a manufacturing sector that is moving from labor-intensive to capital- and technology-intensive. Services, in turn, are taking on a more prominent position alongside manufacturing. Furthermore, the digital transformation of work and the long closure of Chinese borders combined to show that the organization of labor need no longer be restricted to particular places or hindered by borders.

As a result, European high-skilled workers in the near future will likely provide services to Chinese domestic firms remotely, without having to leave their home countries. To explore this question, we developed a model to examine how China’s digital transformation might differ in its effects on the European labor market compared with a standard model with international migration.

Our results suggest that in a digital economy, the increasing sophistication of the Chinese economy, coupled with online international job search and matching and with the possibility of working remotely, will raise China’s demand for foreign high-skilled workers, stoking the competition to attract them. This, in turn, will increase the tightness in the high-skilled segment of the European labor market, but not in the low-skilled one.

China’s Transformation

While China’s decades-long high GDP growth rates have lessened as a result of its covid response, the composition of its GDP has undergone a massive change. In the ten years to 2019, the service sector rose 10 percentage points to 54.3% of GDP, whereas the manufacturing sector declined from 46.5% to 38.6% over the same period. GDP composition in Europe, in contrast, remained practically unchanged.

In terms of technological development, China became the world’s largest robot market in 2016 and, just a year later, robot density in its manufacturing industry surpassed the world average. China is also a major player in the digital and platform economies.

A similar change is underway in China-EU trade patterns. While China continues to be one of the EU’s most important trade partners, as third-largest importer of European goods and largest exporter to Europe, the role of higher-value-added Chinese goods such as telecommunications gear (29.3% of the total as of 2021) and transport equipment (19.8%) has made inroads against lower-end products.

This fast-paced development has turned China into an active competitor for talent, an aspect previously dominated by advanced economies. An additional element that adds urgency to this search for talent is that, despite China’s rapid increase in tertiary-educated workers in the last couple of decades, the 15% gap with the EU still prevalent in 2020 represents a sizable skills shortage.

The outlook is also worrisome: China’s dramatic demographic evolution, with its population shrinking for the first time in more than half a century and its median age on the rise, will reduce the supply of both high- and low-skilled workers. Furthermore, increasing robotization and automation will eliminate some traditional routine jobs, at the same time as they create skill-intensive routine and non-routine jobs. Finally, the transition from “world factory” for low-end products to an exporter of high-end technology and services will result in greater demand for professionals with specific talents.

Standard and Modified Models

We examine two benchmark models: a standard one in which high-skilled workers from Europe consider working in China through international migration, and a modified one in which high-skilled workers in Europe provide services to Chinese firms remotely, without having to migrate to China.

In the first model we assume, first, that high-skilled European jobseekers, both employed and unemployed, have an increased probability of migrating to work for a Chinese firm. Second, that the stronger demand for high-skilled labor from China has differing effects on European labor markets.

High-skilled workers, defined as those with tertiary education, can look for jobs in both the European and the Chinese labor markets, performing such jobs through international migration. Low-skilled workers, in turn, can only be employed by European firms. We further assume that each migrating high-skilled worker is replaced by an identical unemployed one, such that the European labor market’s skill pool is unchanged by international migration.

There are two channels through which an increase in the probability of a successful match between European high-skilled workers and Chinese firms can affect wages and unemployment rates. The interaction of these two channels determines the end results.

First, an increase in the probability of top skills moving to China for work discourages the creation of high-skilled jobs in Europe, decreasing thereby the tightness of the local high-skilled labor market. This leads to lower wages and higher unemployment rates among the highly skilled.

Second, this eventually raises the marginal product of high-skilled labor and lowers that of low-skilled labor. This complementarity-substitutability channel enhances the potential profits of opening high-skilled job positions, which induces the creation of high-skilled jobs and increases labor market tightness. For the low-skilled workers, the opposite is true. Wages and unemployment rates, as a result, adjust in accordance with changes in market tightness.

In the second model, we assume that high-skilled workers are matched with two sources of high-skilled jobs: European and Chinese firms. Digital platforms facilitate international hiring and outsourcing,[3] as well as job-search-and-matching, partly eliminating physical boundaries in the process. Digital technologies also make it possible to provide services remotely.

In this model, two kinds of jobs are created in the high-skilled labor market: one by European firms in the traditional offline labor market, and one by Chinese firms through an online labor market. High-skilled workers seek potential matches in both markets. And, thanks to China’s digital transformation and industrial upgrading, the demand for high-skilled labor there is high. If the European high-skilled workers find matches with a Chinese firm, they can supply their labor to the Chinese firm without migrating to China.

After calibrating our model to match European data for the period 2012-2021, for the standard model we simulated the effects of an increase in the probability of migrating to work in China, while for the modified digital-economy model we simulated the increase in job vacancies in the online high-skilled labor market.

As Figure 1 shows, an increase of migration probability from 0 to 0.02 significantly reduces the tightness of the European high-skilled labor market and moderately decreases that of the low-skilled labor market. This indicates that wages and the employment rate of both the high- and low-skilled labor markets decrease as the probability of working abroad in China rises.

The modified model, which features job vacancies by Chinese firms through an online labor market coupled with the possibility for high-skilled workers to work remotely, shows a positive correlation between increased job vacancies in China and European market tightness and wages (Figure 2). Consequently, the European unemployment rate among the high-skilled drops, increasing market tightness in that segment. This occurs despite the fact that the option for the high-skilled to take a Chinese job discourages the creation of high-skilled positions by European firms, which indirectly reduces market tightness somewhat.

The low-skilled labor market, however, responds only moderately to the expansion of high-skilled job offers through the complementarity-substitutability channel, as shown below.

Conclusion

In a traditional economy, a high-skilled worker can only take a position in China through international migration. Our results suggest that, in this scenario, the development of the Chinese economy and the associated increase in the demand for high-skilled work reduces the tightness of both the high- and low-skilled European labor markets, but the decrease in the high-skilled labor market is more significant.

A digital economy, in contrast, offers the possibility of online international job search and matching, as well as working without having to migrate. In this case, the demand and competition for high-skilled workers from China increases the tightness of the European high-skilled but not the low-skilled labor markets.

In the digital era, therefore, China can more easily benefit from high-skilled European workers, without causing significant upheaval in European labor markets.

But is this a sort of reverse brain drain? Where is the benefit for Europe? Given that in a digital economy the European high-skilled workers do not migrate to China, this is in effect a European service export, where the proceeds of such exports accrue in Europe and the income generated is taxed in Europe.

It can be viewed, thus, as a win-win from an ever expanding globalized digital economy.

 

[1] Dauth, W., Findeisen, S., and Suedekum, J., 2021. “Adjusting to Globalization in Germany,” Journal of Labor Economics, 39(1), 263-302.

[2] Kozo Kiyota, Sawako Maruyama and Mina Taniguchi, 2021. “The China Syndrome: A Cross-Country Evidence,” World Economy, 44(9), 2758-92.

[3] Goldfarb, A., and Tucker, C., 2019. “Digital Economics,” Journal of Economic Literature, 57 (1), 3-43.