There are two other reasons why Hong Kong re-exports from China to the U.S. are larger than Chinese exports to Hong Kong: smuggling, and transfer pricing. Smuggling would lead to this discrepancy if it were recorded in Hong Kong but not in China. Since we will be making use of the Hong Kong re-export values in this study to correct the Chinese trade values, we will have taken smuggling into account, provided that it is recorded in Hong Kong. (If it is not recorded in China or Hong Kong, but is recorded as an import into the U.S., then we are not able to correct for this). On transfer pricing, it is commonly asserted that many companies in China under-price their export invoices (with the help of the Hong Kong re-exporters) to transfer profits out of China into Hong Kong. There are a whole array of reasons for this capital flight. Chinese managers use invoice under-pricing for “round-tripping” where the transferred profits return to China under the guise of foreign investments in order to reap the tax concessions offered to foreign enterprises and joint-venture companies. They use invoice under-pricing to diversify (internationalize) their companies’ portfolios to reduce risks. Foreign partners of joint-ventures in China use invoice under-pricing to reduce the level of book profits which they share with the Chinese partners. fast cash payday loans
Given that there is some value-added in Hong Kong, that activity should be properly recorded as an export from Hong Kong – not from China. The U.S. Department of Commerce does not follow this practice, however. The United States counts the total value of goods from Hong Kong, that originated in China, as Chinese exports, so that it is implicitly ignoring the value added in Hong Kong. For this reason, the trade deficit with China reported by the U.S. is overstated. On the other hand, China is unable to count all of the goods leaving its country, and destined for the U.S. via Hong Kong, as an export to the United States. For this reason, the value of the U.S. trade deficit as reported by China is understated. In order to estimate the “true” value of the deficit, it is necessary to compute the value-added in Hong Kong on goods shipped from China to the U.S., and also in the reverse direction. Attributing this value-added as an export from Hong Kong, the discrepancy between the U.S. and Chinese magnitudes of the bilateral trade deficit can be substantially reduced. In the following section we proceed to estimate this value-added.