Economic Globalization, Local Government Behavior And Domestic Market Segmentation

Openning up is one of the most important decisions during China’s economic transition. A few scholars try to explore China’s domestic market segmentation from the perspective of economic globalization, and draw different conclusions. This paper builds up a dynamic game model under the background of economic globalization, and analyzes how the local governments with local protection motivation react to set up trade barriers in order to maximize their objective functions. The focus of this paper is to investigate the relationship between economic globalization, local government behavior, and domestic market segmentation. Some policy suggestions are put forward based on our theoretical analyses. The measures could be classified into two fundamental types. One measure is to improve the central government’s regulations, and the other measure is to promote the transformation of local government behavior.This paper is greatly different from the existing literature in three important respects. Firstly, we borrow from the classical tariff models, and introduce a foreign region to describe the impacts of economic globalization on the domestic market segmentation. Secondly, we adopt appropriate objective functions to identify different behavior modes of local governments, and analyze how the local government behavior influences the domestic market segmentation. Thirdly, our conclusions differ from the existing literature, as we find that (ⅰ) the increase of the degree of economic globalization will raise the coefficient of trade barriers between different regions,(ⅱ) the increase of the degree of economic globalization will not change trade barriers between different regions,(ⅲ) the increase of the central government’s strength of punishment and the transition of local government behavior from growth-mode to livelihood-mode will reduce trade barriers between different regions. Although there are some studies which focus on the domestic market segmentation under the framework of competition between local governments or center on the domestic market segmentation from the perspective of economic globalization, to the best of our knowledge, there is no literature which unifies economic globalization, local government behavior, and domestic market segmentation in an integrated framework. This paper tries to fill this gap.The policy implications of this paper are reflected in four respects. These four respects are mainly embodied in propositions4and6of this paper. Firstly, the central government should strengthen the construction of legal systems. For example, in order to induce the local governments to escape the dilemma of the bad Nash equilibrium, the central government should restrict the behavior of the local governments within an appropriate boundary on the basis of the enforcement of the established laws, and should punish the local governments if they overstep the boundary delineated by the established laws. Secondly, as far as the effective regulation is concerned, the central government could take some financial measures to punish the local governments who adopt the action to segmentalize domestic market. Specifically, the central government could reduce the fiscal appropriation to the local governments who choose to protect local markets. At the same time, the central government could reward the local officials who do better at integrating the regional market with financial compensation. Thirdly, Thirdly, the sub-national government should accelerate the transformation of government functions. Furthermore, the government should strengthen macro-control and reduce the micro-interference, giving full play of the market mechanism in allocating the economic resources. Finally, the central government should improve the political evaluation system, because it is a dominant strategy for each local government to choose the domestic market segmentation under the present political evaluation system. In order to change this kind of bad Nash equilibrium, the central government could incorporate the reduction of the domestic market segmentation into the new political evaluation system, which could induce the local governments to transform form growth-mode to livelihood-mode.