In this study, we analyze the effects of a decrease in unskilled labor in China on the direction of innovation in the US by incorporating production o¤shoring into a North-South model of directed technical change. We find that if offshoring is present (absent) in equilibrium, then a decrease in unskilled labor in the South would lead to skill-biased (unskill-biased) technical change in the North. This finding highlights the different implications of o¤shoring and conventional trade on innovation. Furthermore, we find that an increase in the Southern stock of capital reduces offshoring and also leads to skill-biased technical change. Therefore, rapid capital accumulation and a decrease in unskilled labor in China could both lead to a rising skill premium in the US. Calibrating the model to China-US data, we find that a 1% decrease in unskilled labor (1% increase in capital) in China leads to a 0.8% (0.6%) increase in the skill premium in the US under a moderate elasticity of substitution between skill-intensive and labor-intensive goods.
