“Fiscal Incentive: Testing for China’s Sub-national Governments” by Jin WANG
London School of Economics and Political Science
This paper evaluates the fiscal incentive faced by China’s sub-national governments. In 1994, Chinese sub-national governments engaged in one of the largest fiscal reforms in record, which set marginal sharing rates of budgetary taxes across provinces to a uniform level. Using panel data between 1980 and 2005, I exploit heterogeneity in the pre-reform marginal sharing rates of budgetary revenue across provinces to test the impact of marginal sharing rate change on local governments’ tax enforcement effort and extra-budgetary revenue collection effort. In 1994 tax separating reform, regarding the budgetary revenue category, for business tax and enterprise income tax, provinces with lower starting level experienced larger increase in marginal sharing rate, and exhibit higher efforts; for value added tax, provinces with lower starting level experienced smaller decrease in marginal sharing rate, exhibiting higher efforts. Regarding extra-budgetary revenue category, provinces with lower pre-existing sharing rates in budgetary tax put more effort in collecting extra-budgetary revenue before 1994 and put less effort after the 1994 reform relative to provinces with higher pre reform sharing rates. The results suggest that, China’s local governments treat budgetary tax collection and extra budgetary revenue collection as substitutes.