Government Extraction and Firm Size: Local Officials’ Responses to Fiscal Distress in China

52 Pages Posted: 10 Aug 2015 Last revised: 29 Apr 2020

See all articles by Yu Liu

Yu Liu

Fudan University - School of Economics

Date Written: April 24, 2018

Abstract

This paper studies how government extraction behaviors respond to local fiscal distress in China. We exploit the 2002 Chinese Income Tax Reform which exogenously cut local government revenues from income taxes by roughly half. We find that, when facing fiscal distress, local officials resort to informal taxes, such as fees and levies, to supplement revenue. In comparison, we do not find comparable increases in formal taxes. On average, the increase in informal taxes recovered 75 percent of the local government revenue loss due to the reform. The increases are more pronounced along the intensive margin and are primarily driven by more informal tax extractions from large firms. We also find that the reform led to reductions in investment and growth rates of small firms and consistently more small firms in the total size distribution.

Keywords: Government extraction, informal tax, firm size, 2002 Chinese Income Tax Reform

JEL Classification: H32, H71

Suggested Citation

Liu, Yu, Government Extraction and Firm Size: Local Officials’ Responses to Fiscal Distress in China (April 24, 2018). Journal of Comparative Economics, Vol. 46, No. 4, 2018, Available at SSRN: https://ssrn.com/abstract=2641460 or http://dx.doi.org/10.2139/ssrn.2641460

Yu Liu (Contact Author)

Fudan University - School of Economics ( email )

600 GuoQuan Road
Shanghai, 200433
China
02165642263 (Phone)

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