Transportation Infrastructure Development and Tax Avoidance: Evidence From a Quasi-Natural Experiment

Abstract

Analyzing the launch of high-speed rail (HSR) services in China as a quasi-natural experiment, we identify a positive externality stemming from the development of transportation infrastructure: the reduction in firms’ value-destroying tax avoidance. Specifically, we find that after the opening of HSR lines to the cities where firms are located, information asymmetry subsides and firms undertake less tax avoidance, which leads to enhanced firm value. In another result consistent with expectations, we document that the impact of the introduction of HSR lines on tax avoidance is concentrated in firms in which insiders exhibit a high propensity to extract rents through aggressive tax strategies. Moreover, we find that the importance of the opening of HSR lines to firms’ tax avoidance is mediated by income shifting, which is the primary technique through which insiders in China elicit private benefits and reduce taxes. Additionally, we also identify the increase in the intensity of site visits that are conducted by institutional investors and financial analysts as an important force that causes the reduction of tax avoidance after the launch of HSR lines. Our results imply that improving transportation infrastructure reduces the cost of external monitoring, which constrains insiders from siphoning private benefits under the guise of tax avoidance that benefits all shareholders as the residual claimants.

Keywords: high-speed railway, geographic proximity, tax avoidance; agency problem

JEL Classification: G34, H26, H54, O18