Bunching Responses to Training Expenses Deduction Policy: Evidence from Kinks in China

Abstract

This paper explores firms’ bunching responses to training expenses deduction policy using microdata on Chinese manufacturing firms from 2004 to 2007. By exploiting a bunching method, we estimate elasticities of training intensity with respect to (one plus) the marginal tax rate at the kink points. We provide robust evidence that firms bunch at the kink points and gradually respond to threshold change. Taking the policy compliance into account, the estimated elasticity of fiscal incentive is −0.713 and −0.499 for DOEs and FOEs, respectively. Based on these estimates, we find that if all the training expenses are deductible, the training intensity will increase by 23.5% (DOEs) and 7.5% (FOEs). Heterogeneous analyses indicate that the wage-ratio-based policy may spur more bunching incentives among firms with higher wage bills. Finally, we rule out alternative explanations of tax evasion and relabeling.

Keywords: Training Expenses; Bunching Responses; Fiscal Incentive; Policy Compliance

JEL Classification: J24; M53; H32