Fiscal Incentives and Policy Choices of Local Governments, Evidence from China

53 Pages Posted: 21 May 2015

See all articles by Li Han

Li Han

Hong Kong University of Science & Technology (HKUST) - School of Humanities and Social Science; Hong Kong University of Science & Technology (HKUST) - School of Science

James Kai-Sing Kung

The University of Hong Kong - Faculty of Business and Economics

Date Written: January 13, 2015

Abstract

This paper examines how fiscal incentives affect the policy choices of local governments in the context of China. Based on exogenous changes in the intergovernmental revenue sharing scheme, we construct a simulated instrumental variable to resolve the endogeneity problem. We find evidence that local governments shifted their efforts from fostering industrial growth to "urbanizing" China, i.e., to developing the real estate and construction sectors, when their retention rate of enterprise tax revenue was reduced. The increase from the new revenue source compensated for half of the losses in revenue that resulted from the reassignment of fiscal rights. The reassignment had also the effect of retarding the industrial growth of domestically-owned firms in particular.

Keywords: fiscal federalism, fiscal incentives, revenue sharing, local governments, land conveyance, urbanization, simulated instrumental variable

JEL Classification: H77, H70, H39

Suggested Citation

Han, Li and Kung, James Kai-Sing, Fiscal Incentives and Policy Choices of Local Governments, Evidence from China (January 13, 2015). HKUST IEMS Working Paper No. 2015-13, Available at SSRN: https://ssrn.com/abstract=2607777 or http://dx.doi.org/10.2139/ssrn.2607777

Li Han

Hong Kong University of Science & Technology (HKUST) - School of Humanities and Social Science ( email )

Room 2338
Clear Water Bay
Kowloon
Hong Kong

Hong Kong University of Science & Technology (HKUST) - School of Science ( email )

Room 6515, 6/F, Lifts 25/26
Clear Water Bay
Kowloon
Hong Kong

James Kai-Sing Kung (Contact Author)

The University of Hong Kong - Faculty of Business and Economics ( email )

Pokfulam Road
Hong Kong
China

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