Abstract
Abstract This paper investigates the impacts of industrial tax burden and regional industry structure on the effectiveness of the replacing business tax (BT) with value added tax (VAT) policy in China. Using an event study, we find that the stock market reacts positively to the introduction of the replacing BT with VAT policy. Specifically, the market reactions are stronger for the modern service industry than for the transportation service industry because the tax burden in sub-industries of the service sector changes after the shift from BT to VAT. Also, due to disparities in regional industry structure, the policy receives a better reaction in the eastern region than in the central and western regions. We further examine the long-term effects of the replacing BT with VAT policy. The results show that the reform-induced comparative advantages of the first pilot firms in Shanghai diminish gradually as the policy is expanded nationwide. Our findings have meaningful implications for the improvement of the replacing BT with VAT policy and the development of the service and manufacturing industries.
Highlights
Since the implementation of the tax sharing reform in 1994, value added tax (VAT) has become the most important source of tax revenue in China
These results indicate that the stock market does not react strongly to the introduction of the replacing business tax (BT) with VAT policy in Shanghai and that the policy works out differently in the transportation service industry and the modern service industry
The results show that the market reaction to the replacing BT with VAT policy in Shanghai is not significant in the short term and that the policy works better in the modern service industry than in the transportation service industry, providing support for H1
Summary
Since the implementation of the tax sharing reform in 1994, value added tax (VAT) has become the most important source of tax revenue in China. Existing studies focus on the short-term effects of the replacing BT with VAT policy or merely consider the tax burden changes in certain sub-industries of the service sector. Empirical tests demonstrate that the market reacts quite differently to the replacing BT with VAT policy for firms in the western, central, and eastern regions, suggesting that regional industry structure is a key determinant of the effectiveness of the policy. This finding can be useful to local authorities, assisting them to make better use of comparative advantages under the current tax system. The rest of this paper proceeds as follows: Section II puts forward the theoretical analysis and develops hypotheses; Section III discusses the research design; Section IV presents the main empirical results; and Section V concludes the paper
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