Value-Added Tax Reform, Markup Dispersion and Resource Allocation

Abstract

As an important part of the proactive fiscal policy, tax reduction is a powerful means for a country to implement macro regulations. The Chinese government has always taken reducing the corporate tax burden as the main content of structural adjustment and growth promotion. Especially in recent years, the policy of slashing tax and fee reduction has been implemented one after another, in order to enable enterprises to really lightweight, effectively reduce their tax burden, improve their business performance, and thus drive the vitality of the whole economic market. It is undeniable that the transformation of value-added tax from production to consumption plays a crucial role in reducing the tax burden of enterprises. However, considering the significance of value-added tax reform from the view of reducing tax burden is far from enough. From a more profound perspective, tax reduction also has the role of leveling competition areas in market competition and improving the efficiency of resource allocation”. The essence of tax reduction is to improve the efficiency of resource allocation. However, little literature has examined the effect of the value-added tax reform on markup dispersion and resource allocation in manufacturing industries. Based on 1998—2007 Chinese manufacturing firm-level data and using China’s value-added tax pilot reform in 2004 as a quasi-natural experiment, this paper estimates the impact of tax deduction on markup dispersion with the difference-in-differences method. In addition, we identify the specific mechanism of price and marginal cost channels affecting markup dispersion, and test the heterogeneity of industry technology level, SOE share and capital intensity. The results indicate that tax incentive provided by value-added tax reform reduces markup dispersion significantly and improves the efficiency of resource allocation. The further mechanism analysis suggests that value-added tax reform has a larger effect on markups at higher quantiles than at lower quantiles, and flattens markup distribution through price and marginal cost channels, thus improving resource allocation in manufacturing industries. In addition, the heterogeneity analysis across industries with different SOE share, capital intensity and technology level shows that the effect is significant in high SOE share industries, labor-intensive industries and low-tech industries. Therefore, we should continue to implement the tax reduction policy and regard tax deduction as the basic path for China to deepen the reform of the fiscal and taxation system in the future, and then give full play to the important role of taxation tools in promoting economic growth, adjusting structural imbalance, and accelerating the development of transition.