Welfare analysis on optimal enterprise tax rate in China

Abstract

This paper builds a model of general equilibrium for production economies to analyze Chinese enterprise tax reform which regulated the unified enterprise tax rate to be at 25%. The reform was backed by the new Law on Corporate Income Tax executed from January 1, 2008. Using national statistics of 2007, we obtain that the optimal unified enterprise tax rate for manufacturing industries is 21.82% if tax revenue is given. In addition, we find the globally optimal enterprise tax rates are 33.11%, 18.17%, and 18.06% for state-owned enterprises (SOEs), foreign invested enterprises (FIEs) and other private enterprises (OPEs), respectively. Our results suggest the achieved aim to pack those inefficient FIEs off and gain a competitive edge for China. Comparing the optimal unified enterprise tax rate equilibrium with benchmark equilibrium, unified enterprise tax rate at 25% equilibrium and globally optimal enterprise tax rate equilibrium, we conclude that the optimal unified enterprise tax rate (21.82%) is an efficient policy for Chinese government. At last, it shows the reliability of the conclusion when sensitivity analysis on enterprise tax rate for FIEs and premium coefficient is performed for optimal unified enterprise tax rate equilibrium.