Tax Burden in China

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Proceedings of the 15th Annual Conference of the Association for Chinese Economics Studies Australia(ACESA)

Tax Burdens in China

Prof. Dashu Wang1

Peking University

I. Introduction

Since the 1980s, many countries in the world have enacted or are considering tax

reforms. Although they have widely varying tax systems, some common themes

most notably, the attempt to lower tax rates run through most of these reforms.

There are abundant studies on cases of developed and developing countries in relation

to tax reform. Indeed, one of the economic objectives in many countries has been a

reduction in both personal as well as corporate tax rates along with the broadening of

the tax base. With the more recent interest in growth theory and alternative economic

policies that may result in economic growth, some economists have concentrated their

attention on the effect of tax reform on economic growth (see Engen and Skinner

[1999]). Indeed, the relationship between tax reform and economic growth has been a

widely addressed subject in growth literature.

Research in this area began in developed countries, particularly within the US. Scully

1 Correspondence to:

Prof. Dashu WangSchool of EconomicsPeking UniversityBeijingP.R. CHINA

Email: [email protected]

Wang, D., Tax Burdens in China.

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mailto:[email protected]:[email protected]


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(1988) shows that governmental institutional obstacles e.g., substantial regulations,

restrictions on imports along with taxes, hurt growth. This early research became

increasingly accepted as new refinements and extensions of the tax-growth literature

continued into the new century. In recent study (Gittell, Kaufman and Karson 2000),

the authors explore regional and state patterns in US economic change, concluding

that the role of geography itself is modest in explaining differentials but that other

factors, including state personal income taxes, play a more important role. A study by

Public Interest Institute of the US (2003) finds that states that exempted capital gains

had higher rates of economic growth than states with high capital gains taxes, and that

states that cut income taxes in the 1990s had high growth rates than states that raised

taxes.

The studies using US data are confirmed by numerous international studies. For

example, speaking of government taxation, a Spanish economist (de la Fuente 1997)

concludes that there is evidence of a sizable negative externality effect on the level of

productivity. Italian economists Tabellini and Daveri (1997) argue that the increase in

European unemployment and economic slowdown are caused by an excessively high

cost of labor, which is generated by, among other things, higher taxes on labor. Using

a complex general equilibrium model, German economist Heitger (1993) states that

for the most OECD countries, taxation turns out to be growth-retarding. Fougeres

(1998) work on Canada shows adverse effects of taxes on growth, both impacting on

supply and demand. Scully (1996) concludes that New Zealand would have to cut its

taxes roughly in half to maximize its economic growth, and that the marginal cost of

taxation is $2.64 for each extra dollar of taxes collected.

Tax reform also constitutes one of the core areas of recent economic reform programs

in developing countries. Chelliah (1975) has presented a comprehensive analysis of

taxation trend in developing countries. A number of researchers have presented some

case studies in this area. For example, Gordon (1990) discusses reforms of explicit


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and implicit taxes in China; McLure (1990) considers tax reform in an inflationary

environment in Colombia; Gillis (1990), looks at tax reform in Indonesia; Diaz (1990)

presents a historical overview of tax policy goals in Mexico.

Benson and Johnson (1986) show that taxes have lagged negative effects, with the

adverse impact being realized often after about three years. Some researchers

concentrate on the relationship between tax structure and the economic structure as

related to the level of economic development (see, Abizadeh [1979] and Chelliah

[1989]). Utilizing new tax burden indexes, Pillarisetti (2002) argues that a flat or zero

income tax creates pro-growth initiatives, reduces corruption and the size of informal

sectors and generates overall institutional improvements in low income countries.

Since 1994 when China reformed its tax system, its tax revenues have rapidly grown.

According to the statistics from the State Administration of Taxation (SAT), tax

revenues in 2002 were 1700 billion yuan, more than doubling those in 1997 (823

billion yuan), and the ratio of tax over GDP was 16.7%. In 1998-2002, tax revenues

accumulated to 6423 billion yuan, more than the total revenues in 1949-1997 by 661

billion yuan. In 2002, Jin Renqing, the then head of SAT, stated that the five years

from 1998 to 2002 were the best since the establishment of new China, because tax

revenues had rapidly grown, and the role of tax policy had functioned well.

It is beyond debate that China has enjoyed a rapid growth in tax revenues, but it is

controversial whether its tax burden is too heavy or not. On the one hand, An Tifu

(2002) and Gao Peiyong (2002) argue that the tax burden is too heavy; on the other

hand, Guo Wenxuan et al. (2002) hold that tax revenues are not adequate. The purpose

of this paper is to present a general picture of the tax burden in China and from the

tax/GDP ratio to analyze the factors which influence the tax burdens.


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II. Tax Rates

The current tax structure in China was established in 1994. During that time, its tax

administration and collection were inefficient. In order to maintain enough revenue

the authorities deliberately set higher tax rates. This section presents examples in the

areas of important sectors in Chinese economy such as agriculture, industry, service,

individuals and business.

Most, if not all, countries in the world do not collect agricultural tax. It is interesting

to note that many countries levy a negative tax on agriculture, that is, they allocate

special funds to subsidize farmers. For example, the US and Japan spend a huge

quantity of money to subsidize agricultural producers. However, China is the

exception, along with a few other countries. According to the Regulations of

Agriculture Tax, the national average rate on agricultural products is 15.5% of the

yield in a normal year, and the currently implemented average rate is 8.8%.

The major source of tax revenue in China is Value Added Tax (VAT), and in 2001 it

made up 40% of the total. The VAT standard rate in China is 17%. However, it should

be noted because Chinas VAT is a VAT with a production base, tax paid for fixed

assets is nondeductible. The rate of 17% in China is equal to 23% in other countries

where VAT with a consumption base is applied and tax paid for fixed-assets is

deductible. As a matter of fact, in most countries VAT are less than 20%. For example,

the US does not levy VAT, and its rate is zero; the VAT rate in Singapore is 3%; the

VAT rate in Japan is 5%; the VAT rate in Canada and Thailand is 7%; the VAT rate inAustralia, Korea, Philippines, Indonesia and Mexico 10%. It can be seen from Table I

that Chinas VAT rate is one of the highest. Indeed, in the world there are only eight

countries with a VAT rate more than 22%, and China is one of them.


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Table I. VAT Standard Rates Higher Than 20%

Country Rate %

Hungry 25

Denmark 25

Sweden 25Slovak 25

Iceland 24.5%

Uruguay 24%

Czech Republic 23%

China 23%

Norway 22%

Poland 22%

Source: Chen Zhimei (2000)

Corporate income tax in China is charged at the rate of 33%. However, the allowable

deductions for corporate tax are too limited. For example, only 800 yuan is deductible

as wage for each employee every month. If an employees monthly salary is 2000

yuan, only 800 is exempted from tax, and his or her employer has to pay tax for the

remaining, 1200 yuan. Even worse, the employee has to pay personal income tax for

the total 2000 yuan. In this regard there is a double taxation.


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Table II. Personal Income Tax Rates Schedule RMB yuan

Monthly taxable income (wages and salary) Rate%

1 Income of 500 or less 5

2 That part of income in excess of 500 to 2000 10

3 That part of income in excess of 2000 to 5000 154 That part of income in excess of 5000 to 20000 20





9 That part of income in excess of 100000 45

It is interesting to note that personal tax is calculated on monthly income. Because

income fluctuates widely each month, it is easy for taxpayers to go up to higher tax

grades. The limited exemptions create another problem. Taxable income is monthly

income after lump-sum deduction of 800 yuan and certain items (at present including

only basic pension insurance premium, medical insurance premium, unemployment

insurance premium and reserve funds for housing) are ruled as expenses, and other

deductions are forbidden. Personal income tax applies the nine-grade progressive rates

as shown in Table II above.

Personal income tax is progressive, but it is not the major source of tax revenue, since

it constituted only 6% of the total revenue in 2002. The other taxes in China are not

progressive. Therefore we have reason to believe that in China taxes are proportional

taxes, not progressive taxes.


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Table III. Elasticity of tax and Tax-GDP Ratio (Calculated at current prices)

Year 1995 1996 1997 1998 1999 2000

Growth rate of GDP% 25.1 16.1 9.7 5.2 4.6 8.9

Growth rate of tax% 17.8 14.4 19.2 12.5 15.3 17.7

Elasticity of tax 0.71 0.89 1.98 2.40 3.33 1.99

Tax-GDP ratio% 10.3 10.2 11.1 11.8 13.0 14.1

Sources: Statistical Yearbook 2002; An Tifu (2002)

Theoretically speaking, most taxes are proportional, so in normal circumstances, the

growth in tax revenues should be lower than GDP growth, that is, the elasticity of tax

is less than one. On the contrary, since 1997, tax growth has surpassed GDP growth,

and its elasticity has been greater than one, and in 1999 as high as 3.33. It is

interesting to note that in a proportional tax structure, tax revenue is progressive. This

indicates that the tax growth is abnormal. The fact that tax burden and elasticity of tax

are rising when GDP growth is slowing indicates that the recent tax policy in China is

a policy of tax increase. For example, Ni Hongri suggests that the rapid growth of tax

revenue over recent years is a result of a policy of tax increase (2002).

III. Driving Forces for Tax Growth

The current tax bases and statutory rates in China are decided on the efficiency of tax

collection in the early-1990s. During that time, the effective rates were low, because

there were many exemptions and concessions in tax policy. In order to maintain the

levels of tax revenues at that time, it is understandable that China deliberately set

wider tax bases and higher tax rates. Since then, the efficiency of tax collection has

been dramatically enhanced thanks to the development of computer technology and

the Internet, and the enforcement efforts by tax authorities and tax collectors at all

levels.

In 1998, tax authorities made more efforts to collect taxes. Some taxpayers with more


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than certain amount of taxable income (5 million yuan for VAT or consumption tax, 1

million yuan for business tax, and 0.1 million yuan for personal income tax) began to

be targeted by the tax office. In 2001 Golden Tax Project was established and put

into operation to ensure stringent administration. In 2002, a system of invoice rewards

was employed to involve more citizens in the supervision of taxpayers.

Jin Renqing (2002) analyzes three elements which are attributable to the rapid growth

in tax revenues since 1998. The first element is the economic development: tax

growth is synchronized with GDP growth. With the proactive fiscal policy, stable

monetary policy and industrial restructuring policy being implemented, China enjoyed

a sustained economic development. The sustained growth and improvement of

business efficiency generated a rich tax source. From 1998 to 2001, 55.2% of the

increase in tax revenues was a result of economic development.

The second element is the change in tax policies, especially in the exemptions and

concessions policy: the expiration (because they are due) of preferential regimes such

as tax rebate for the excessive part of the tax burden to Chinese-foreign equity joint

ventures, Chinese-foreign contractual joint ventures, foreign-capital enterprises, and

enterprises affiliated with schools; and the resumption of a levy of income tax on the

interest of savings deposits. The increase in this regard accounts for 19.2% of the total

increase.

The third element is the enforcement effort. Excluding revenue from the first and

second elements, the remainder is because the tax authorities made more efforts to

collect tax, and this contributes 25.6% to the growth. Indeed, the strengthening of tax

administration at different levels promoted the increase in tax revenue. The significant

policies made by the central government were carried out to the letter by tax

authorities at different levels. The principle of strengthening administration, blocking

loopholes, penalizing corruption and rectifying arrears was strictly upheld. The


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guiding thought of administering tax in accordance with law and managing

administrators teams in line with regulations was scrupulously observed. The

observance of fiscal disciplines and the rectification of tax rules were strengthened.

The supervision of law enforcement and administrative power was enhanced. All

these factors gave rise to a marked improvement in the quality and efficiency of tax

collection, which generated approximately a quarter of revenue increase. (see Table

IV)

Table IV. Contributors to Tax Growth RMB billion yuan

Year Tax

revenue

Incremental

over

previous

year

Contribution

from

development

% from

taxation

policy

% from

enforcement

effort

%

1998 9 09 1 00 32 31.6 24 23.5 45 44.9

1999 10 31 1 22 82 66.1 0 0 41 33.8

2000 12 66 2 35 1 55 66.1 50 21.1 30 12.8

2001 15 17 2 51 1 23 49.0 63 25.1 65 25.9

Total 47 24 7 08 3 91 55.2 1 36 19.2 1 81 25.6

Source: Jin Renqing (2002)

In addition to the aforementioned, departments of industry and commerce, the

customs, foreign trade and economics, public security and the courts have cooperated

with tax authorities in mobilizing financial resources and contributed to the successful

rectification of tax arrears, a crackdown on tax evasion, fraud, and the refusal to pay

tax and the maintenance of tax administration order.

The Research Center of Public Policy at Shanghai University of Finance and

Economics analyzes factors contributing to the rapid growth in tax revenues and

suggests that the most important element is enforcement and management (2003).

Gao Peiyong believes that tax collection is enhanced by at least ten percentage

points (2002). Indeed, given the efficiency of current method of tax collection, tax


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rates set ten years ago are higher than they now should be.

IV. Tax, GDP and GDP Per Capita

Table V. GDP and tax/GDP Ratio in US dollars

GDP (in billion)Tax revenue (in

billion)

Tax/GD

P

Per-capita

GDP

United States 9837 2912 0.296 $34100

Japan 4842 1312 0.271 $35620

Germany 1873 708 0.378 $25120

United Kingdom 1415 529 0.374 $24430

France 1294 591 0.457 $24090

China 1080 152 0.141 $840Italy 1074 451 0.42 $20160

Canada 688 246 0.358 $21130

Mexico 575 106 0.185 $5070

Spain 559 197 0.352 $15080

Korea 457 119 0.261 $8910

India 457 55 0.12 $450

Australia 390 123 0.315 $20240

Netherlands 365 151 0.414 $24970

Switzerland 240 86 0.357 $38140Sweden 227 118 0.52 $27140

Demark 162 64 0.394 $32280

Hong Kong 163 29 0.178 $25920

Pakistan 61 7 0.11 $440

Source: International Statistics Yearbook (2002)

It can be seen from Table V that Chinas GDP ranks 6 th in the world, and that Chinas

tax revenue maintains a similar position, ranked 9 th in the world.

Tax is paid by people, so when analyzing the tax burden, we should take population

into account.

Tax revenue/ GDP= Tax revenue/ Population/Population/GDP=Tax revenue per

capita/GDP per capita


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Superficially, tax revenue per capita is in inverse proportion to GDP per capita. But

closer scrutiny reveals that tax burden cannot surpass the stages of economic

development. Nations with a higher tax burden are those with higher GDP per capita,

such as the US, Japan and Sweden. When analyzing the effect of economic

development on the tax structure of developing countries, Chelliah (1989) states that,

since the process of development would give rise to new potential tax bases and

also generates the capacity and conditions for collecting the more difficult forms of

taxation, the evolution of the tax structure would be influenced strongly, even if not

governed, by the changes in the economy.

It should be noted that tax revenue is positively related to economic development. A

number of researchers (e.g., Bahl [1971] and Chelliah [1975 & 1989] suggest that the

higher the income, the degree of openness, the level and degree of industrialization

and the level of urbanization, the higher the overall tax ratio would be. As far as a

country is concerned, if it enjoys a high level of economic development and GDP, its

tax base is large, and it is easy for the government to collect more revenue. Therefore,

tax burdens in developed countries are higher than those in developing countries.

According to some statistics, Tax/GDP ratios in advanced countries are above 30%,

while those in less advanced countries are more often than not below 20%.

Table VI. Per-capita GDP and Finance Revenue/GDP 2000

Per-capita GDP

(US$)

GDP

(US$ billion)

Finance revenue

(US$ billion)

Finance

revenue/GDPHong Kong 25920 163 28.5 0.175

Taiwan 14087 309 58.7 0.19

Korea 8910 457 118.8 0.26

Malaysia 3380 90 16.4 0.182

Thailand 2000 122 18.5 0.152

Philippines 1040 75 11.5 0.153

China 840 1080 165.2 0.153

Indonesia 570 153 24.5 0.16

India 450 457 60.3 0.132


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world, but its tax/GDP ratio is the lowest among OECD countries because of its large

population. On the other hand, nations with the highest tax/GDP ratio are more often

than not medium- or small-sized, because fewer people share the tax burden.

Chinas tax revenue ranks the first among developing countries and its tax/GDP ratio

is relatively high, even approaching that of some developed countries. As you know,

however, its population is also the number one in the world. If the economies of

national scale is taken into account, Chinas tax/GDP ratio should be at a low level.

VI. Tax and Public Goods

Tax revenue/ population is per-capita tax revenue, and its corresponding concept is

per-capita public goods, because tax is the cost for the government to provide public

goods. As far as private goods are concerned, its aggregate demand curve is calculated

by horizontal summation, that is, the market demand at any given price involves

summing the horizontal distance between each of the private demand curves and the

vertical axis at that price. However, public goods are different, and the willingness to

pay by the public is reflected by its aggregate demand curve which is generated by

vertical summation of the individual demand curves. If the quantity of public goods

characterized by nonrivalness and nonexcludability is fixed, the more the population,

the less the cost to produce the per-capita public goods. It is due to the economies of

national scale that more people can share the fixed amount of public goods.

The quantity and quality of public goods provided by Chinese governments are far

less than those provided in advanced countries. For a long time, there is a two-tier

system which separates China into urban and rural areas, and as a result 0.8 billion

farmers are excluded from some - if not most - public goods enjoyed by their urban

counterparts. For example, rural infrastructure is funded by farmers themselves, and

governments only subsidize some of it; in some areas farmers financially support their


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children for the 9-year compulsory education; farmers cannot access unemployment

benefits; farmers are not covered by Medicare.

As far as people in urban areas are concerned, the quantity of public goods is

decreasing though the tax revenue is increasing by more than 20% annually. For

example, the coverage of Medicare is narrowing, and more and more people have to

pay their medical insurance premium; governments stopped providing housing; tuition

fees paid by students are increasing; in some areas, corporations have to provide

education for the children of their employees.

According to the Niskanen (1971), a bureaucrats objective is to maximize his or her

budget. However, a fundamental problem is that in so doing it may be inefficient.

Indeed, many governments pursue economic development strategies aimed at

promoting growth. Unfortunately, many studies find that government spending is an

en ineffective approach to economic growth. Some quantitative studies sport this pint

of view. For example, Feldstein (1997) concludes that the deadweight burden caused

by incremental taxation may exceed one dollar of revenue raised, making the cost

of incremental government spending more than two dollars for each dollar of

government spending. Cashins (1995) study shows that each one percent increase in

taxes as a percent of total output lowers output per worker by about two percent. He

observes positive effects of spending from taxes, but typically the positive spending

effects are only about one-half as large as the negative tax effect, which is about the

same thing as saying that private sector spending is twice as productive as public

sector outlays. According Ma Shuanyous (2001) calculation, in China 1 yuan increase

in tax revenue will decrease GDP by 2.20-2.55 yuan.

In developed countries, governments collect tax revenues and return them mainly by

providing the public with public goods. However, the Chinese government returns

them by two means: public goods and public investment goods. Unfortunately, the


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public investment in China is inefficient because of government failure, and the loss

from the investment is at the expense of taxpayers. It is possible that the increase in

public investment reduces private investment, that is, there is a crowding-out. In fact,

what the government can do is to remedy the market defects; it cannot replace the

market mechanism. According to a report in Chinas Economic Times on March 25,

2003, Lou Jiwei, a Deputy Treasurer, states that the central government should not,

and cannot, increase investment in less advanced areas by the use of deficits for a long

term to maintain their growth. Indeed, too much public investment has come to an

end. Apart from its by-products, public investment leads to an over-reliance on the

planning mechanism at the expense of the market mechanism. If the government

invests too much and the short-termed policy of government investment becomes

long-term, the market mechanism cannot function well, and this is contradictory to the

objective of establishing a market economy. Because of heavy tax burdens, enterprises

as main investors and participants in markets lack the motivation and capability to

invest and to innovate. Thus it is difficult to stimulate private investment and

consumption.

Even worse, the public investment is inefficient and huge quantities of funds were

wasted as a result. By the end of 2001, Chinese governments invested 8600 projects

funded by Treasury bonds with the value of 2600 billion yuan. In 2002, another 150

billion yuan were issued. According to Wu Zhongnans calculation, in the process of

construction funded by treasury bonds, a project changes hands several times between

contractors, and sometimes 60% of the funds have been wasted until the project

reaches the builder (2003). Indeed, governments are not good at picking economic

winners and losers and sometimes they waste taxpayer money on risky economic

development schemes. Guo Wenxuan et al. suggest that the efficiency of government

investment is lower than private investment, and that only 30% of the projects are

efficient, that is to say, 70% are unprofitable (2003).


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The Chinese government declares that the fiscal policy in China is proactive. As a

matter of fact, the proactive fiscal policy is one-sided, because only the spending

policy is proactive, and the tax policy is not. To make the fiscal policy more

proactive and aimed at stimulating the economy, the policy should be a proactive

policy of two-sided, that is to say, the tax burdens should be reduced.

Tax is the main source for government revenues and its basic objective is to meet the

demand for public expenditures. Provided that the functions of government are

decided, the levels of tax burdens should be determined by financial needs which can

enable the government to function and provide public goods. However, the problems

in China are that governmental departments and agencies are too large, and the

employees of governments funded by the Treasury are too numerous. According to

statistics, the ratios of government officials paid by the Treasury over ordinary people

in the Chinese history are as follows.


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VII. The Ratio of Officials/ the Population

Time The ratio of officials/ the population

Han Dynasty 1: 945

Tang Dynasty 1:500

The period of Kangxi 1:91The early 1950s 1:91

1978 1:50

Now 1:28

Source: Dong Shaoguang (2003)

It can be seen from the Table VII that there is one government official out of 28

persons. Indeed, there are too many officials in China. Currently, from the center to

provinces, to cities and to counties, there are five bureaucrat systems: the Party

Committee, the Party Discipline Committee, government, Parliament, and the

Peoples Political Consultative Conference.

An enterprise should reduce costs as a way to enhance productivity; similarly,

governments as a special sector (public sector) should also enhance efficiency and

reduce the costs of the supply of public goods, that is, to decrease the tax burdens of

individuals and enterprises.

VII. Three Indicators to Describe Tax Burdens

For the purposes of public finance comparison, economists usually use tax/GDP ratio

to describe a countrys tax burden. Tax/GDP ratio is computed by taking the total tax

payment for a particular year as a fraction or percentage of the gross domestic product

(GDP) for that year. As suggested by Messere (1997), however, although the tax/GDP

ratio is the only way to compare tax revenues between countries, it cannot provide a

clear indicator to describe the levels of influence on the economy by the government,

nor describe the levels of transfer from private to public sectors. Especially in China,

because there are several ways for governments to collect revenues, the ratio of

tax/GDP alone cannot describe the tax burdens. Based on the government statistics,


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An Tifu (2002) calculated three ratios:

1.Tax revenue over GDP, denoted by T0. It is computed by taking the total tax

payment as a percentage of GDP for a given year. For example, the tax/GDP ratio in

Table V is T0.

2. Finance revenue over GDP, denoted by T1. The finance revenue is budgetary

revenue, including tax revenue (T0), and revenue generated by public assets and

revenue from selling of public assets (TB). T1=T0+TB. For Example, the ratio of

finance revenue/GDP in Table VI is T1.

3. Government revenue over GDP, denoted by T2. The government revenue includes

not only the budgetary revenue (T1), but also extra budgetary revenue, fees,

surcharges and other non-tax receipts collected by central, provincial and local

governments (TG). T2=T1+TG.

According to Zhang Xuwei and Zhang Xuqiang (2000), the extra budgetary revenue

and fees collected by all the governments accounted for 6% and 8% of GDP,

respectively, and in some years, they are equal to T0. Among the three ratios, T2

reflects the financial burden of the overall economy. Therefore, T2 is more

comprehensive than T0 and T1.


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Table VIII. Three Tax Burdens in China in billion yuan

Year GDP Tax

revenue

Finance

revenue

Government

revenue

T0 (%) T1% T2%

1994 46759.4 5126.9 5218.1 7691.1 11.0 11.2 16.4

1995 58478.1 6038.0 6242.2 9661.2 10.3 10.7 16.5

1996 67884.6 6909.8 7408.0 13128.0 10.2 10.9 19.3

1997 74462.6 8234.0 8651.1 15645.1 11.1 11.6 21.0

1998 78345.2 9262.8 9876.0 17599.0 11.8 12.6 22.5

1999 82067.4 10682.6 11444.1 19784.9 13.0 13.9 24.1

2000 89403.5 12581 13395 22460.0 14.1 15.0 25.1

2001 95933 15301 16368 15.9 17.1

2002 100 000 17 004 18 194 16.7 18.2 26%

Sources: An Tifu (2002); Statistical Yearbook 2003

It can be seen from the Table that for the last nine years, T2 has been greater than T0

by 5-10 percentage points. In 2000, for example, T0 was 14.1%, T1 was 15%, but T2

was 25.1%. In 2002 T0 was 16.7%., T1 was 18.2% and I guess T2 was 26%. In fact

this estimation is conservative, and some economists suggested that T2 was greater

than 30%. As estimated by Gao Peiyong (2002), for example, the T2 in 2000 was

34.4%.

Since the last tax reform, tax/GDP ratio has maintained an upward momentum. Death

and taxes may be inevitable, but a persistent rise in tax levels may not be, judging by

recent evidence. Indeed, very few countries have consistently maintained a trend of

rising tax ratios since 1995. As a matter of fact, since the late-1990s, many countries

in the world have enacted or are considering tax cuts.

Forbes measures tax burdens by the use of indices of tax burden (the higher the index,

the heavy the tax burden). Its conclusion is that China with an index of 154.5 is a

heavily-taxed nation, ranking the third among 30 countries (next only to France and


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Belgium). Although economic growth is slowing down, the tax burden in China is

rising. From 1994 to 2002, T0 rose from11.0% to 16.7%; T1 rose from 11.2% to

18.2%; T2 rose from 16.4 to 26%.

VIII. Tax and Growth

There is mounting evidence that taxes have negative effects on economic growth.

Higher taxes exert a negative impact on both demand and supply.

On the one hand, high taxes on goods and service push up prices and thus reduce

consumption. As observed by Ladd and Bradbury (1988), high property taxes lower

property values, causing significant loss of real wealth. This may leads to a reduction

in consumption due to a wealth effect. Personal income taxes reduce taxpayers

disposal income and decrease personal spending. All these will reduce demand for

goods and service.

On the other hand, high taxes on personal income also force up labor costs, as

employers have to compensate for the tax burden. It is understandable that taxes

reduce job opportunities and sometimes lead to higher unemployment. Moreover, high

corporate taxes reduce the profit retained by companies and thus deter business from

investing. This will have an adverse effect on supply.

Because of the negative impact of taxes on economic growth, many economists

suggest cutting taxes. For example, Hakkio, Rush and Schmidt (1996) conclude thatlowering taxes significantly raises economic growth. High taxes discourage

economic growth. Balanced budget reductions in taxes on wages and profits exert

favorable effects on employment and growth.

Taxes are a price imposed on different activities. When the price is high, it

discourages the activity being taxed. Therefore lower taxes on work, savings and


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investment encourage additional economic growth. It is accepted that tax cuts help the

economy by improving incentives to earn more and build wealth.

One of the reasons why the authorities are reluctant to cut taxes is their worry about

reduction in tax revenue. As a matter of fact, one noteworthy feature of good tax

reform is that the actual reduction in tax revenue is always smaller than suggested by

static revenue-estimation models because lower tax rates encourage taxpayers to work

more, save more and invest more. The economy grows, national income increases and

the tax base expands. As a result, tax cuts will generate a large enough increase in

taxable income to offset the revenue loss associated with lower tax rates. Therefore,

we have reason to believe that tax cuts can lead to a revenue feedback caused by

better economic performance, especially in the long-run.

IX. Conclusion and Suggestion

There is a tax premature in China, since its tax burden is heavy. Chinas tax revenue

ranks 9th in the world. As a developing country with the largest population, its

tax/GDP ratio is high. If non-tax revenue is taken into account, its ratio of government

revenue over GDP is very high in the context of the rest of the world.

International experiences confirm the basic proposition that higher taxes have adverse

effects on economic growth. If tax burden in China is too heavy, it would be a good

idea for the Chinese government to cut tax with the purpose of promoting economic

growth. As a matter of fact, there is room for China to cut its taxes in agriculture,

industry and services as well as in corporate and personal income.

Agriculture in most countries is free of tax, so the agriculture tax in China should be

abolished. The VAT with a production base should be changed into a VAT with a

consumption base, that is, the VAT paid for the purchase of fixed-assets should be

deductible for the next stage in the areas of production or circulation. The basic rate of


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VAT should also be reduced.

As far as the corporate tax is concerned, its rate should be reduced in order to relieve

enterprises from heavy tax burdens and encourage them to invest. There are some

proposals to do so, for example, a reduction of eight percentage points from 33% to

25% seems reasonable.

There are very few countries in the world where monthly income is used as a tax base,

therefore, personal income tax should be applied to yearly income instead of monthly

income. The exemption of 800 yuan was set in 1980, when 800 yuan was regarded as

high income. Now the average income is more than 1200 yuan, so the exemption

should be raised.


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Documents

Tax Burden in China