Impacts of Two Tax Reforms on Inequality and Welfare in China

• Published date: 01 May 2021
• Author: Yangyang Shen,Shi Li,Xiaobing Wang
• Date: 01 May 2021
• DOI: http://doi.org/10.1111/cwe.12377

©2021 Institute of World Economics and Politics, Chinese Academy of Social Sciences

China & World Economy / 104–134, Vol. 29, No. 3, 2021

104

*Yangyang Shen, Assistant Professor, School of Economics and Resource Management, Beijing Normal

University, China. Email: yshen@bnu.edu.cn; Shi Li, Professor, School of Public Administration, Zhejiang

University; China Institute for Income Distribution, Beijing Normal University, China. Email: lishi9@zju.edu.cn;

Xiaobing Wang (corresponding author), Associate Professor, School of Economics, Renmin University of China,

China; Department of Economics, University of Manchester, UK. Email: Xiaobing.Wang@manchester.ac.uk.

The authors are grateful for the support from “Research on establishment of relative poverty standards in rural

and urban China” funded by the National Social Science Foundation of China (No. 20CSH062). Xiaobing Wang

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Impacts of Two Tax Reforms on Inequality

and Welfare in China

Yangyang Shen, Shi Li, Xiaobing Wang*

Abstract

This paper takes stock of the existing literature on taxation and presents a framework

to evaluate the impacts of tax policy reforms from the perspectives of progressivity and

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the social welfare of rural residents; (ii) the increase in the income tax thresholds in

2011 increased progressivity but reduced the overall income tax share of total taxation.

When the majority of the taxpayers are in the lower tax bracket, progressivity has little

real impact in improving income distribution.

Key words: inequality, social welfare, policy reform, tax progressivity

JEL codes: H23, H24, I38

I. Introduction

With economic development and structural transformation, and the shift from a

predominantly agricultural economy to an industrial economy, a country normally

undertakes drastic policy reforms to cope with changes in society and to further foster

economic growth (Wang and Piesse, 2013; Villamil et al., 2020). The reform of tax

regulations is one of the most important policy instruments as tax is the primary source

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building and social welfare provision. Many studies have been done on the progressivity

of taxation but there has been a lack of studies that evaluate the welfare implications of

© 2021 The Authors. China & World Economy published by John Wiley & Sons Australia,

Ltd on behalf of Institute of World Economics and Politics, Chinese Academy of Social Sciences.

This is an open access article under the terms of the Creative Commons Attribution License,

which permits use, distribution and reproduction in any medium, provided the original work is properly cited.

©2021 Institute of World Economics and Politics, Chinese Academy of Social Sciences

Impacts of Two Tax Reforms on Inequality and Welfare 105

a tax reform, especially when such reforms are carried out in the process of structural

transformation. This paper discusses methods for such evaluation and uses them to study

the progressivity and the welfare implications of two important tax reforms in China.

The tax system is one of the important means of income redistribution and has

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tax deduction and welfare redistribution, but it reduced to only about 0.354 after taxes

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income tax in 12 OECD countries are 0.329 and 0.296 respectively, which shows that

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according to Wagstaff et al. (1999).

However, in China, the tax system has been proven not to have helped to improve

income distribution by much. The income tax is progressive but it only accounts for a

small proportion of the overall tax revenue – about 6.8 percent (Yue et al., 2014). The

main source of tax revenue is value added tax (VAT), which consists of several rates for

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equality but has even widened the gap between the rich and the poor.

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the agricultural tax and the income tax. Before 2005, the agricultural tax contributed

to poverty and inequality in rural China and to the wide divide between rural and

urban areas (Wang and Piesse, 2010). The agricultural tax was abolished gradually,

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of the most significant policies that discriminate against rural residents, no longer

existed. Instead, subsidy policies to rural residents were introduced, such as the New

Rural Cooperative Medical System, the New Rural Pension Insurance, and the Rural

0LQLPXP/LYLQJ6WDQGDUG*XDUDQWHHdibao) Program (Kakwani et al., 2019).1 These

policies have shrunk the income gap between rural and urban areas, which contributed

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2010, the rural–urban divide was no longer the main driving force for high inequality.

Instead, regional inequality has become dominant in explaining the overall inequality

in China (Rangazas et al., 2016; Rangazas and Wang, 2019).

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rates were unchanged. Thus an increasing number of wage earners entered the tax bracket,

1Although subsidies can be seen as negative taxes, and public transfer payments may also have redistributive

implications, in this article we separate them and only look at the tax system because for typical policymaking

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© 2021 The Authors. China & World Economy published by John Wiley & Sons Australia,

Ltd on behalf of Institute of World Economics and Politics, Chinese Academy of Social Sciences.

This is an open access article under the terms of the Creative Commons Attribution License,

which permits use, distribution and reproduction in any medium, provided the original work is properly cited.