The Stagnant Export Upgrading in Northeast China: Evidence from Value‐added Tax Reform

• Published date: 01 July 2020
• Author: Mengkai Yang,Yan Du,Jing Li,Yunong Li
• Date: 01 July 2020
• DOI: http://doi.org/10.1111/cwe.12341

©2020 Institute of World Economics and Politics, Chinese Academy of Social Sciences

China & World Economy / 101–126, Vol. 28, No. 4, 2020

101

The Stagnant Export Upgrading in Northeast China:

Evidence from Value-added Tax Reform

Yan Du, Mengkai Yang, Jing Li, Yunong Li*

Abstract

China’s 2004 value-added tax (VAT) pilot reform in the Northeast region, which changed

the VAT from production type to consumption type, introduced a sizable tax credit for

fixed investment in manufacturing industries, leading to more investment and higher

productivity at rm level. This paper, however, uses difference-in-difference estimation and

nds a negative structural effect; that is, the VAT pilot reform leads to a reduction in the

export sophistication of Northeast cities relative to other cities in China, and the results

hold for a battery of robustness checks. It is found that resources are reallocated towards

less-sophisticated industries. As the products with higher export sophistication are more

skill and research and development (R&D) intensive, the shortfalls of skilled labor and

R&D spending hinder the upgrading process. With a new round of revitalization plans in

the Northeast, policymakers should be cautious with similar structural effects and focus on

increasing skilled labor supply and R&D investment.

Key words: export sophistication, resource reallocation, value-added tax reform

JEL codes: F1, H2, L6

I. Introduction

Since China’s reform and opening up, it has made remarkable achievements in export

trade, especially after joining the World Trade Organization (WTO). There is no doubt

*Yan Du, Assistant Professor, School of Public Finance and Taxation, Southwestern University of Finance

and Economics, China. Email: duyan@swufe.edu.cn; Mengkai Yang, PhD Candidate, School of International

Business, Southwestern University of Finance and Economics, China. Email: eliyangmk@smail.swufe.edu.cn;

Jing Li (corresponding author), Assistant Professor, School of International Trade and Economics, University of

International Business and Economics, China. Email: jingli@uibe.edu.cn; Yunong Li, Associate Professor, School

of International Business, Southwestern University of Finance and Economics, China. Email: liyn@swufe.edu.

cn. The paper was presented at the 2019 China & World Economy Annual Conference, and we appreciate the

comments and suggestions from Cui Hu, Qing Liu, Ruiming Liu, Yi Lu, Yue Lv, Hao Wei, Laixun Zhao and

Mao Zhou. This work was supported by the National Natural Science Foundation of China (Nos. 71803159

and 71703130), Ministry of Education Project of Humanities and Social Sciences (No. 19YJC790061) and the

Fundamental Research Funds for the Central Universities (No. JBK2007086).

Yan Du et al. / 101–126, Vol. 28, No. 4, 2020

©2020 Institute of World Economics and Politics, Chinese Academy of Social Sciences

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that the sustained and rapid growth of exports has played a crucial role in promoting

economic growth and providing jobs in China. As the volume of exports has continued

to expand, it becomes an issue of concern how the export competitiveness of China’s

manufacturing industry has changed. Rodrik (2006) pointed out that the complexity of

China’s exports far exceeds its level of economic development, which is approximately

similar to that of countries with a GDP per capita three times higher than that of China.

Schott (2008) investigated the technical structure of China’s exports and found that

the similarity between China’s exports and those of Organisation for Economic Co-

operation and Development (OECD) countries has increased year by year. However,

the continuous expansion of China’s trade surplus has led to increasing trade frictions,

thereby seriously affects the further development of its export trade. Increasing export

sophistication, therefore, is an important goal at present. The Chinese government

has formulated a large number of industrial policies to promote the technical level of

production. However, compared with industrial policies, tax policies are more effective

tools that can directly affect the behavior of enterprises. This paper studies the effects

of the value-added tax (VAT) deduction, which is a tax policy instrument that has been

frequently used in recent years.

VAT is the most important tax instrument and scal revenue source of the Chinese

government (Lin, 2008). Before tax reform was implemented in 2004, China adopted

a production-type VAT, which dictated that producers pay the VAT on the input and

consumers indirectly pay the VAT again when they buy the products. As a result,

the purchase of equipment was doubly taxed. To stimulate investment, the Chinese

government implemented consumption-type VAT in six industries in three Northeast

provinces (i.e. Heilongjiang, Jilin and Liaoning) in 2004. The rms in these areas are

allowed to deduct payments on xed assets from the tax base.

The contribution of this research is that a quasi-natural experiment is used to

identify the causal effects of VAT reform on export upgrading. To the best of the authors’

knowledge, no empirical study exists that has directly discussed how VAT reduction

affects export upgrading. Based on a quasi-natural experiment in China between 2000

and 2006, difference-in-difference (DID) estimation is used to compare the change of

the export upgrading status of cities in the Northeast provinces to that of cities in non-

Northeast provinces before and after 2004, that is, the time of the VAT reform. It is

found that VAT reform has significantly slowed down the export upgrading status of

Northeast cities. The results remain robust for a series of checks on the identifying

assumption and other economic concerns.

To further explore how VAT reform affects export upgrading for Chinese cities,

we examined whether the shift of exports to industries of lower sophistication was