Proposals are actively circulating in China to move to a unified enterprise tax structure with similar tax treatment of state-owned enterprises (SOEs), other private enterprises (OPEs) and foreign investment enterprises (FIEs). FIEs presently receive significant tax preferences through a sharply lower tax rate, tax holidays and other provisions. Here we use analytical representations of SOE behaviour, which differ from that of the competitive firm, to argue that a unified tax structure may not be a desirable tax change and that typically a higher tax rate on SOEs is called for on efficiency grounds. Using a worker control model with endogenously determined shirking, taxes on SOEs reduce shirking and a reduced SOE tax rate under a unified tax relaxes discipline on SOEs and losses result. Our results indicate a 0.26% of GDP welfare loss using 2004 data from a unified tax, and larger loss relative to an optimal tax scheme. Alternatively, if we use a managerial control model variant, we find a 0.19% welfare loss from a unified tax, and larger losses relative to initial higher SOE tax rates.
Li Wang is an Associate Professor of Economics at the Chinese Academy of
Social Sciences (CASS). She holds an MA (1996) from the Graduate School of CASS, and a PhD (2005) from the University of Oldenburg, Germany. She is a Post-Doctoral Fellow (2006-2007) at the University of Western Ontario, Canada and a guest lecturer at Tsinghua University, China.