Tax Base Erosion, Underground Economy and Economic Growth: Evidence from China

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Yu Kun Wang
Li Zhang

Abstract

Objectives: To explore the relationship among economic growth, total tax burden, underground economy (UE) and China’s major tax reform in 1994 and 2012. Methods: This study differs from the traditional methodology. We analyze underground economy by adopting SUR-OLS approach, cash deposit ratio approach (CDR) and currency transaction approach (CT) to estimate the scale of UE in China from 1991-2019. The analysis is based on the data base of National Statistical Yearbook of the People’s Republic of China. Besides, based on the theory of Laffer Curve and total tax burden (TTB) approach, this study explores whether there appears inflection point between GDP and TTB. Findings: Our findings suggest that China’s current tax base erosion has not yet reached the peak of the TTR-GDP ratio. The novelty of the study is that we demonstrate the tax reform of China’s tax sharing system since 1994, and the implementation of replacing business tax with value-added tax (VAT) since 2012 indeed hold positive impact on total tax revenue(TTR).

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