Fiscal Stress and the Rise of China's Local Government Financing Platforms
CAO Guangyu, LIU Chenran, ZHOU Li-An, LIU Chang
Guanghua School of Management, Peking University; The Paul and Marcia Wythes Center on Contemporary China, Princeton University; School of Economics and Management, The Chinese University of Hong Kong, Shenzhen
Summary:
China's local governments play a key role in the formation of local infrastructure (Zhang and Xiong, 2019). It is not feasible for local governments to fund massive infrastructure projects through regular tax revenue or land sales. However, China's Budget Law, enacted in 1994, strictly prohibited local governments from raising debt. Local Government Financing Platforms (LGFPs) were created by China's local governments to circumvent this legal restriction (Liu and Xiong, 2018; Cong et al., 2019). A local government will inject land reserves or future land sale revenues into the LGFP as collateral to raise money. In a typical arrangement, an LGFP carries either explicit or implicit guarantees from its affiliated local government. It has long been hypothesized that local governments' fiscal stress is the root cause of the rise of China's LGFPs. However, causal evidence supporting this hypothesis remains scarce. This paper exploits the quasi-experiment of 2004-2006 China's Agricultural Taxes Abolition Reform to identify the causal effect of local government's fiscal stress on the establishment of LGFPs. Chinese counties encountered heterogeneous shocks in this reform because they had different initial levels of reliance on agricultural taxes. We therefore apply a differences-in-differences (DID) strategy to compare the outcomes before and after the reform across counties with different levels of fiscal stress. We do not have access to the financial statements of county-level LGFPs, so as a feasible method of identifying their establishment, we collect the data on the foundation of each LGFP as disclosed by the China Banking Regulatory Commission (CBRC). Our main outcome variable of interest is a time-variant dummy indicating the existence of an LGFP in a given county. We derive cross-sectional fiscal stress intensity from changes in agricultural tax income and related special subsidies before and after the reform. We also collect detailed data on county-level fiscal and economic outcomes. We find that a one-percentage-point increase in the degree of fiscal stress induced by the reform increases a county's probability of establishing LGFPs by 0.162 percentage points. The event study result indicates that counties in the treatment and control groups exhibit parallel pre-trends. Our finding survives a full battery of robustness checks: (i) controlling for a flexible time trend varying by a full set of pre-determined county attributes to eliminate potential confounding factors that might generate a non-parallel trend in the outcomes of interest, (ii) using an alternative definition of treatment intensity, (iii) using standard errors clustered at the prefecture level, (iv) controlling for county-specific linear trends; (v) using a subsample without county-level cities, and (vi) controlling for county party secretary fixed effects. We also conduct two placebo tests by utilizing a fake policy time to construct our independent variable and making changes in other types of tax income (e.g., individual income tax and corporate income tax). Further investigation suggests that our finding is not driven by the Province-Managing-County (PMC) reform, although it does have a significant moderating impact on the probability of establishing LGFPs. We also find that the policy effect varies substantially between counties with different levels of political competition pressure and initial levels of regional fiscal endowment. This paper contributes to the research on China's LGFPs and provides the first causal evidence for their institutional origin in China's fiscal system. In a broader sense, we contribute to the large body of literature on local governments' strategic responses to fiscal reforms (Han and Kung, 2015; Chen, 2017). There are substantial concerns both inside and outside China about the stability of China's local government debt. This paper contributes to our understanding of how fiscal reform led to the deeper involvement of China's local governments in the financial system. Our findings yield rich policy implications. In the medium term, the Chinese central government needs to design a more sustainable mechanism to fund local fiscal budgets. One possibility is a property tax levied on real estate assets, as is common in many developed countries. In 2011, China conducted policy trials for levying property tax on second homes in Shanghai and Chongqing. As previously sold land leaseholds gradually reach their maturities, the subsequent land renewal process provides a natural opportunity for local governments to collect additional fees or taxes on real estate properties.
曹光宇, 刘晨冉, 周黎安, 刘畅. 财政压力与地方政府融资平台的兴起[J]. 金融研究, 2020, 479(5): 59-76.
CAO Guangyu, LIU Chenran, ZHOU Li-An, LIU Chang. Fiscal Stress and the Rise of China's Local Government Financing Platforms. Journal of Financial Research, 2020, 479(5): 59-76.
Bai, Chong-En, Chang-Tai Hsieh, and Zheng Michael Song, 2016, “The Long Shadow of a Fiscal Expansion”, Brookings Papers on Economic Activity.
[28]
Bertrand, Marianne, Esther Duflo, and Sendhil Mullainathan, 2004, “How Much Should We Trust Differences-in-Differences Estimates？” Quarterly Journal of Economics, 119(1), pp.249～275.
[29]
Chen, Shawn Xiaoguang, 2017, “The Effect of a Fiscal Squeeze on Tax Enforcement: Evidence from a Natural Experiment in China”, Journal of Public Economics, 147, pp.62～76.
[30]
Chen, Zhuo, Zhiguo He, and Chun Liu, forthcoming, “The Financing of Local Government in China: Stimulus Loan Wanes and Shadow Banking Waxes”, Journal of Financial Economics.
[31]
Cong, Lin William, Haoyu Gao, Jacopo Ponticelli, and Xiaoguang Yang, 2019, “Credit Allocation Under Economic Stimulus: Evidence from China”, Review of Financial Studies, 32(9), pp.3412～3460.
[32]
Duflo, Esther, 2001, “Schooling and Labor Market Consequences of School Construction in Indonesia: Evidence from an Unusual Policy Experiment”, American Economic Review, 91(4), pp.795～813.
[33]
Han, Li, and James Kai-Sing Kung, 2015, “Fiscal Incentives and Policy Choices of Local Governments: Evidence from China”, Journal of Development Economics, 116, pp.89～104.
[34]
Li, Lixing, 2011, “The Incentive Role of Creating ‘Cities' in China”, China Economic Review, 22(1), pp.172～181.
[35]
Li, Pei, Yi Lu, and Jin Wang, 2016, “Does Flattening Government Improve Economic Performance？ Evidence from China”, Journal of Development Economics, 123(11), pp.18～37.
[36]
Li, Xing, Chong Liu, Xi Weng, and Li-An Zhou, 2019, “Target Setting in Tournaments: Theory and Evidence from China”, Economic Journal, 129(10), pp.2888～2915.
[37]
Liu, Chang, and Wei Xiong, 2019, “China's Real Estate Market”, in The Handbook of China's Financial System, Eds. by Marlene Amstad, Guofeng Sun and Wei Xiong, Princeton University Press, forthcoming.
[38]
Lu, Yi, and Linhui Yu, 2015, “Trade Liberalization and Markup Dispersion: Evidence from China's WTO Accession”, American Economic Journal: Applied Economics, 7(4), pp.221～253.
[39]
Song, Zheng, and Wei Xiong, 2018, “Risks in China's Financial System”, Annual Review of Financial Economics, 10, pp.261～286.
[40]
Zhang, Zhiwei, and Yi Xiong, 2019, “Infrastructure Financing”, in The Handbook of China's Financial System, Eds. by Marlene Amstad, Guofeng Sun and Wei Xiong, Princeton University Press, forthcoming.
