The high cost of China's heavy tax burden

Stein Ringen says the poor are missing out as expensive socialistic market machine soaks up revenue

PUBLISHED : Monday, 04 May, 2015, 12:08am
UPDATED : Monday, 04 May, 2015, 12:08am

If you want to know the character of a state, look to taxes. The Chinese state is ferociously extractive, in a way that would not be sustainable if it were to depend on popular consent. The tax burden is officially 25 to 30 per cent of GDP but in reality much heavier. The state takes money off its people in three ways: by taxes called taxes, by taxes that are not called taxes, and by hidden extractions inside the economy itself.

Formal taxes go into the "general budget". In addition, the Ministry of Finance keeps three "auxiliary budgets" for revenues not called taxes. The big components are land transaction revenues to local governments and social insurance contributions. On top of this again are a raft of hidden extractions, for example:

  • Artificially low interest rates on savings in state banks (which enables the banks to subsidise state enterprises with cheap credit).
  • Enterprises' and workers' contributions to "housing provident funds" and to the Disabled Person's Federation (to which disability care was outsourced when "welfare factories" were abolished in the 1990s).
  • Local government embezzlement of social insurance funds for non-social use.
  • Local government fees for services (legal or illegal).
  • Fees to the party and its affiliates. Membership numbers in the party system add up to more than half the adult population. Membership fees are a tax, not exactly an obligatory tax but not a voluntary fee. People join for insurance, and career and business advancement. For many purposes, membership is a necessity.
  • An extraordinary "fee" on citizens and businesses is the extraction of money (or gifts) through graft. The proceeds go to officials as a perceived compensation for low pay. The anti-corruption campaign has, by anecdotal evidence, eased the burden of graft in some areas, but not eliminated it, nor is that the intention.

All these are mechanisms by which money is made to trickle upwards from households' pockets into the operations of the state and its socialist market economy.

The biggest hidden extractions, however, are from two other sources. First, from the murky world of local government borrowing which has reached alarming, if unknown, levels. Much of that debt is used for non-investment purposes, does not repay itself, and has to be covered ultimately from income that thereby is lost.

Second, from labour. Chinese workers are underpaid. The labour market is rigged and workers do not have the right to organise in their own interest. Wages have risen more slowly than economic growth. This redistribution from labour to capital goes in part to funding public activity, such as infrastructural investments, and in part makes up a subsidy to private enterprise.

Auxiliary revenues add between 10 and 15 percentage points of GDP. That brings public revenue to between 35 and 45 per cent. That's on a par with the world's most advanced economies.

The hidden extractions are considerable but the amount cannot be stated with any certainty. The level of underpayment of labour has, according to the World Bank, accumulated to between 10 and 15 per cent of real income, while local expenditure funded from borrowing is around five per cent of GDP. If half of that is expenditure that does not repay itself, we have another two to three percent in extraction.

The other sources listed above are of lesser magnitude but do add up. Cautiously estimated, hidden extractions raise the tax burden by another 20 to 25 percentage points of GDP. All together, then, the state that claims to charge its people less than a third of their income, in reality, probably costs them about two-thirds.

Most taxes, both the official and unofficial ones, are indirect and hence regressive in their distribution: the poor pay more and the rich less. The income tax, that could be progressive, contributes next to nothing to public revenue and is paid by only a fraction of households.

The tax test for the state, then, tells us the following: First, the Chinese people carry a heavy burden of taxes which is unfairly distributed. This is a strong negative in state-society relations.

Second, an economy in which two-thirds of national income goes through the hands of the state before it is put to use is a socialist economy. The socialist market economy has in some ways proved itself effective but is also a very expensive machine to run.

From the outside, China may look stable. But there is widespread public discontent, manifested in something like 500 "mass incidents" a day. These are, in large measure, expressions of tax revolt, protests against the treatment of workers and land seizures. Now that the tax burden can no longer be hidden by ultra-rapid growth, there are dangers, on the one side, of more discontent from below, and, on the other, already to be seen, of more repression from above.

Stein Ringen is emeritus professor at the University of Oxford. He is writing a book on the Chinese state