China to give local governments bigger share of tax revenues to continue crucial infrastructure investments

China will distribute what could amount to trillions of yuan of national tax revenue to struggling provincial and municipal governments to finance infrastructure investment programmes in a bid to support the slowing economy.

China’s State Council said this week that it would make permanent a provision that gives local governments 50 per cent of the country’s value-added tax (VAT) revenue, while also gradually handing over additional revenue from sales taxes. While the cabinet did not elaborate, this could divert trillions of yuan to local government.

The move comes at a time when local fiscal revenues are drying up, in part because of personal and business tax cuts mandated by the central government to support the economy. This has posed fiscal and financial risks to China’s economy as municipal governments are usually not only a public service provider but also the owner and operator of the region’s largest infrastructure projects, key industrial enterprises and local financial institutions.

While China’s centralised administrative system does not allow a local government to declare bankruptcy – as the city of Detroit did in the United States – many local governments are running out of money, with Shanghai the only one of 31 mainland provincial-level regions not to report a fiscal deficit in the first half of 2019 from the initial distribution of revenue.

Tax revenue distribution between the central and local governments has traditionally been very uneven, favouring the decision makers in Beijing since 1994. For example, for every 100 yuan (US$14) in taxes paid by car manufacturers and distributors, local governments receive only 17 yuan (US$2.4), according to a research report by China International Capital Corporation, an investment bank.

For the nation as a whole, China’s central government took 48 per cent of the country’s fiscal revenues in the first eight months of 2019, leaving the vast local government apparatus – which includes 31 provincial governments, 330 municipal governments as well as around 2,800 county governments – sharing the remaining 52 per cent.