NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH
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Tax Policy and Lumpy Investment Behavior: Evidence from China's VAT Reform

Zhao Chen, Xian Jiang, Zhikuo Liu, Juan Carlos Suárez Serrato, Daniel Xu

NBER Working Paper No. 26336
Issued in October 2019, Revised in June 2020
NBER Program(s):Economic Fluctuations and Growth, Public Economics, Productivity, Innovation, and Entrepreneurship

We incorporate the lumpy nature of firm-level investment into the study of how tax policy affects investment behavior. We show that tax policies can directly impact the lumpiness of investment. Extensive-margin responses to tax policy are key to understanding the effects of different tax reforms and to designing effective stimulus policies. We illustrate these results by studying China's 2009 VAT reform, which lowered the tax cost of investment and reduced partial irreversibility|the price gap between new and used capital. Using administrative tax data and a difference-in-differences design, we estimate a 36% investment increase. This effect is driven by investment spikes, which is consistent with the reduction of VAT-induced partial irreversibility. Using a dynamic investment model that fits the reduced-form effects of the reform, we show that policies that directly reduce the likelihood of firm inaction are more effective at stimulating investment.

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Document Object Identifier (DOI): 10.3386/w26336

 
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