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The Incentive to Declare Taxes and Tax Revenue: The Lottery Receipt Experiment in China　

Junmin WanFukuoka University

wan ＠ econ.fukuoka-u.ac.jp

Preparation for the 64th Congress of the IIPF, the University of Maastricht, the Netherlands,

Aug. 22, 2008

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Purpose, Findings of Our Paper

• To examine `Lottery Receipt System’ theoretically and empirically.

Lottery Receipt: public lottery printed on official receipt

• Theoretically, this new system will work well.

• By panel data: the lottery receipt system has raised the business tax revenue, the real growths of both business tax and total tax revenues.

• By individual “panel”’ data: the new system promoted consumer to declare tax.

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Figure 1: Budget Deficit, Public Income and TaxRevenues in China, 1951-2004

-0.2

-0.1

0

0.1

0.2

0.3

0.4

1951

1955

1959

1963

1967

1971

1975

1979

1983

1987

1991

1995

1999

2003

Source: China Statistics Yearbook, 1991-2005

Ratio of budgetdeficit to publicexpenditure

Ratio of publicincome to GDP

Ratio ofbusiness tax tototal taxrevenue

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Reasons for Being Interested in Taxation in China

• High economic growth, budget deficit in China has been serious (Fig. 1).

• Gini coefficient: 0.39, 0.40, 0.47 in 1995, 2000, 2004, respectively, the degree of economic inequality is growing.

• Also in other countries, the taxpayer has an incentive to underreport the amount of taxes due, owing to the asymmetry of information between government and taxpayer.

• Underground economy in China. e.g. 14.4% of GDP in 2004 was undervalued

• Mainland China has a new system, ``Lottery Receipt Experiment (LRE).’’ Taiwan and Korea also have this type of system.

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Lottery Receipt Experiment (LRE)

• Nationwide, 7.98%, in 2003.

• Beijing: 2002-present.

• Tianjin: 2004-present.

• Reported prize in Beijing:

1,667,700 Yuan in 2002, 11,170,000 Yuan in 2003.

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Literature on Tax Evasion

• Allingham and Sandmo (1972, J. Pub. E) underreport, punishment

• Cowell (1990, The MIT Press) cheat the government

• Cremer and Gahvari (1993, J. Pub. E) commodity tax, punishment, tax rates

• Fisman and Wei (2004, JPE) “missing imports” in mainland China

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Fig.2 Lottery Receipt System

　　　　　　　　　　　 consumers have chance to get prize from government

　　　　　 　 lottery receipt 　 goods and lottery receipt

　　　　　　　　　　　　 government 　　　　　　　　　　 　 firm 　　　　　　　　　　　　　 consumer

　　 tax based on the lottery receipt 　　　　 　 money (transaction)

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The Benchmark Model(without lottery receipt)

• From Cremer and Gahvari (1993, J. Pub. E)

• Many homogenous firms, completely competition, one good,

linear production function, marginal cost =c • N consumers

• Consumer share the information on transaction with the firm without any cost

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Firm’s Expected Profit

• α: proportion of sales reported by firm, [0, 1]• β: auditing probability, [0, 1]• τ: punishment, [0, ∞)• x: output• p: selling price• t: rate of sales tax• g: cheating cost, [0, ∞)

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Expected Tax Rate

• Cheating firms’ price: p ＝ c+g+te,

g: cost for cheating

te : tax rate based on evasion

• Honest firms’ price: ph ＝ c+t

• p<ph or p >ph ?

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Honest Firms Excluded

• Lemma 1. p<ph (g+te <t), the tax evasion problem.

• The honest firms are excluded by cheating firms, and there are only tax evading firms in the equilibrium.

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Optimal Policy Under Evasion

• Government’s Problem

• where,

• ``Social optimal’’

t*>0, β*>0, τ*>0, given that 1 >α*>0

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Subsidy Mechanism (e.g. LRE)

• Keep the auditing (β* ＞ 0)

• Give the consumers a subsidy (s, e.g. lottery) to make them declare tax (e.g. ask for an official receipt)

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Pareto-improving• The consumer’s incentive to declare tax: ps=c+t*-s ≤ p =c+te*+g(α*) → s ≥ t*- te* -g(α*)

• The government’s incentive to introduce the subsidy: → s ≤ t*-te* • Proposition 1. If t*-te* ≥ s ≥ t*- te* -g(α*), this econom

y will be Pareto-improving.

• The net increase of government revenue: g(α*)

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Cheating Firms Excluded, Pareto-efficient Policy

• Proposition2. The government can find a s** to enable the practic

e of the Pareto-efficient taxation (t**) without evasion.

• The cheating firms will be excluded.

• The cheating cost g(α*) will be totally saved, and the monitor cost d(β*)will be partially saved.

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Consumers’ Reporting Cost (ζ)

• Proposition 3.

If g(α*)- ζ>0, t*-te* ≥ s ≥ t*- te* -g(α*) +ζ, this economy will be Pareto-improving.

• To decrease the ζ Pareto-improves the economy.

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Evidence from Macro Panel Data• Panel estimation based on 37 districts in Beijing and Tianjin, 1998-2003

• Data Sources: Business tax revenue, Total tax revenues, CPI, Population, etc.　 Beijing Statistics Yearbook 1999-2004; Beijing Public Finance Statistics Yearbook 2002-2004; Tianjin Statistics Yearbook 1999-2004; China Statistics Yearbook 1999-2004.

• Information on LRE and prize: Beijing Local Taxation Bureau; Tianjin Local Taxation Bureau; China Taxation Bureau; Newspapers, etc.

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Treatment and Control Group

　　　

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Random Trend (Growth) Model

• Heckman and Hotz (1989), Papke (1994)

• yit: level or log value of tax revenue at time t • Zit: other control variables• LREit: Lottery Receipt Experiment 　　　　　　（ Dummy=after dummy * experiment dumm

y) • ci ： specific effect at district i •

θi ： trend, or growth trend • t : time trend

　

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Empirical Results from Macro Panel

• Random Trend Model (effect on the level of tax revenue) 　 Business tax revenue: + 17.1% Total tax revenues: +, but not significant

• Random Growth Model (Effect on the growth of tax revenue) Growth of business tax revenue: + 21.5% Growth of total revenues: + 10.04%, but weakly significant (at 10%)

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Evidence from Individual “Panel” (1)

• Chinese Household Survey, Feb. 2006

• Osaka University performed the survey

• Shanghai, Beijing, Chengdu, Guangzhou, Shenyang, Wuhan (LRE in 2005)

• 1,500 households, randomly sampled

• Questions on the consumers’ behavior before and after the LRE

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Evidence from Individual ``Panel” (2)

• For the 1,021 respondents who did not ask for and receive official receipts before the LRE:

384 respondents (384/1,021=37.6%) of them asked for and received lottery receipts per 2.039 times shopping or eating out after the LRE, and 331 respondents (331/384=86.2%) answered that the reason is ``because the lottery was printed on the receipt.’’

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Evidence from Individual “Panel” (3)

• For the 479 respondents who did ask for and receive official receipts before the LRE:

They asked for and received an official receipt per 2.532 times shopping or eating out, while after the LRE 450 respondents of them did ask for and receive official receipts per 1.620 times shopping or eating out, and 332 respondents (332/450=73.7%) answered that the reason is ``because the lottery was printed on the receipt.’’

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Empirical Results by Individual “Panel”

• The frequency of receiving receipt was significantly and largely increased by the LRE

(p-value = 0.000 by difference tests).

• When a consumer asks for and receives an official receipt, the government can simultaneously know the transaction between a buyer and a seller, then easily collect the business (sales) tax.

• For a consumer, the LRE is given, thus the results are reliable (robust) because we control the “self-selection problem” well.

• It strongly supports that LRE significantly promotes the consumer to declare tax.

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Findings and Implications (1)

1) Theoretically, LRE will work well.

2) LRE worked well based on macro panel data.

3) Individual `panel’ data strongly supports that LRE promote consumers to declare tax.

(a natural experiment, control self-selection)

4) The LRE may contribute to national accounting system (NSA) by mitigating the issue of underground economy.

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Findings and Implications (2)

5) To make LRE work better, we should decrease the consumer’s reporting cost.

6) This system may work well in other countries.

7) China’s government had better go on this new system.

8) Just like LRE, institutional innovations may contribute to explain “China Miracle.”

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For Future Research

• To clarify why the consumer prefers lottery.

• More comprehensive data, nationwide, 2004 － now.

• Micro “panel” data analysis in rural sectors.

(the authors is doing this work with rural individual “panel”)

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Thank you very much!