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Does Fiscal Decentralization Increase the Investment Rate? Evidence from Chinese Dynamic Panel Data


  • Qichun He

    (Central University of Finance and Economics)

  • Meng Sun

    (Beijing Normal University)

  • Heng-fu Zou

    (Development Research Group, World Bank)


It is puzzling why China has one of the highest investment rates in the world. In 1994 China introduced a new fiscal system. Using this natural experiment and the dynamic provincial panel data during the following period 1995-2002, we find that fiscal decentralization has a significant, positive effect on the physical capital investment rate in both LSDV (Least squares dummy variables) and system GMM (Generalized method of moments) estimations. The results are robust to controlling for other variables, and province and time effects. China's political centralization has been maintained during its economic decentralization. The provincial officials are not elected by the local constituents, but appointed by the central government. The central government disciplines them by linking their promotion with the performance of the local economy. Therefore, it is rational for provincial officials to raise investment rates to maximize local growth and thereby their chance of promotion, explaining our findings.

Suggested Citation

  • Qichun He & Meng Sun & Heng-fu Zou, 2013. "Does Fiscal Decentralization Increase the Investment Rate? Evidence from Chinese Dynamic Panel Data," CEMA Working Papers 592, China Economics and Management Academy, Central University of Finance and Economics.
  • Handle: RePEc:cuf:wpaper:592

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    References listed on IDEAS

    1. Qian, Yingyi & Roland, Gerard, 1998. "Federalism and the Soft Budget Constraint," American Economic Review, American Economic Association, vol. 88(5), pages 1143-1162, December.
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    4. Wilson, John Douglas, 1999. "Theories of Tax Competition," National Tax Journal, National Tax Association, vol. 52(2), pages 269-304, June.
    5. Treisman, Daniel, 2000. "The causes of corruption: a cross-national study," Journal of Public Economics, Elsevier, vol. 76(3), pages 399-457, June.
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    7. Windmeijer, Frank, 2005. "A finite sample correction for the variance of linear efficient two-step GMM estimators," Journal of Econometrics, Elsevier, vol. 126(1), pages 25-51, May.
    8. Wilson, John Douglas, 1999. "Theories of Tax Competition," National Tax Journal, National Tax Association, vol. 52(n. 2), pages 269-304, June.
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    Cited by:

    1. He, Qichun, 2015. "Fiscal decentralization and environmental pollution: Evidence from Chinese panel data," China Economic Review, Elsevier, vol. 36(C), pages 86-100.

    More about this item


    Fiscal decentralization; Investment rate; Dynamic Panel data;

    JEL classification:

    • H77 - Public Economics - - State and Local Government; Intergovernmental Relations - - - Intergovernmental Relations; Federalism
    • O16 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance
    • C23 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Models with Panel Data; Spatio-temporal Models

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