Tax Rates and Tax Evasion: Evidence from 'Missing Imports' in China

Higher tax rates on imports lead to higher tax evasion through mislabeling items and misstating their value.
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The Idea

Higher tax rates on imports lead to higher tax evasion through mislabeling items and misstating their value.

The Research

Raymond Fisman and Shang-Jin Wei studied the effect of tax rates on tax evasion. Because tax evasion by its nature is hard to see, previous research had measured it indirectly. This study is the first to measure tax evasion directly, by comparing the export and import of specific products from one place (Hong Kong) to another (China) in a single year (1998). The data covered 2,043 items for which the export and import records were comparable and complete and the tax rates were consistent for each product. The study included some records from 1996 and 1997 too, but variations within years and from year to year prevented their full use.

The results showed an “evasion gap”: the same items had a lower declared value as Chinese imports than as Hong Kong imports. The gap mostly came, not from underreporting the number of items on the Chinese side, but from mislabeling an item as something of lower value or from simply declaring a lower value for an item. The higher the tax for an item, the greater the evasion gap. A 1 percent rise in the tax rate yielded a 3 percent rise in evasion, and tax rates above 34 percent caused an even steeper rise.

Practical Applications

National trade officials

This research demonstrates a straightforward method for determining the degree and type of tax evasion in a country’s imports. The method can help you understand your own evasion gap and predict the effect of changes in tax rates for particular items. This study also offers a note of caution: there is a point at which any increase in the tax rate yields less rather than more tax revenue. The evasion gap is also a measure of the effectiveness of the rule of law, so it gives an indication of how a country might improve its tax collection.

International development and trade agencies

There is ongoing debate about the role of import taxes in economic development for poor countries. Most of the discussion relates to how much lower taxes promote national economic growth. This study reminds everyone of a key practical consideration: the efficiency of tax collection. Without accurate and fair enforcement, import taxes do not give the result that economists might predict. An effective tax collection system is just as important as a sensible tax regime.

Raymond Fisman

Raymond Fisman was a Columbia Business School faculty member from 1999 to 2015.

Shang-Jin Wei

Shang-Jin Wei has been Professor of Finance and Economics and N.T. Wang Chair in Chinese Business and Economy at Columbia University's Graduate School of Business since 2007. He is also Director for the National Bureau of Economic Research's Working Group on the Chinese Economy and a Research Fellow at the Center for Economic Policy Research (Europe). Before joining Columbia University, he had had the positions...

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Raymond Fisman, Shang-Jin Wei

"Tax Rates and Tax Evasion: Evidence from 'Missing Imports' in China"


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