How China's Tax Structure Crushes The Poor

Income inequality is just one of many issues facing China, with the nation's credit conditions ushering in a slowdown of an economy that has been unstoppable for three decades.

In a new note to clients, Morgan Stanley's Richard Xu writes how China's tax structure puts the poor at a gross disadvantage.

China’s tax structure partly contributes to the widening income gap as China relies more on indirect or transaction-based taxes, such as business tax, VAT, and consumption tax (around 50% of the tax base in China, versus less than 20% in many developed countries), this effectively imposes a higher tax rate on the lower-income population because of the larger share of their incomes that is spent on consumption. The situation is more pronounced if we consider taxes on land sales as transaction-based taxes.

"On the spending side," Xu writes, "government spending may not be the best system to provide support for low-income groups. Because of 1) its greater focus on investments, 2) potential leakages, and 3) friction costs during transfers between central and local governments, vested interest groups could benefit more."