Revenue sharing, fiscal incentives, and economic growth: Evidence from China

Abstract This study revisited the impact of fiscal decentralization on China's economic growth, focusing on the role of the revenue‐sharing system in providing local fiscal incentives. Using city‐level data from 2003 to 2016, we construct the revenue retention rate at the sub‐provincial level to test the impacts of fiscal incentives on economic growth. The results show that the sub‐provincial revenue retention rate is significantly and positively associated with the local economic growth rate. Further, we find that a higher revenue retention rate encourages sub‐provincial governments to spend more on infrastructure, borrow more debt, distort land price, and relax environmental regulatory standards. Our findings indicate that the positive economic effect of fiscal decentralization is accompanied by a social cost and increased financial risk.