Like the new and hate the old: The impact of fiscal decentralization on regional development strategy

Abstract

This paper evaluates the impact of China’s fiscal decentralization reform, namely the “Province-Managing-County” (PMC) fiscal reform, on local governments’ regional development strategy using county-level data in China covering 2000 to 2013. Surprisingly, after implementing the PMC fiscal reform, local governments will adjust their strategy of supporting zombie firms and attracting new firms, indicating that fiscal decentralization has changed the regional development strategies of local governments. We perform a difference-in-differences (DID) analysis and find that the PMC fiscal reform materially induces an average rise of 0.131 in newly added firms, an average decline of 0.383 in zombie firms, and no significant change in other firms. There is a pronounced substitution effect between zombie firms and newly added firms. We also find evidence supporting this argument: the government’s subsidy, tax treatment, and financial support. Our study provides empirical evidence that local governments’ regional development strategies can be affected by fiscal decentralization.