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Zero Marginal Tax Rate in China?

Posted in Taxes

(First Published 8/17/2011)

I have enjoyed a number of history, theology, Bible, literature, music, and economics courses offered by The Teaching Company over the past few years. I only listen to them while driving, so the frequency has dropped since moving into the city, but during my current trip to Tennessee I’m listening to Professor Peter Rodriguez at UVa’s Darden School of Business lecture on Why Economies Rise or Fall.

According to Professor Rodriguez, China’s current economic expansion began about 1980 when Deng Xiaoping cut the marginal tax rate on farmers to zero. Well, that’s not exactly what the professor said, but it is what happened. Under the planned economy, farmers had suffered under a quota system that required them to meet certain minimum production levels but took all they produced even if the quota was exceeded. Deng’s reform was to keep the quota in place but allow the farmers to keep all that was produced over the quota. So the tax rate up to the quota remained at 100%, but the marginal rate above the quota became zero percent. Farming productivity, and the total economy, immediately began rapid expansion. One might say that Deng’s reform established something like membership dues:  You have to pay your dues first, but once they are paid, you get all the benefits of membership. It’s pretty much the opposite of the US system.

Don’t even think that I am suggesting there is anything to like in the Chinese government or economy or any example there that the United States should follow. It is just that the little experiment Deng ran shows that policies matter, that economic systems are not static, and that people will respond to stimuli and act in their own best interests if they can just figure out what is going on, sense some stability, and have confidence they will be treated fairly.

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