Points
From international experience, vat tax adjustments may affect prices, but lower vat rates have less impact on prices than higher rates. International experience has shown that the price transfer rate of the downgrading vat rate is about 20-50 per cent. China's actual vat burden is significantly lower than its nominal value for a number of reasons, including export exemptions, tax refunds, low collection rates by small taxpayers, tax credits for equipment purchased, and vat tax incentives。
In response to this downward revision of vat rates, the price transfer rate implied in the current commodity futures market is about 40 per cent. While other factors remain constant, the downward revision of vat tax rates may have suppressed ppi inflation from 0. 2 to 0. 4 percentage points after april 2019 and cpi inflation from 0. 1 to 0. 2 percentage points. Prices, however, are also affected by a variety of factors, and in reality price declines are likely to be smaller than estimated. For example, as a result of increased tax efficiency, firms may also have less access to tax cuts, which may also affect the space for firms to reduce prices。
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In the report of the government on the work of 2019, it was stated that “the current rate of 16 per cent for manufacturing, etc., should be reduced to 13 per cent and the current rate of 10 per cent for transport, construction, etc. To 9 per cent”. On march 15, 2019, the premier of the state council, in a meeting with foreign and chinese journalists after the two meetings, said: “vat will be reduced on april 1st.” after the lower vat rate, is it a lower price for the company, a lower consumer? Or is it business that does not lower prices and increase profits? The market has been divided. In this report, we first review the historical impact of foreign and domestic vat adjustments on prices and then use the lifting water of commodity futures to observe the impact of the implicit lower vat rates on prices。
Impact of vat adjustments on prices: international experience
A total of 150 countries now use vat, accounting for about one fifth of their overall tax revenues. Adjustments to vat rates are not uncommon in the history of countries, and the impact of each adjustment on the price of the relevant product is a focus of consideration at the decision-making level。
Higher vat rates may have an upward effect on prices, but they are generally dependent on the combined effect of other factors. At the micro level, whether the increase in tax rates and the increase in prices depends on the elasticity of supply and demand is determined by the market structure of buyers and sellers in the relevant markets. At the macro level, the parallel increase in tariff increases also depends on the impetus of other expansionary factors (the tax increases themselves are austerity policies). A study that measured changes in post-vat inflation rates in 35 countries found that 22 of them had little impact, 7 had one-off effects and only 6 countries experienced accelerated inflation (figure 1). All six countries have simultaneously adopted other expansionary policies, such as credit expansion. The impact of vat on cpi has also been mostly one-off in terms of several countries that have increased their vat rates in recent years (figure 2)。
Changes in vat tax rates are asymmetrical in price transmission, and overall, lower vat rates have less transmission effect on prices than upwards. This may be due to the existence of fixed costs, which make it easier for producers to reduce rather than increase production, and therefore to raise prices when vat rates rise. For example, in terms of cpi sub-data affected by the vat adjustment alone, latvia and hungary reduced vat tax rates at a rate lower than when price transmission was higher: 36 per cent in latvia and 25 per cent in hungary at a rate lower; and close to complete transmission at a rate higher in both countries (figures 3-4). There are also studies that more accurately estimate the price transfer effects of lower vat rates, with results ranging from 20 to 50 per cent。
Experience of china
China's historical downgrading of vat rates to prices seems to have been suppressed. Since 1 may 2018, when 17 per cent and 11 per cent of vat tranches have been reduced to 16 per cent and 10 per cent respectively, ppi growth has started to fall below trend, while cpi appears to have been less affected (figure 5). Some market structures are monopolized producers that also lower the price of their products to the extent that vat is reduced, such as apple-series products, imported cars, etc. With effect from 1 july 2017, 11 per cent of the value added tax (vat) rate was applied to commodities that had been applied to the 13 per cent vat rate. Salt originally belonged to a 13 per cent tax range, while sugar was subject to a 17 per cent tax range until 1 may 2018. Theoretically, the salt should be reduced relative to the sugar price after 1 july 2017. In reality, the ratio of salt and sugar prices did temporarily deviate from the long-term growth trend after 1 july 2017 (figure 6)。
One reason why china's lower value added tax (vat) rates have had less impact on prices may be that the actual vat burden is lower than nominal value. For a number of reasons (export exemptions, tax refunds, low collection rates by small taxpayers, tax offsets on acquisition of machinery and equipment, vat tax incentives, etc.), the actual vat burden is lower than nominal (figure 7). For example, in the case of an exporting enterprise, vat would not otherwise have been paid and would therefore not have been affected by lower vat rates; for example, for small taxpayers, the vat rate would have been 3 per cent and not for lower vat rates. In the case of manufacturing, the actual vat burden (vat/value added) in 2016 was 8 per cent, about half of the nominal value of 17 per cent. Therefore, these factors need to be taken into account in estimating the impact of lower vat rates on overall prices。
3. Impact of lower tax rates on prices in futures prices
What is the rate of price transfer of the reduced vat rate? The commodity futures market sent some signals. Following the announcement by prime minister li keqiang on 5 march 2019 in a report on the work of the government, a reduction in vat rates was announced in may and april, reflecting the market's expectation that the vat rate would fall in may. At a press conference of prime minister li keqiang on 15 march 2019, it was announced that the value added tax (vat) rate would be reduced after landing on 1 april and that the difference between copper prices in the previous period would increase in may and april. The difference between the prices of comex copper in may and april did not show this effect during the same period (figure 8)。
This reaction to commodity futures was reflected in the reduction of vat rates in 2018 and 2019. Since the prices of commodity futures are tax-inclusive, there will be a rapid response before and after the announcement of the time nodes at which vat rates will be reduced. To exclude other information contained in futures lifts, we use the difference between the previous period and the lme contract price difference of the same month and the three-month contract to represent the market’s expectation of price changes following the lower vat rate. Before and after the reduction in vat rates announced in 2018 and 2019, the market clearly expected lower prices for commodities (copper, aluminium, zinc, lead) (figures 9, 10)。
However, the real price decline may be smaller than the implicit price decline in futures markets. Since the prices of industrial goods are influenced by a variety of factors and are highly volatile, often the degree of volatility in a single day exceeds the effect of the lower vat rates, the actual price reduction may be less than the implicit price decline in futures markets. In the case of the 1 percentage point reduction in the vat rate, which began on 1 may 2018, the price of copper implied in the futures market was 0. 7 per cent, while in real spot prices after 1 may, the drop in the price of copper was not significant and even began to rise in june. However, the difference between domestic and foreign prices of copper cash has narrowed, showing whether vat rates have been lowered or whether domestic copper prices have been suppressed (figure 11)。
The price transmission rate implied in futures markets is currently around 41 per cent. By comparing the average of the difference between the prior period and the lme monthly and three-month contract price differentials, which are announced in figures 9 and 10 for 10 days, we can extrapolate the implicit price reductions in the various markets (figure 12). We use the average of implied price reductions for copper, aluminium, zinc and lead as an implied average price reduction for the market and, compared with the theoretical maximum price reduction, found that the current rate of implied price transmission in the market was about 41 per cent, compared to 54 per cent in 2018 (figure 13)。
4. What is the impact on overall prices
Based on the price transfer ratio implicit in the commodity futures market, and taking into account the experience of other countries and china’s actual situation (export duty-free, small-scale taxpayers, etc.), we assume that a price transfer ratio of 10-20% is used to estimate ppi changes. Since approximately half of the cpi basket is service, and is not affected by the downgrading of vat rates, cpi changes are estimated at 5-10 per cent price transfer rates。
Other factors are likely to cause ppi to fall by about 0. 2 to 0. 4 percentage points after april 2019, and cpi by 0. 1 to 0. 2 percentage points as a result of the downward revision of vat rates. In fact, prices are also affected by a number of factors. If tax cuts support demand, the two-round effect of vat tax rates means that price declines may be smaller than our estimates. Tax cuts are an expansionary fiscal policy, and real consumer demand is likely to increase, thus raising prices. When the 2008 financial crisis took place, the united kingdom used temporary reductions in value added tax rates as the main response to the crisis (figure 14). In addition, because of the increased efficiency of taxation, the sense of access that enterprises may receive from tax cuts may in practice be less significant, thus also affecting the space for enterprises to reduce prices。
Comment:
Transmission ratio = price reduction/the theoretical maximum price reduction. For example, the vat rate was reduced from 25 to 20 per cent, with the theoretical maximum price decline = (1. 2-1. 25)/1. 25 = 4 per cent。
Prices declined by an average of 1 percentage point, so the transmission ratio was 1/4 = 25 per cent。
As a result of these factors, the impact of the three-point drop in vat rates on industry may not be as significant as in nominal terms, and the impact of the real vat burden may be around 1-2 per cent. Of course, for a single enterprise, the actual vat burden could have an impact of up to 3 percentage points if it did not have the four above。
Data from china's annual report on shared economic development。
This refers to an increase in consumer demand as a result of lower prices for enterprises, which leads to an increase in aggregate demand and has a positive effect on prices。
