The impact of fiscal pressure on education expenditure: Evidence from China

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Abstract
Adjusting the tax distribution relationship among governments at all levels in the reform of the fiscal and taxation system will inevitably trigger changes in local government fiscal revenue. Will the fiscal pressures accompanying such changes have a significant impact on the expenditure decisions of local governments? Drawing on the 2002 Income Tax Sharing Reform in China as a quasi-natural experiment, we apply an intensity difference-in-difference methodology to evaluate how fiscal pressure influence county-level education provision. The empirical evidence indicates that counties most exposed to the reform experienced a marked reduction in the proportion of fiscal expenditure devoted to education, with the impact exhibiting a lagged and persistent pattern. The heterogeneity analysis reveals that fiscal pressure has a more pronounced negative impact on education expenditure in counties with developed economies, lower pre-reform education expenditure ratios, and outflow of transfer payments, while special transfer payments can better alleviate this negative effect. In addition, we also found that county governments will give priority to cutting education expenditure after suffering a fiscal shock, and intergovernmental competition further amplifies the adverse effect of fiscal pressure on county education expenditure.The analysis and conclusions of this article help to explain the reasons for insufficient education expenditure at the county level across China, thereby providing effective suggestions for the local government’s fiscal expenditure decision-making choices under fiscal pressure, and also providing important inspiration for advancing modern fiscal and tax system reforms.

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