The effect of investment tax incentives: evidence from China's value-added tax reform

We estimate the impact of investment tax credit on firm fixed investment in a difference-in-differences-in-differences framework, using China's 2004 value-added tax reform pilot that introduces a permanent 17%-tax credit for fixed investment in six industries in the Northeastern region. The tax credit raises significantly fixed investment of eligible firms by 28% on average during 2004-2007 relative to 2001-2003, corresponding to a user cost elasticity of 1.84. The tax incentive has larger effects on firms that are less financially constrained such as smaller firms and firms with a larger cash flow. The result is largely driven by responses of domestic private firms and is robust to specifications addressing the issue of anticipation.