is likely because of the adjustment we make to account for possible informality of consumption, which is likely to be more prevalent among households at lower parts of the income distribution. This would be consistent with other recent evidence that shows that VATs can be progressive when informality of consumption is accounted for. (Bachas et al 2023). Had we not accounted for the possible informality of purchases as we do here, the marginal contributions of VAT would be closer to -0.60, which suggests that the informality of purchases in rural areas (which we proxy for using measures from Thailand) shields poorer households from VAT to a certain extent.

# Discussion and Conclusion

In this paper we have applied the standard fiscal incidence analysis to data from the China Family Panel Study 2018 to study the effect of government taxes and spending on inequality in China. The analysis includes fiscal elements such as personal income tax, contributions to social insurance, value-added tax, consumption tax, cash transfers, contributory pensions, and spending on education and health and accounts for 63 percent of overall total revenues and 43 percent of total government spending. The findings suggest that China already achieves quite a bit of inequality reduction through its fiscal policies but there is ample room for the country to do more. Greater reliance on progressive fiscal instruments such as PIT would not only enhance redistribution but also generate fiscal resources China could use to address future drivers of inequality such as population aging and climate change. In addition, there is scope to make social assistance more effective in responding to economic transitions and demographic trends. Cash transfer programs could expand dynamic monitoring systems (currently being piloted in a few cities such as Chongqing and Hangzhou) to be able to quickly respond to vulnerable families that experience unexpected income falls or increases in critical spending (such as on health care). Rapid aging of the population also requires reconsidering reforms to increase the adequacy of the resident pension system while ensuring its sustainability.

Social spending and human capital investment already contribute significantly to reducing inequality, but the hard task of shifting China’s growth model, decarbonizing the economy, and dealing with population aging will require further investment in human capital. China has more than doubled its spending on education over the last 15 years, but at 3.6 percent of GDP in 2018 it was still lower than the average for the upper-middle-income countries (UMICs) of 4.5 percent. Spending on health (1.7 percent of GDP) was similarly about half of the UMIC average of 3.4 percent. Spending better would be just as important to close access and quality gaps across economic sectors and geographic regions. Expanding coverage of social assistance programs to cover those beyond the extreme lowincome families unable to work, controlling rising health care costs, addressing gaps that exist within the two-tiered social insurance system (for instance, by increasing the benefits of the resident pension system, particularly in rural areas), and ensuring portability of social benefits, are all improvements that could lower the burden of out-of-pocket spending for the relatively less well-off (World Bank and DRC 2022).

Turning to the revenue side of the budget, China’s domestic revenue mobilization level is higher than the uppermiddle-income country average, though still below the OECD average. As countries develop, their ability to collect revenue from domestic sources improves. The tax base broadens, greater numbers of workers and firms engage in formal economic activities and administrative capabilities of the state improve, making it easier to collect different types of taxes effectively and efficiently. Average revenue collection for low-income countries (LIC) is 18.3 percent of GDP. This increases to 21.5 for lower-middle-income countries (LMICs), 25.6 percent for the UMICs, and 39.6 22