|Ho Chi Minh City|29|26|23|
|---|---|---|---|
|Dong nai|49|45|51|
|Binh Duong|44|40|40|
|Ba Ria – Vung Tau|42|46|44|
|Can Tho|95|96|91|

Source: World Bank (2015). _Note_ : Tax sharing rate indicates the percentage of shared tax revenue (shared taxes are taxes shared between provincial and central governments, including VAT, PIT, and CIT) that a province can keep before returning to the central government. The rest of the provinces are “deficit” provinces, which imply they always retain 100% of their shared tax revenues. These 13 provinces out of the 63 in the table keep a portion of their shared taxes and transfer the rest to the center for redistribution across the country.

Our hypothesis is that as the residual claimants of corporate tax revenues, provinces have incentives to improve the business environment and encourage private sector activities to maximize revenues.<sup>14</sup> However, in corrupt environments, provincial officials face a trade-off between reducing corruption to increase tax revenues through firm growth and increasing the amount of bribes/informal charges they can extract from firms.<sup>15</sup> Therefore, the incentive to improve the business environment depends on the share of revenues that they are allocated, which affects the rate of returns from encouraging business activities. Consequently, a change in the allocation rules can have an impact on the quality of the business environment, especially as related to corruption. Since the allocation is determined centrally by taking into account revenue and budget demands of all provinces, the resulting share that each province can keep – after controlling for past firm performance within the province – is arguably exogenous to firm performance within the province. Therefore, our instrument is the _residual_ from regressing the provincelevel revenue share on its lagged aggregate tax revenue, calculated from the Enterprise Survey.

IV results on the impact of the overall PCI and the Informal charges index on firm-level TFP are reported in Table 10.<sup>16</sup> We do not use fixed effect IV as the strict exogeneity assumption in this case might not be satisfied if the tax sharing rate is correlated with past firm performance. The first-stage results in columns 1 and 3 show that the revenue share (net of the effect of own province’s past revenue) has significant predictive power on both overall PCI and the corruption index.<sup>17</sup> Counterintuitively, this relationship is negative.<sup>18</sup> Columns 2 and 4 show the IV results with the overall PCI and the Informal charges indices respectively. We find that overall PCI still has a positive and significant impact on firm TFP but the coefficient estimate on informal charges, while larger than in Table 3 and Table 4, is no longer significant.

> 14 Corporate income tax accounts for 53% of all tax revenues at the provincial level in 2015, representing a significant portion among all provincial revenue sources.

> 15 This is analogous to the golden goose effect (Niehaus and Sukhtankar 2013) when rent extraction is a dynamic problem and rent extracted in the current period has a negative impact on future rents.

> 16 These results will require further refinement as provincial public investment levels can be included as additional controls.

> 17 The Chi-sq and F-stat suggest that H0 of under identification and weak identification are rejected.

> 18 Theoretically, the relationship is ambiguous. This result would be consistent with a setting where the effort cost to improve provincial competitiveness is sufficiently high such that a higher tax sharing rate can reduce the optimal effort level.

18