Tax Revenue, Night Lights and Underground Economy: Evidence from China

This objective of this paper is to assess the correlation among economic growth, tax revenues, tax evasion and tax reforms in China. Especially, we explore the usefulness of a special proxy for economic activity: the amount of nightlight that can be observed from outer space as a measure of economic growth to measure its impact on tax revenue. Empirical analyses GDP and taxes were based on the data of National Statistical Yearbook of China from 1991 to 2020. The night-lights data was gathered from the United States Air Force Defense Meteorological Satellite Program (DMSP). Kuznets approach was used to estimate the correlation between China’s GDP and taxes. The theoretical model to measure and calculate the sum of night illumination brightness was designed. We used the SUR-OLS method and the sum of night lights data to estimate its impact on China’s tax revenues. We have found that the total tax revenue increases with the growth of GDP, revealing that China’s GDP has not yet reached the Kuznets inflection point where the elasticity of tax revenue is equal to zero. That is, China’s current GDP does not show serious tax evasion. To confirm the correlation between GDP and direct and indirect taxes, we have found that GDP and indirect tax revenue shows a J-shaped curve. However, the relationship between GDP and direct tax holds an N-shaped curve, indicating that indirect tax revenue is less likely to lead to tax evasion than direct tax revenue. The evidence suggests that there is a significant positive correlation between the sum of night lights and GDP, and the impact of sum of night lights on total tax revenue is also positive, but it is insignificant.