2026, 2(18): 176-210.
The Fourth Plenary Session of the 20th Central Committee of the Communist Party of China (CPC) emphasizes the imperative to “consolidate and strengthen the foundations of the real economy, and keep the focus of economic development on the real economy,” and further calls for efforts to “advance the building of a manufacturing powerhouse along intelligent, green, and integrated pathways, maintain a reasonable share of manufacturing, and develop a modern industrial system with advanced manufacturing as its backbone.” At the micro level, firms’ real investment is shaped not only by demand fluctuations and profit expectations but also crucially by financing conditions and cash-flow constraints. Manufacturing upgrading typically requires equipment renewal, process improvement, and technology adoption that are capital intensive, long-horizon, and slow to pay off. When liquidity constraints become binding, firms are more likely to postpone or scale down capital expenditures, or to tilt their portfolios toward short-term and low-risk uses of funds, generating distortions in investment structure. Accordingly, a systematic assessment of whether and how institutional policies can improve firms’ financing conditions and financing capacity to redirect capital toward real investment is important for understanding investment dynamics and structural adjustment, and for informing the design of policy toolkits aimed at strengthening the real economy with micro-founded evidence. From a policy perspective, since 2018 China has rolled out a sequence of tax and fee reductions intended to lower firms’ burdens and costs, stimulate demand-side momentum, and enhance supply-side vitality. Within this policy package, VAT credit refunds constitute a prominent institutional arrangement that directly improves corporate cash-flow positions. Under the relevant rules, tax authorities may refund firms’ excess accumulated input VAT credits in advance, rather than requiring firms to wait until future output VAT liabilities arise to offset those credits. For eligible firms, the policy effectively releases funds previously tied up within the VAT chain, representing a sizable and salient concession. For real-sector firms with high shares of fixed-asset and intermediate-input spending, VAT credit refunds may therefore influence investment decisions and investment structure by changing the degree of liquidity lock-up and firms’ financing behavior, potentially promoting real investment. At the same time, however, the released liquidity could be diverted into financial asset holdings, short-term wealth-management products, or other non-productive uses. This concern is particularly salient amid China’s ongoing growth-model transition and deepening reforms, as pressures on the real economy have intensified while financial instruments and related products have proliferated, drawing attention to corporate financialization (the “shift from real to virtual”). Weak and slowing real investment undermines allocative efficiency and productivity growth and is unfavorable to structural upgrading, while excessive expansion of financial capital may crowd out real investment and heighten bubble risks. This raises a sharper, policy-relevant question: do VAT credit refunds steer capital toward real-sector investment, or—under certain conditions—do they end up reinforcing a “from real to virtual” allocation pattern?
To address this question, this paper leverages the 2018 expansion of VAT credit refunds across industries as a quasi-natural experiment. Using a sample of A-share listed firms over 2010-2021, we employ a difference-in-differences framework to evaluate the effects of VAT credit refunds on both the level and the structure of corporate investment from a financing perspective. The results indicate that the policy significantly increases firm investment; more importantly, the incremental investment is primarily driven by real (productive) investment, implying a structural shift toward the real sector and a corrective force against “from real to virtual” tendencies. Mechanism analyses suggest that improved financing capacity is the primary transmission channel. Specifically, VAT credit refunds strengthen internal financing by improving operating cash flows and reducing working-capital lock-up and cost pressure in input purchases; they also strengthen external financing by easing financing constraints and mitigating information asymmetry, thereby improving credit assessment and financing availability and enhancing firms’ debt-financing capacity. Heterogeneity analyses further show that the financing incentive is stronger for large firms, while non-state-owned firms exhibit a more pronounced response in both investment expansion and investment-structure upgrading. These findings provide micro-level evidence consistent with the policy objective that VAT credit refunds can stabilize firms, relieve pressures, facilitate capital renewal, and support upgrading of the real economy.
This paper makes three contributions. First, it provides quasi-experimental evidence on how China’s VAT input credit refund program affects corporate investment with an explicit focus on real (productive) investment and the composition of investment, thereby speaking directly to the policy objective of strengthening the real economy. Second, we open the black box of transmission by documenting a financing-channel mechanism: VAT credit refunds ease liquidity lock-up and improve internal funding capacity, and they also mitigate financing constraints and information frictions, enhancing access to external debt finance. Third, by linking a major tax-policy instrument to firms’ investment allocation and financialization tendencies, our findings offer policy-relevant insights on how tax administration and financial intermediation can jointly steer resources toward technology upgrading and capital formation in the real sector.
Based on the analysis in this article, the following policy recommendations are proposed. First, refine VAT credit refund design and implementation to strengthen timely, predictable liquidity support for the real sector by streamlining verification and shortening processing time, with more targeted, compliant fast-track arrangements for high-tech manufacturing, strategic emerging industries, and upgrading projects in traditional industries. Second, enhance the financial system’s responsiveness to tax-policy signals to unblock the “refund-financing-investment” channel by incorporating refund receipt/stability into credit assessment and risk pricing, leveraging tax data to reduce information frictions, and directing more medium- and long-term credit—via guarantees, risk-sharing, and relending tools—toward manufacturing, technological renovation, and equipment upgrading, especially for SMEs. Third, build a tax-finance coordination framework with an explicit real-investment orientation to deter diversion into short-term financial placements by strengthening disclosure and linking incentives/support to verifiable real-investment outcomes (e.g., equipment upgrading, R&D, green and digital transformation) through a closed loop of ex ante guidance, in-process monitoring, and ex post evaluation.
