Undermining State Capacity: Vertical and Horizontal Diffusions of Fiscal Power in China

Since the late 1970s, China's fiscal system has facilitated the initiation and implementation of economic reforms and greatly contributed to China's remarkable economic achievements. However, weaknesses of the fiscal system have been exposed that have aroused concerns about the weakening of state capacity. While many have discussed the loss of central fiscal control over localities under decentralization and its negative consequences, not enough attention has been paid to another major problem: the diffusion of fiscal power to nonfiscal government departments. In this article, I argue that the existence of the extra‐budgetary system has granted ad hoc taxation power to nonfiscal departments and led to the mismanagement of fiscal revenue. Compared with the vertical diffusion of fiscal power, i.e., the devolution of fiscal authority from central to lower‐level governments, the horizontal diffusion of fiscal power is more difficult to control and more detrimental to the institutionalization of China's fiscal system.