Sources of income differences across Chinese provinces during the reform period: A development accounting exercise

China's rapid and uneven growth since 1978 has not eliminated but even reinforced the persistent income inequality across provinces. While existing literature focuses mainly on the provincial variation in growth performance using cross-province growth regressions or growth accounting, few efforts has been made to directly study the differences in income levels across provinces. This paper explores the proximate causes of cross-province income differences in the framework of development accounting. Rather than assuming a priori values for output elasticities of capital and labor, we estimate them from an aggregate production function using panel data. The accounting results show that differences in total factor productivity (TFP) and in physical capital intensity are both important sources of cross-province income differences, each accounting for roughly half of the variation of income levels. Differences in human capital accumulation explain only a small amount of income differences across provinces. The results are robust to whether or not the assumption of constant returns to scale is imposed, and are valid in the long run. We do not exclude the possibility that interaction between factor accumulation and TFP plays an important role in determining cross-province income differences.