Impact of Production Tax Policy on Water Resource and Economy: A Case Study of Wenling City

Rapid urbanization and industrialization have intensified the contradiction between water scarcity and economic growth. Achieving synergy between economic development and water conservation through taxation and subsidy policies has emerged as a critical research focus. This study develops an extended Computable General Equilibrium (CGE) model incorporating a water resource module to evaluate the impacts of production tax and subsidy policies in Wenling City, Zhejiang Province, China, a typical water-scarce city. By integrating a nested Constant Elasticity of Substitution (CES) production function for various water sources, the model captures the interactions between water supply and industrial output. Six policy scenarios of taxations and subsidies are designed. The impacts on macroeconomic aggregates, industrial output, and water usage are simulated. Results indicate that standalone taxation policies (Water Conservation Taxation Policy A1/Industrial Transformation Taxation Policy B1) reduce water usage by 3.35–3.80% but suppress Gross Domestic Product (GDP) growth by 0.37–0.76%. Among combined policies, the Water Conservation Combined Policy A3 achieves the optimal synergy between water conservation and economic growth, increasing real GDP by 1.00% while reducing water usage by 4.97%. This study reveals that taxation curbs the expansion of water-intensive industries, whereas subsidies redirect production factors toward water-efficient industries. Combining these policies effectively balances water conservation and economic development objectives. This study demonstrates how differentiated tax instruments drive water conservation through industrial transformation, providing a quantitative framework for production tax policy formulation in water-scarce regions.