Apart from agency conflicts and information asymmetry between managers and shareholders, potential investors or creditors, which prevent companies from making optimal investment decisions, government intervention is another form of friction, especially common in the economic transitional settings, distorts corporate investment behavior and leads to investment inefficiency. Chinese investment system reform in 2004 aims to restrict government intervention on corporate investment and causes an exogenous shock to firm’s investment environment. In the quasi-natural experiment, difference-in-differences analysis shows that investment efficiency promotes after the investment system reform and the result is robust to an alternative model specification and placebo test. Further analysis shows that the improvement of investment efficiency concentrates among non-SOEs. The findings indicate that the investment system reform in China has alleviated the government intervention in corporate investment and improved the firm’s investment efficiency as well.
Market frictions such as agency conflicts and information asymmetry have long recognized as the suspects causing firms to deviate from their optimal investment level [
Although government intervention in business is not unique in China, the Chinese setting is particularly interesting for the following reasons. Firstly, the Chinese government can play a vital role in the domestic business activities through its majority ownership in state-owned enterprises (SOEs). The goal of these enterprises is not only to maximize their shareholders’ wealth, but contains lots of political purposes. Although private companies and foreign-invested firms (non-SOEs) are growing in number and have pulled a large part of Chinese economic growth after the Economic Reform and Opening Up in 1978 [
Chen et al. (2011) [
Before the Economic Reform and Opening Up in 1978, when Chinese economy was primarily centrally planned, the government largely controlled the country’s economic output by allocating resources and determining market prices. SOEs and quasi-SOEs (collective enterprises) occupied in almost every sector, while private enterprises and foreign-invested firms were nearly nonexistent [
From 1978 to 2004, with the continuous deepening of the economic reform, non-SOEs had become involved in sectors that had previously been monopolized by SOEs, and the government had been trying to implement a series of market-oriented investment reform policies. Unfortunately, these policies had little effect on the restriction for the government intervention in corporate investment decision.
The investment system reform or the “Decision” announced in 2004 clearly pointed out for the first time that companies should be the primary investment-decision-makers, which meant that the government should return the investment-decision rights to the market and should not interfere in the corporate investment process. The investment system reform had changed the investment behavior of Chinese firms that was used to be determined by the government regardless of the source of the funds, the size of the investment and the goal of the projects. The reform provided an exogenous shock to firm’s investment environment. By alleviating the government intervention in corporate investment, the reform can probably promote the firms’ investment efficiency and remedy the suboptimal corporate investment policy.
Using the data of Chinese listed manufacture firms from 2002q1 to 2007q3, this paper aims to examine the impact of the “Decision” on the corporate investment efficiency and how it varies across SOEs and non-SOEs. It is worth noting that all the firms in China were affected by the “Decision”, so the matched firms that were not affected should be non-Chinese firms. This paper uses American listed manufacture firms from 2002q1 to 2007q3 as the matched firms. However, there exists a problem in this sample that cannot be ignored: the reduction of government intervention is not random for firms, which will raise possible endogeneity problem. In order to mitigate the endogeneity issue, this paper conducts propensity score matching (PSM) before the difference-in-differences (DiD) test. The measure for the corporate investment efficiency is based on the Richardson (2006) [
First, after the investment system reform, the corporate investment efficiency promotes. The reform can remedy the distortion of investment behavior regardless of overinvestment or underinvestment, through restricting the “grabbing hand” of the government [
This paper makes two contributions to the literature. First, this paper provides empirical evidence to the research on corporate investment efficiency. Previous studies in this area are mainly focused on the agency conflicts and information asymmetry between managers and shareholders or potential investors in the mature markets. However, in a transitional economy, the government intervention is another vital friction that leads to firm’s suboptimal investment policy. Chen et al. (2011) [
The remainder of this paper proceeds as follows. Section 2 provides theoretical framework and hypothesis development. Section 3 describes the research design. Section 4 reports the empirical results, robustness tests and heterogeneity test. Section 5 concludes this paper.
When we talk about what drives the firms’ deviate from its optimal investment level, agency conflicts and information asymmetry are always the top two factors that come to our minds [
Nevertheless, Chen et al. (2011) [
If there is a policy that is designed to restrict the “grabbing hand” on the business activities, the distortion of the corporate investment can be mitigated. Investment system reform announced in 2004 in China, clearly points out for the first time that companies should be the primary investment-decision-makers and proclaimed that the government should not interfere in the corporate investment process. Thus, after the announcement of the reform, we should observe promotion of corporate investment efficiency. So I conduct an empirical test of the following hypothesis:
H1. Corporate investment efficiency promotes after the investment system reform.
Meanwhile, SOEs in China usually have the mission to help the government to accomplish social and political goals such as employment, regional development, social stability, etc., which distorts corporate investment behavior and leads to investment inefficiency. Even after the investment system reform, SOEs still have to cater to government’s goals. Thus, I propose another hypothesis:
H2. The promotion of investment efficiency mainly concentrates among non-SOEs after the investment system reform.
Unlike the existent empirical research on the impacts of government intervention in corporate investment efficiency, which examine the relationship directly, this paper stands at the opposite site to find out whether the corporate investment efficiency has improved when restricting or removing the government intervention. If the restriction or the removal can help to promote the corporate investment efficiency, it means the government intervention does play a negative role in the firm’s investment efficiency. This paper uses the reform of investment system in China in 2004 as a quasi-natural experiment setting to examine the relationship between government intervention and corporate investment efficiency. The difference-in-differences (DiD) regression model is illustrated as:
I n v _ e f f i i , j , t = α 0 + α 1 R e f o r m i , j , t + α 2 ∗ T i m e t + α 3 R e f o r m i , j , t ∗ T i m e t + α 4 ∗ X i , j , t − 1 + μ i , j , t (1)
1http://www.csrc.gov.cn/pub/zjhpublic/G00306201/201211/t20121116_216990.htm.
Subscripts i, j, and t represent the firm, industry, and the quarter, respectively. The dependent variable I n v _ e f f i i , j , t is measured by the residual model developed by Richardson (2006) [
The investment system reform was proposed on July 16th, 2004, thus the sample period in this paper starts from 2002q1 to 2007q3, ten quarters before the reform (2002q1~2004q2) and thirteen quarters after the reform (2004q3-2007q3). The
Variable | Definition |
---|---|
Inv_effi | Residual calculated from the Richardson (2006) [ |
Reform | Dummy variable = 1 if affected by the investment system reform |
Time | Dummy variable = 1 after the investment system reform |
Size | Natural log of the total asset |
Lev | Ratio of total liability to total asset |
Cash | Cash and cash equivalents |
length of the sample avoids the compounding effect of other events such as China accession to the WTO at the end of 2001 or the global financial crisis in 2008.
Because all the firms in China would be affected by the reform, I use the manufacture firms listed in China as the treated firms. As for the matched firms, I use the manufacture firms listed in America, which was not affected by the Chinese investment system reform. The financial data of Chinese firms comes from the China Stock Market and Accounting Research database (CSMAR), while the financial data of American firms comes from the COMPUSTAT database. I exclude firm-quarter observations for which information is not available and winsorize all the continuous variables at the 1% in each tail. Moreover, I exclude observations with negative assets, capital expenditures (which use to calculate the firm’s investment efficiency) and cash, as well as observations with leverage larger than one.
Before PSM, I have to unify the currency units between CHY and USD. The exchange rate data also comes from CSMAR. In addition, it is necessary to match the four-digit SIC industry code with the two-digit China Securities Regulatory Commission industry codes before merging the listed manufacturing firm’s data from CSMAR with listed manufacturing firm’s data from COMPUSTAT.
I study the government intervention in corporate investment efficiency by estimating Equation (1) and
In overinvestment situation, if the DiD coefficient is positive, it means the reform cannot alleviate the investment distortion and the corporate investment efficiency even lowers after the reform; if the DiD coefficient is negative, the reform does restrict the government intervention in corporate investment and the investment efficiency promotes. In underinvestment situation, the positive
Overinvestment | Underinvestment | |||
---|---|---|---|---|
(1) | (2) | (3) | (4) | |
Reform | 0.036** | 0.054* | 0.009*** | 0.006** |
(0.049) | (0.062) | (0.004) | (0.033) | |
Time | −0.001 | 0.003 | −0.003* | −0.004** |
(0.928) | (0.701) | (0.071) | (0.025) | |
Reform*Time | −0.045** | −0.047** | 0.016*** | 0.017*** |
(0.022) | (0.018) | (0.000) | (0.000) | |
Leverage | 0.010 | 0.008* | ||
(0.599) | (0.077) | |||
Cash | −0.056*** | 0.037*** | ||
(0.005) | (0.000) | |||
Size | −0.008** | 0.002* | ||
(0.000) | (0.077) | |||
cons | 0.156*** | 0.201*** | −0.097*** | −0.139*** |
(0.000) | (0.006) | (0.000) | (0.000) | |
Std. Err | clustered | clustered | clustered | clustered |
N | 9656 | 9656 | 14,933 | 14,933 |
Adj. R2 | 0.045 | 0.072 | 0.057 | 0.066 |
This table presents the DiD regression results of Equation (1) after the PSM. The dependent variable is the investment residual calculated from Richardson (2006), which is the proxy of the firm’s investment efficiency. The key explanatory that examine the impact of the reform on the firm’s investment efficiency is Reform*Time. Reform*Time is a dummy equal to 1 when firm affected by the reform. Column (1) and (2) reports the results in overinvestment situation while column (3) and (4) reports the results in underinvestment situation. I report p-value in parentheses. The standard errors are clustered at two-digit industry level. *, ** and *** denote statistical significance at 10%, 5% and 1% levels, respectively.
DiD coefficient means the reform does work while the negative DiD coefficient means the reform fails. The main result shows that when restricting or removing the government intervention, the corporate investment efficiency promote regardless of overinvestment or underinvestment, which illustrates that the government intervention does play a negative role in the firm’s investment efficiency.
Moreover, I present the trend of average investment efficiency from 2003q1 to 2007q3 in
1) In the robustness test, I use a panel model instead of the standard DiD model to estimate the DiD coefficient and the model is presented as:
I n v _ e f f i i , j , t = β 0 + β 1 R e f o r m i , j , t ∗ T i m e t + β 2 ∗ X i , j , t − 1 + γ i + δ t + μ i , j , t (2)
2) I include firm fixed effects ( γ i ) and time fixed effects ( δ t ) instead of the dummy variables R e f o r m i , j , t and T i m e t . Moreover, I also conduct a placebo test to ensure that the result is driven by the investment system reform rather than unobservable characteristics. As an illustration, I use the quarter from 2002q1 to 2004 q2 as the sample in the placebo test and redo the analysis, for which the Equation (1) is done five quarters before the actual reform (2003q2). The results are reported in
Even if affected by the reform, SOEs still have burden of catering to the political purposes, which may lead to insignificant result among SOEs. I separated the treated firm based on the nature of firm ownership. A firm is classified as an SOE if it is controlled by the government or government institutions, while A firm is classified as a non-SOE if it is controlled by the shareholders that are unrelated to the government or government institutions. The data of ownership structure comes from CSMAR. The indicator variable DSOE equals to 1 when the firm is SOE, and DNon-SOE equals to 1 when the firm is non-SOE. The results of heterogeneity effect test are reported in
This paper investigates the relationship between government intervention and corporate investment efficiency. In the quasi-natural experiment settings that provide an exogenous shock to firm’s investment environment and restrict government intervention, the difference-in-differences analysis shows that the investment efficiency promotes after the investment system reform. The result is
Overinvestment | Underinvestment | |||
---|---|---|---|---|
Alternative model | Placebo test | Alternative model | Placebo test | |
(1) | (2) | (3) | (4) | |
Reform | 0.039 | 0.012 | ||
(0.106) | (0.143) | |||
Time | −0.006 | −0.003 | ||
(0.450) | (0.596) | |||
Reform*Time | −0.038* | −0.002 | 0.014*** | 0.0002 |
(0.065) | (0.908) | (0.000) | (0.352) | |
Controls | Yes | Yes | Yes | Yes |
Year FE | Yes | No | Yes | No |
Firm FE | Yes | No | Yes | No |
Std. Err | clustered | clustered | clustered | clustered |
N | 9656 | 5557 | 14,933 | 6784 |
R2_within | 0.012 | − | 0.027 | − |
Adj. R2 | − | 0.059 | − | 0.044 |
This table presents the robustness tests. The dependent variable is also the investment residual calculated from Richardson (2006) [
Overinvestment | Underinvestment | |
---|---|---|
(1) | (2) | |
Reform*Time*DSOE | −0.003 | 0.010 |
(0.332) | (0.476) | |
Reform*Time*DNon-SOE | −0.067*** | 0.028*** |
(0.007) | (0.000) | |
Controls | Yes | Yes |
Std. Err | clustered | clustered |
N | 9656 | 14,933 |
Adj. R2 | 0.038 | 0.046 |
This table presents the heterogeneity effect results test using the standard DiD model or Equation (1). The dependent variable is investment residual calculated from Richardson (2006) [
robust to the alternative model and placebo test. Moreover, the effect of the reform on the firm’s investment efficiency varies between SOEs and non-SOEs. The promotion of the corporate investment efficiency mainly concentrates among non-SOEs. The findings show that government intervention plays a negative role in corporate investment efficiency, especially common among SOEs.
The author declares no conflicts of interest regarding the publication of this paper.
Huang, Y. (2019) Government Intervention and Corporate Investment Efficiency: Evidence from China. Journal of Service Science and Management, 12, 267-276. https://doi.org/10.4236/jssm.2019.123018