Financial reform and financing constraints: Some evidence from listed Chinese firms

This paper examines the impact of recent financial reforms in China on the financing constraints and investment of publicly-listed Chinese firms. Two continuous indices are constructed to measure the evolution and intensity of financial reforms: a financial liberalization index and a capital control index. Dynamic panel GMM method is used to estimate firmsʹ financing constraints in an Euler-equation investment model. Based on panel data of listed firms for 1996–2007, we find that large firms face no credit constraints and smaller firms display significant constraints. However, the sensitivity of large firmsʹ investment to their cash holdings is heightened as more financial reforms take place. It appears that reforms that gradually eliminate preferential treatments to large firms, primarily state-owned enterprises (SOEs) in China, have subjected these firmsʹ investment decisions to stricter market-based discipline and therefore raised their financing constraints. No significant change in the financing constraint is detected for smaller firms in China. This is interpreted as financial reform in China has not been substantial enough for its benefits to reach smaller firms.