Academic journal article Journal of East Asian Studies

Political Ties and Firm Performance in China: Evidence from a Quantile Regression

Academic journal article Journal of East Asian Studies

Political Ties and Firm Performance in China: Evidence from a Quantile Regression

Article excerpt

Abstract

Whether political ties enhance or weaken firm performance has been widely investigated in a number of studies, including some on China. Based on a database of non-financial A-share listed firms from 2004 to 2012, we study the effects of political ties on firm performance within a quantile regression framework. We find that there is a positive relationship between political ties and economic performance, but that it is diminishing with respect to firm performance. Political ties appear particularly important for weaker firms.

Keywords

political tie, firm performance, quantile regression, diminishing effect

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A number of studies have looked at the effects of political ties on the performance of companies since the seminal work of Sapienza (2003). Firms with political connections are observed to enjoy preferential treatment in obtaining bank loans (Sapienza 2003; Khwaja and Mian 2005; Claessens, Feijen, and Laeven 2008; Li et al. 2008; Firth et al. 2009; Boubakri, Cosset, and Saffar 2012), with respect to tax benefits (Adhikari, Derashid, and Zhang 2006; Faccio, Masulis, and McConnell 2006; Wu et al. 2012), and in gaining financial assistance from the government (Johnson and Mitton 2003; Faccio, Masulis, and McConnell 2006). This literature concludes that connected firms also have superior financial performance (Fan, Wong, and Zhang 2007; Boubakri, Cosset, and Saffar 2012; Faccio 2010; Wu, Wu, and Rui 2012).

With respect to China, it is known that state-owned enterprises (SOEs) enjoy an advantaged status in obtaining bank loans, subsidies, tax breaks, and many crucial inputs (Chow, Song, and Wong 2010; Poncet, Steingress, and Vandenbussche 2010; Wu et al. 2012). Firms with political connections do not face underinvestment problems (Xu, Xu, and Yuan 2013), receive favorable government treatment (Sheng, Zhou, and Li 2011; Khwaja and Mian 2005; Li et al. 2008), are more likely to receive government contracts and bailout funds (Faccio, Masulis, and McConnell 2006), have stronger cash positions, secure larger long-term loans and have lower financing costs (Su and Fung 2013), and are more likely to survive (Du and Girma 2010). Such firms also have more confidence in the legal system (Li et al. 2008).

The theoretical reason for these findings is simply stated. The incentive for corporations to establish political connections in transition economies ultimately arises from continuing state control of key resources. In a relationship-based economy such as China's, building connections with the government or even engaging in politics can facilitate private communications with officials, thereby mitigating severe information asymmetries and risks of discrimination (Li et al. 2008; Wu, Wu and Rui 2012; Xu, Xu, and Yuan 2013).

Previous studies have generally shown how political connections affect average corporate performance across large samples of firms, typically using OLS specifications. But these findings only summarize the average relationship between a set of regressors and the outcome variable based on the conditional mean function. There are reasons to think that the effects of political connections are heterogeneous. Weakly performing corporations are more likely to obtain more significant effects from the informal links with the government. Put differently, the marginal effect of building connections with the government should be larger for poorly performing corporations.

Such results can be viewed as an extension of the resource-based theory of the firm, because such firms have insufficient resources and information as compared with their better performing peers. Take bank loans as an example. Better-performing firms have a good reputation with respect to repayment of loans from banks. Poorly performing firms do not have such reputations, so obtaining loans is harder and the terms are less favorable. Political connections can overcome these disabilities and should thus have larger marginal effects on performance. …

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