Chinese Economy

Members of the NBER's Chinese Economy Working Group met in Beijing on September 10-11, 2018. Research Associates Hanming Fang of University of Pennsylvania, Zhiguo He of University of Chicago, Shang-Jin Wei of Columbia University, and Wei Xiong of Princeton University organized the meeting. These researchers' papers were presented and discussed:

Thomas J. Chemmanur, Boston College; Bibo Liu, Tsinghua University; and Xuan Tian, Indiana University

Rent Seeking, Brokerage Commissions, and the Pricing and Allocation of Shares in Initial Public Offerings

Using investor bidding data from 189 Chinese IPOs, Chemmanur, Liu, and Tian find Chinese investment banks that have no discretion on IPO share allocation favor commission-paying mutual funds by discounting offer prices to make more orders from the latter eligible for allocation. This favoritism effect is largely mitigated in IPOs underwritten by pro-issuer banks that depend heavily on investment banking revenues and put more weight on the issuing firms' interests. These findings suggest that banks balance the interests of institutional investors and corporate clients when pricing IPOs. The discount caused by the favoritism is reflected in IPO underpricing. For the favoritism towards mutual funds, pro-issuer banks are compensated with increased brokerage commissions, and pro-investor banks are punished by losing future investment banking business from the IPO issuers.

Wei Xiong

The Mandarin Model of Growth

After 40 years of economic reform, China has experienced rapid growth, and yet faces substantial challenges from opaque economic statistics to quickly rising financial leverage propelled by a booming shadow banking sector. Xiong expands the growth model of Barro (1990) to account for these phenomena by a common force -- the agency problem between the central and local governments. To motivate local governments to develop local economies, the central government has established a tournament among local governors, which in turn generates not only the intended incentive for local governments to build up local infrastructure, à la Holmstrolm (1982), but also short-termist behaviors, à la Stein (1989), in over-reporting regional output and over-leveraging regional fiscal budgets through shadow banking.

Lily Fang, INSEAD; Josh Lerner, Harvard University and NBER, and Chaopeng Wu and Qi Zhang, Xiamen University

Corruption, Government Subsidies, and Innovation: Evidence from China

Governments are critical financiers of innovation by private firms around the world. While these public funds ideally ease capital constraints and information asymmetries, they can also introduce political distortions. Fang, Lerner, Wu, and Zhang empirically explore these issues in China, where a quarter of firms' R&D expenditures come from government subsidies. Using a difference-in-difference approach, the researchers find that the anti-corruption campaign that began in 2012 and the departures of local government officials responsible for innovation programs strengthened the relationship between firms' historical innovative efficiency and subsequent subsidy awards, and depressed the influence of their corruption-related expenditures. Subsidies were positively associated with future innovation, especially after the anti-corruption campaign and the departure of government innovation officials.

Quanlin Gu, Peking University; Jia He, Nankai University; and Wenlan Qian, National University of Singapore

Housing Booms and Shirking

Using a unique credit card dataset obtained from a leading Chinese commercial bank with 10% credit card market share, Gu, He, and Qian study the impact of house price increase on individual shirking behavior at work. They use the type and actual time stamps of 9.3 million credit card transactions by over 200,000 card holders to detect non-work-related transactions during work hours. After positive shocks to house prices, employees in the "shocked" cities experienced an immediate and permanent increase (by 8% per month) in their propensity to use work hours to attend to personal needs. The treatment group did not increase their overall credit card use in the post-shock period, and the researchers find no effect in the neighboring, unaffected cities or among the non-working population in the "shocked" cities. The post-shock response is driven by homeowners, with an even greater impact among owners with a higher housing wealth (i.e., those with multiple homes). Consistent with increased shirking and lower productivity interpretations, further analyses find no evidence of the treatment group working harder at other hours of workdays. The increase in work-hour non-work activity concentrates in early and near-lunch hours, and on days near the end of the work week. In addition, the response is more pronounced among employees with lower work incentives -- older workers in state-owned enterprises. Overall, these findings offer novel insight into the real effect of house price increase through its influence on work effort choices -- the researchers' estimate implies an elasticity of shirking propensity with respect to house price of 1.6.

Ying Bai, Chinese University of Hong Kong, and Ruixue Jia, University of California at San Diego

The Oriental City: Political Hierarchy and Regional Development in China, AD1000-2000

Because regime changes in China between AD1000 and 2000 systematically altered the relative importance of different regions in the political hierarchy, tracing the evolution of Chinese provincial capitals and economic activities during this period throws light on how political factors shape economic geography. Bai and Jia's analysis shows that economic advantages driven by political factors do not necessarily persist: While gaining capital status has a large and positive on economic development as measured by population density and urbanization, the economic advantage shrinks after losing capital status. This pattern is further supported by exploiting variation arising from relocation of national capitals and redivision of provincial boundaries due to regime changes as an instrument for provincial capitals. The researchers further document that (i) public offices are malleable but their relocation only explains a small part of the finding on population density, and (ii) political hierarchy affects many second-nature factors, even the less malleable ones like human capital and transportation networks.

Haoyuan Ding, Shanghai University of Finance and Economics; Yichuan Hu, Chinese University of Hong Kong; and Ninghua Zhong, Tongji University

Informal Financing via University Alumni: The Substitution of Political Connections

Utilizing an event that suddenly breaks political connections of a firm, Ding, Hu, and Zhong document the substitution effects of social connections in facilitating firm financing. A year after the issuance of Regulation No. 18 in 2014, which prohibits Chinese government officials from taking part-time positions, close to a thousand of independent directors resigned. The researchers find such event has negative impacts on a firm's obtaining bank loan and consequently on its new investment. But more importantly, they find university alumni connections of the firm's CEO or chairman play a strong role in mitigating such negative effects, facilitating a firm obtaining finance both from banks and from its suppliers in forms of other payables. The effects on other payables are more pronounced for upstream firms, and for firms with less collateral or located in areas of lower marketization level. The effects on bank loans are larger for smaller firms and firms with already high leverage. As the effects of alumni connections are found to be much smaller in normal periods, the result indicates different orders that firms put on using different connections in obtaining external finance.

Ning Zhu, Yinglu Deng, and An (Allen) Hu, Tsinghua University

Real LIfe Experience and Financial Risk Taking: Natural Experiment Evidence from Automobile Traffic Accidents

Utilizing records on automobile accident insurance filing and retail investor investment activities, Deng, Hu, and Zhu show that investors trade less, trade less aggressively, hold more diversified and less risky portfolios, and obtain relatively better returns, after experiencing automobile accidents. Such patterns are particularly strong for those suffer personal injury and above-average financial damage from the accidents. The research is among the first to provide direct evidence on the causal relationship between real life risk events and investors' risk preference in investment. The findings contribute to the literature on risk preference, investor behavior, and equity risk premium.

Huasheng Gao, Fudan University; Donghui Shi, Shanghai Stock Exchange; and Bin Zhao, Shanghai Advanced Institute of Finance

Does Good Luck Make People Overconfident? Evidence from a Natural Experiment in China

Gao, Shi, and Zhao examine the changes in trading behavior for retail investors who win an allotment for the IPO subscription. They find that retail investors who win such an allotment subsequently become more overconfident relative to retail investors who do not: the former group trade more frequently and lose more money. This effect is not explained by the wealth effect or house money effect. Overall, the evidence indicates that the experience of good luck makes people more overconfident about their prospect.

Jiangze Bian, University of International Business and Economics; Zhiguo He; Kelly Shue, Yale University and NBER; and Hao Zhou, Tsinghua University

Leverage-Induced Fire Sales and Stock Market Crashes

Bian, He, Shue, and Zhou provide direct evidence of leverage-induced fire sales leading to a major stock market crash. Their analysis uses proprietary account-level trading data for brokerage- and shadow-financed margin accounts during the Chinese stock market crash in the summer of 2015. They find that margin investors heavily sell their holdings when their account-level leverage edges toward their maximum leverage limits, controlling for stock-date and account fixed effects. Stocks that are disproportionately held by investors who are close to receiving margin calls experience high selling pressure and significant abnormal price declines that subsequently reverse over the next 40 trading days. Relative to regulated brokerage accounts, unregulated and highly-leveraged shadow-financed margin accounts contributed more to the market crash, despite the fact that these shadow accounts held a much smaller fraction of market assets.

Valerie J. Karplus, MIT; Shuang Zhang, University of Colorado at Boulder; and Douglas Almond, Columbia University and NBER

Did Scrubbing the Government Clean Up the Air? Polluter Responses to China's Anticorruption Campaign

Kun Jiang, University of Nottingham; Wolfgang Keller, University of Colorado at Boulder and NBER; Larry Qiu, University of Hong Kong; and William C. Ridley, University of Colorado

International Joint Ventures and Internal vs. External Technology Transfer: Evidence from China (NBER Working Paper No. 24455)

Jiang, Keller, Qiu, and Ridley study international joint ventures, where foreign direct investment is performed by a foreign and a domestic firm that together set up a new firm, the joint venture. Employing administrative data on all international joint ventures in China from 1998 to 2007 -- roughly a quarter of all international joint ventures in the world -- they find, first, that Chinese firms chosen to be partners of foreign investors tend to be larger, more productive, and more likely subsidized than other Chinese firms. Second, there is substantial international technology transfer not only to the joint venture itself but also to the Chinese joint venture partner firm. Third, with technology spillovers typically outweighing negative competition effects, joint ventures generate net positive externalities to other Chinese firms in the same industry. Joint venture externalities are large, perhaps twice the size of wholly-owned FDI spillovers, and it is R&D-intensive firms, including the joint ventures themselves, that benefit most from these externalities. Furthermore, the positive external joint venture effect is larger if the foreign firm is from the U.S. rather than from Japan or Hong Kong, Macau, and Taiwan, while this effect is virtually absent in broad sectors that include economic activities for which China's FDI policy has prohibited joint ventures.

Christopher Hansman, Imperial College London; Harrison Hong, Columbia University and NBER; Wenxi Jiang, Chinese University of Hong Kong; and Yu-Jane Liu and Juanjuan Meng, Peking University

Riding the Credit Boom (NBER Working Paper No. 24586)

Research on leverage and asset-price fluctuations focuses on the direct effect of lax bank lending enabling financially-constrained investors to take excessive risks. Ignored are unconstrained investors speculating on higher prices during credit booms. To identify these two effects, Hansman, Hong, Jiang, Liu, and Meng utilize China's staggered liberalization of stock-margin lending from 2010-2015 -- which encouraged a bank/brokerage-credit-fueled stock-market bubble. The direct effect is a 25 cent increase in a stock's market capitalization for each dollar of margin debt. Unconstrained investors led to an even larger increase in valuations of an additional 32 cents as they speculated on stocks likely to qualify for lending.

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