Working Paper: CEPR ID: DP10423
Authors: Donghua Chen; Dequan Jiang; Alexander P. Ljungqvist; Haitian Lu; Mingming Zhou
Abstract: We study the efficiency of internal capital markets at state-controlled and privately owned business groups in China. Using highly granular data on within-group capital flows, we document stark differences: while private groups allocate more capital to units with better investment opportunities, state groups do the opposite. Minority shareholders in state owned firms suffer as a result. Product market competition and external monitoring by outside investors help discipline state groups? tendency to ignore investment opportunities. We conjecture that capital allocations at state groups reflect the private career objectives of their chairmen. We show that promotion depends not on increasing profitability but on avoiding layoffs. Consistent with a career motive, we find that capital allocations are used to prop up large and struggling employers, but only if the chairman has a realistic chance of being promoted and if the cost of self-interested behavior is not too high.
Keywords: Business groups; Internal capital markets; Private enterprise; State capitalism
JEL Codes: G15; G31; G32; G34
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Private business groups allocate capital efficiently (P12) | state-owned enterprises allocate capital inefficiently (L32) |
| Increase in private firm's q (D25) | net capital inflow (F21) |
| Increase in state firm's q (D25) | net capital outflow (F21) |
| Chairman's career objectives (L21) | misallocation of capital in state groups (H70) |
| Age of chairman (G34) | internal capital allocations (G31) |
| Product market competition (L13) | efficiency of capital allocations in state groups (D61) |
| Tariff cuts (F13) | reduction in negative sensitivity of capital allocations to q (G31) |
| Internal capital allocation practices (G31) | lower risk-adjusted returns for minority shareholders (G34) |