School of Economics

Credit Constraints and Spillovers from Foreign Firms in China

Natasha Agarwal, Chris Milner and Alejandro Riaño

Two key features that characterise ideas, defined in a very broad sense to include blueprints of new goods, innovations to production processes, industry-specific ‘trade secrets’ and intangible managerial practices, among other things, are their non-rival nature (the use of an idea by one person does not preclude a second one to use the exact same idea) and the fact that they are only imperfectly excludable (good ideas inexorably spread around!). These two elements imply that some of the benefits arising from the development of new ideas can accrue to parties other than their creator. Over the past three decades, the Chinese government has actively sought to attract foreign firms to operate in China partly because of the expectation that positive spillovers that arise as a by-product of the activity of multinational firms could be appropriated by local firms. Two key questions naturally follow: first, do domestically-owned Chinese firms actually benefit from a greater level of activity of foreign-owned firms? And second, if that is indeed the case, do credit constraints hinder the ability of local firms to enjoy these positive productivity spillovers?

In this Nottingham School of Economics working paper, published in the Journal of Banking and Finance, Agarwal, Milner and Riaño find that the answer to these two questions is affirmative. Domestic Chinese firms that operate in provinces and industries with greater value-added produced foreign firms are more productive than their counterparts that are less exposed to the activities of multinational firms. These spillovers arise from the operation of foreign firms that do not originate from Hong Kong, Macau or Taiwan and benefit primarily private-owned firms rather than state-owned enterprises. The main result shows that credit constraints present a significant obstacle to the absorption of productivity spillovers originating from foreign firms by Chinese firms. Using a sectoral index of credit constraints proposed by Rajan and Zingales (1998), the authors find that non state-owned Chinese firms operating in industries with external finance dependence below the median of this index exhibit an elasticity of output with respect to foreign activity in the same industry and province of 0.047. On the other hand, credit-constrained firms, firms with external finance dependence above the median, do not benefit at all from the operation of nearby multinational firms in their own industry. This result is robust to alternative measures of credit constraints and firm-level performance measures and econometric specifications.

Journal of Banking and Finance, “Credit Constraints and Spillovers from Foreign Firms in China” by Natasha Agarwal, Chris Milner and Alejandro Riaño.


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Posted on Wednesday 22nd July 2015

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