Does Enforcement of Intellectual Property Rights Matter in China? Evidence from Financing and Investment Choices in the High Tech Industry

Abstract

Financing of and investing in R&D are prone to risks of appropriation by competitors and the problem of information asymmetry. Although legal protection of intellectual property (IP) rights at the national level is necessary in encouraging financing of and investing in R&D, we show that the effective enforcement at the local level is critical. We focus on the impact of provincial level IP rights enforcement on the financing of and investing in R&D, using a unique and rich database of high technology firms. These firms are located in twenty-eight provinces/districts throughout China. The enforcement of IP rights differs at the provincial level, although the firms are under the same set of national and international laws. To identify the causal effect of provincial level IP rights enforcement on firm behavior, we use instrumental variable regressions to deal with the endogeneity issue. Controlling for provincial institutional factors such as economic development, banking system development, legal system performance, and local government corruption, we find that the enforcement of IP rights positively affects firms’ ability to acquire new external debt (including formal and informal financing). Firms in provinces with better enforcement of IP rights invest more in R&D, generate more innovation patents, and produce more sales from new products. The results confirm that enforcement of IP rights matters even in China. The evidence also suggests that facilitating financing and investing in R&D are the channels in which better IP rights enforcement could affect the growth of the economy.