Firm-Specific Economic Policy Uncertainty and Stock Price Crash Risk

Abstract

Economic policy uncertainty (EPU) significantly impacts capital markets and financial activities. Prior studies present inconsistent results regarding the effect of EPU on stock price crash risk, possibly due to the usage of a macro-level EPU index that assumes homogeneity in its effects across diverse firms. Using data from Chinese A-share listed firms from 2008 to 2019, we adopt a text-based method to measure firm-specific economic policy uncertainty (FEPU) and examine its impact on future stock price crashes. We find that FEPU mitigates crash risk through two channels: monitoring enhancement and conservatism promotion, which deter the accumulation of negative information. The mitigating effect of FEPU is more pronounced for firms with greater managerial stock option incentives, overconfident CEOs, and higher reliance on government subsidies. Overall, our study highlights the crucial role of FEPU in reducing the expected costs of managerial information manipulation and managing stock return tail risks.