Competitive Neutrality of State-owned Enterprises in China's Steel Industry: A Causal Inference on the Impacts of Subsidies

Abstract

This study investigates whether subsidies to state-owned enterprises (SOEs) in China's steel industry are distorting market competition. The Subsidy and Countervailing Measures Agreement of the World Trade Organization defines ``specific'' and ``harmful'' subsidies as being subject to discipline because they distort the allocation of resources. During a recession in the steel industry between 2008 to 2015, Chinese firms produced excessively and exported aggressively at a lower price. This study hypothesized and tested that subsidies given by local governments to specific SOEs with undefined conditions softened the budget constraints of these SOEs. Using data from the financial statements of listed steel and iron firms and other relevant sources, I find that firms with operating deficits received subsidies that were large enough to compensate for their deficits, and it prolonged the deficit in the next year. Counter-factual simulation based on demand and supply functions revealed that rescued SOE significantly expanded output in 2014 to 2015 compared to the case if no rescue via subsidy. The preferential treatment of these specific SOEs induced them to overproduction and lowered market prices, harming competition in the market.