Targeted fiscal policy and corporate investment: Evidence from the special bonds in China

The crowding-out effect of local government debt on private sectors has been widely discussed in recent years. Yet, with a special government bond targeted at regional banks (the Special Bonds) to directly enhance credit availability, the governments are switching roles from a ‘competitor’ to a ‘supporter’ of local firms, especially small and medium-sized enterprises (SMEs). We employ a staggered difference-in-difference (DID) model and empirically find that the Special Bonds boost the investment of local SMEs yet meanwhile lead to their investment inefficiency. This negative impact can be attributed to the weak regulatory capacity of regional banks and the opaque information disclosure of SMEs. The effect of efficiency erosion is more significant for firms with severe financing constraints or firms located in regions with an inferior business environment or immature financial infrastructure. Furthermore, SMEs that benefit from Special Bonds yet utilize the capital inefficiently are subject to higher risks regarding return and cash-flow volatility.