Access to credit and investment decisions of small‐ and medium‐sized enterprises in China

• Published date: 01 May 2018
• Author: Paulo José Regis
• DOI: http://doi.org/10.1111/rode.12366
• Date: 01 May 2018

REGULAR ARTICLE

Access to credit and investment decisions of

small- and medium-sized enterprises in China

Paulo Jos

e Regis

Xi’an Jiaotong—Liverpool University,

People’s Republic of China

Correspondence

Paulo Jos

e Regis, BB440, Business

Building, Xi’an Jiaotong—Liverpool

University, 111, Ren’ai Road, Dushu

Lake Higher Education Town, SIP,

Suzhou 215123, P. R. China.

Email: paulo.regis@xjtlu.edu.cn

Abstract

Financial constraints are common in developing countries

where financial systems are underdeveloped. In China,

firms report that access to finance is the most important

obstacle in the business environment. This is related to

firms that fail to gain access to the credit market. We

examine the likelihood of gaining access to credit by

firms, and find that size and exporting appear to be the

key characteristics. Credit constraints are significant for

investment decisions. Together with size, access to credit

is among the firm characteristics with the greatest impact

on the likelihood to invest.

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INTRODUCTION

Financial constraints are an extended challenge in developing countries, and affect the generation

of employment and sustained growth of firms. Financial services, and in particular, the availability

of credit, are crucial for the efficient realization of a firm’s investment possibilities. Aware of the

deficiencies of the financial sector of a country in transition towards a market-oriented economy,

the Chinese government has been proactive in reforming and modernizing the banking and other

financial sectors since the year 2000.

This study is relevant to the literature on institutions and economic growth, and the importance of

financial development as a facilitator of growth in particular. However, China is usually considered as a

counter-example in cross-country studies.The Chinese financial system remains underdeveloped, while

its economy is growing at a remarkable speed. The empirical literature has gone beyond country-level

comparisons to look at firm-level data to complement the macroeconomic results with micro-level evi-

dence. This literature has evolved to explore the role of external factors in the business environment,

such as growth, productivity, and employment, in the performance of firms. Heterogeneity across firms

is of crucial interest, and can be very informative in estimating whether credit-constrained firms under-

invest, which is the research question central to this paper.

DOI: 10.1111/rode.12366

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©2017 John Wiley & Sons Ltd wileyonlinelibrary.com/journal/rode Rev Dev Econ. 2018;22:766–786.

We contribute to the previous studies of access to finance by small- and medium-sized enter-

prises (SMEs). Access to finance is among the top concerns for businesses in China. Hallward-

Driemeier, Wallsten, and Xu (2006) and Ayyagari, Demirg€

ucß-Kunt, and Maksimovic (2010) make

use of the 2003 China Enterprise Survey. This is the first version of the World Bank survey in

China, and was designed to examine access to finance in detail. Here, we make use of the most

recent survey, from 2012, to study the firm characteristics more closely associated with access to

finance. In comparison, the information on access to finance from the remaining 2005 survey is

relatively poor, and has not previously been used.

We define access to finance as having a loan, and find that firm size is among the most impor-

tant factors to consider when assessing the likelihood of gaining access to credit in the financial

sector. Small firms with less than 20 employees have a particularly low likelihood of accessing

credit, while the gains from having a large firm are diminishing, especially for very large size

firms (above 100 employees). We also contribute to the literature that relates access to finance with

investment decisions. Access to credit itself is very important to allow firms to invest, while being

an exporter increases the chances of accessing credit. Small firms also tend to be less likely to

invest; however, the effect here is less strong than with access to credit.

One distinguishing characteristic of the dataset is that some of the most relevant variables are

qualitative, truncated, or censored. Surprisingly, most empirical studies ignore the importance of

this limitation, which may introduce a potentially large bias in their estimates. In our sample, the

firm’s investment and loans variables are censored around 50 percent and 70 percent, respectively.

To handle limited and censored dependent variables, we make use of the probit and tobit models.

The estimation of the credit and investment equations is simultaneous. When comparing the single

equation and simultaneous estimations, the coefficient on access to credit is always significant but

the latter more than doubles the former.

Few studies have modeled the simultaneous relation between investment and access to credit.

This paper proxies the financial constraints of the firm by its access to credit (i.e., financially con-

strained firms would not have access to credit), which is one of the firm characteristics taken into

consideration for the decision to invest. Given the use of two limited dependent variables, the full

structural model cannot be estimated since it is logically impossible (Maddala, 1983). Therefore,

the structural investment equation is combined with the reduced form of the access to credit equa-

tion to obtain a recursive model.

The remainder of this paper is organized as follows. Section 2 revises the importance of access

to finance in China, as well as the existing literature. Section 3 provides the theoretical back-

ground, while Section 4 introduces the econometric framework. The results are presented in Sec-

tion 5, while Section 6 concludes the paper.

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ACCESS TO FINANCE OF SMES

The World Bank Enterprise Survey is the most important effort to collect firm-level data on access

to finance for SMEs in developing countries. It includes information on internal and external

financing, among other firm characteristics. Previous studies have examined both subjective and

objective indicators. Two subjective variables of access to finance from the 2012 China survey are

summarized in Table 1. First, firms were presented with 15 external obstacles from the business

environment and asked to select the most important. Second, firms were asked to rate how severe

each of these obstacles are, on a scale ranging from 0 (no obstacle) to 4 (very severe obstacle).

Access to finance was selected by 21 percent of firms, followed by an inadequately educated

REGIS

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