Financial Constrains and Industry Competition: the Evidences from Bond Market Innovation

In this paper we exploit the innovation of bond market instrument to the variation of financial constrains of the listed companies and empirically test the effect of financial constraints on industry competition. Financial constraints produce the great influence on industry competition strategy,thus the important problem is if decreasing the firm's financial constraints can make the firm more aggressive in the competition. This problem is important,because the financial constraints can affect the industry output efficiency and the operation of the real economy through firm competition behavior. On the other hand,the more aggressive competition strategy is helpful to improve the level of consumer welfare. Despite the economic theory has explained the impact of financial constraints on competition strategy of the industry,but directly testing this effect is very difficult because of the endogeneity problems in the empirical test. Therefore,it is important for the competition strategy and the efficiency of industry competition to further provide the empirical evidence of the impact of the financial constraints on firm competition.Based on the natural experiment in bond market,we handle the two challenging problems in empirical test for industry competition: the criterion of grouping financial constrains and endogeneity problem. In 2005 the introduction of short-term financing bonds is a kind of financial tool innovation on the bond market,which provides an ideal experimental background. First,the financial tool innovation helps to solve the endogeneity problem of the financial constraint in empirical research. Second,the financial tool innovation helps to distinguish which firm changed the financial constraints. Based on the data of Chinese listed companies from 2002 to 2007,we find the short-term financing bond decreased the financial constrains,the firm increased the selling administration expenses,and the sale growth rate experienced huge increase. These effects are significant both statistically and economically. In two years after the introduction of short-term financing bonds( 2006 ~ 2007),compared with the lower credit rating companies,sales and management costs on average increased more than 0. 6% in the higher credit rating companies,i. e.,the higher credit rating firm increase sales and management costs more than 17 million yuan. Sales growth rate in the higher credit rating companies also increased by 8. 6%,i. e.,the firm sales increased an average of more than 160 million yuan. The evidences suggest that bond market innovation has a great impact on financial constrains and the behaviors of industry competition,thus produce an important influence on real economy.Our paper makes three contributions. First,the previous studies about the relationship of financial constraints and industry competition have focused on capital structure and industry competition,and got to the two conflicting conclusions,that is debt commitment effect and predatory effect. Our paper focuses on the assumption of the two theories,reconciles the results of two theories,and directly tests the effect of financial constraints on industry competition. Second,based on the natural experiment,we handle the challenging problem in empirical test for financial constraints: the criterion of grouping financial constrains. Most studies group firm into different kinds of financial constraints according to certain firm characteristics,and test the effect of financial constraints on capital structure and industry competition. Unlike these studies,our paper use the financial tool innovation as the external shock to the change of firm's financial constraints,and empirically test the influence of firm financial constraints on the firm's industry competition,the empirical method helps to overcome the endogeneity problem in financial constraints. Third,our paper has practical meaning for the construction of China's bond market. Our evidences suggest that standardized,orderly development of the bond market is helpful to improve the proportion of direct financing,alleviate the financial constraints,and promote the economy development.The efficient financial system can enhance the competitive ability of the firm,and promote the development of the whole economic. Under strict control on financial system,The financial institutions monopolized the financial resource,and can easily get high profits,and are reluctant to provide efficient service to the financial consumers. On the contrary,in a competitive environment,financial institutions are bound to conduct financial innovation to obtain benefits. Although the financial innovation may produce risks which will be passed in financial institutions, but as long as the financial innovation is under strict regulation,these risks won't turn into systemic risk,financial innovation will bring more benefits than harm to economic system. In Chinese financial market,the gradual and reasonable financial innovation will help to improve firm performance and the economic efficiency.