Bank loans, self-financing, and grants in Chinese SOEs: Optimal policy under incomplete information

This paper offers a model of the allocation of fund in Chinese state-owned enterprises (SOE) and provides an empirical test of the theory using firm-level data. The paper explains why bank loans and grants coexist with self-financing, which SOEs take out loans, and why subsidies on loan interest payments exist. The model is based on heterogeneous SOEs, asymmetric information, sales taxes, and quota requirements. The results show that reforms of enterprise finance must come as a package, suggesting that the interlocking nature of reform measures should be considered in deciding the direction of further policy modification. (C) 1997 Academic Press.