Bank Disregulation And Corporate Financial Policies

Interest rate liberalization plays an important role in the process of financial liberalization. China’s policymakers have adopted a cautious approach towards timing and the sequencing of the liberalization to produce the expected benefits. Using the China’s interest rate deregulation which removes rate ceiling first and then cancels the floor as quasi-natural experiment, this paper employs the difference-in difference approach and examines the effect of the ceiling removal and the floor removal on the cost of bank borrowings and corporate financial policies of general clients and prioritized clients. I find that after removing the ceiling, firms pay higher loan interest rate and borrow more banking loans and decrease their use of trade credit, cash holding and retained earnings, but relative to prioritized clients, general clients can benefit more from the ceiling removal. I also find that firms’loan cost and amount decease significantly and the use of trade credit, cash holding and retained earnings increase significantly, but relative to prioritized clients, general clients are influenced more strongly. The paper then investigates cross-sectional difference and finds that the impact of interest rate deregulation on corporate financial policy is mainly from the subsample of industry policy supported, higher external financing dependence and lower internal cash flows. Finally, the empirical evidences suggest that removing the interest rate regulation can reduce the corporate financial constraints and improve corporate performance. The findings shed light on how the financial liberalization affects economic growth and on the understanding of financial liberalization more effectively.