Government deleveraging and the reverse crowding-in effect: Evidence from subnational debt and government contractors

We show that government deleveraging causes liquidity squeeze among government contractors, an unintended consequence of containing sub-national debts. Our empirical analysis exploits China’s top-down deleveraging policy in 2017 and a purposefully-built dataset of listed firms matched with government procurement contracts. We find that private contractors experience larger accounts receivable increases, larger cash holding reductions, more share-pledging activities, worse operating performance, and higher probabilities of ownership change than non-contractors. Effects are muted among state-owned enterprises, implying that local governments selectively delay payments. Our findings reveal a novel trade credit channel for a reverse crowding-in effect whereby government deleveraging amplifies financial distortions against private firms.

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