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What Gets Measured Gets Managed: Investment and the Cost of Capital

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  • He, Zhiguo

    (U of Chicago)

  • Liao, Guanmin

    (Renmin U of China)

  • Wang, Baolian

    (U of Florida)

Abstract

We study the impact of government-led incentive systems by examining a staggered reform in the Chinese state-owned enterprise (SOE) performance evaluation policy. To improve capital allocative efficiency, regulators switched from using return on equity (ROE) to economic value added (EVA). However, this EVA policy takes a one-size-fits-all approach by stipulating a fixed cost of capital for virtually all SOEs, neglecting the potential heterogeneity of firm-specific costs of capital. We show that SOEs responded to the evaluation reform by altering their investment decisions, particularly when the actual borrowing rate deviated further from the stipulated rate. Besides providing an estimate of the cost of capital's impact on investment, our paper offers causal evidence that incentive schemes affect real investment and sheds new light on economic reform challenges in China.

Suggested Citation

  • He, Zhiguo & Liao, Guanmin & Wang, Baolian, 2023. "What Gets Measured Gets Managed: Investment and the Cost of Capital," Research Papers 4135, Stanford University, Graduate School of Business.
    • Handle: RePEc:ecl:stabus:4135
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    File URL: https://www.gsb.stanford.edu/faculty-research/working-papers/what-gets-measured-gets-managed-investment-cost-capital
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    JEL classification:

    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance
    • M12 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Business Administration - - - Personnel Management; Executives; Executive Compensation
    • M52 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Personnel Economics - - - Compensation and Compensation Methods and Their Effects
    • P31 - Political Economy and Comparative Economic Systems - - Socialist Institutions and Their Transitions - - - Socialist Enterprises and Their Transitions

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