Jiang Kim-CorporateGovernance in China-A Survey 2020

Review of Finance, 2020, 733–772
doi: 10.1093/rof/rfaa012
Advance Access Publication Date: 13 May 2020
Corporate Governance in China: A Survey*

Fuxiu Jiang1 and Kenneth A. Kim2,3
Downloaded from https://academic.oup.com/rof/article/24/4/733/5824805 by guest on 01 March 2022

1
School of Business, Renmin University of China, 2School of Economics and Management, Tongji
University and 3School of Management, State University of New York at Buffalo
Abstract
This article surveys corporate governance in China, as described in a growing litera-
ture published in top journals. Unlike the classical vertical agency problems in
Western countries, the dominant agency problem in China is the horizontal agency
conflict between controlling and minority shareholders arising from concentrated
ownership structure; thus one cannot automatically apply what is known about the
USA to China. As these features are also prevalent in many other countries, insights
from this survey can also be applied to countries far beyond China. We start by
describing controlling shareholder and agency problems in China, and then discuss
how law and institutions are particularly important for China, where controlling
shareholders have great power. As state-owned enterprises have their own features,
we separately discuss their corporate governance. We also briefly discuss corporate
social responsibility in China. Finally, we provide an agenda for future research.
JEL classification: G30, G34, G38

Keywords: Corporate governance, Controlling shareholder, Investor protection, State-owned en-
terprise, Corporate social responsibility
Received December 18, 2018; accepted April 4, 2020 by Editor Alex Edmans.
1. Introduction
Corporate governance has received increasing attention in recent decades, particularly since
the 1997 Asian financial crisis and the early 2000s corporate scandals (e.g., Worldcom and
* We thank Alex Edmans, Zhan Jiang, and two anonymous referees for excellent comments on this
article. Wenjing Cai, Xinni Cai, Yiqian Cai, Yajie Chen, Jin Feng, Haozheng Huang, Yanyan Shen,
Ying Wang, Xiaoxue Xia, and Xiaotong Yang provided superb research assistance. We thank all
participants of a workshop on corporate governance in China at Renmin University of China for
their valuable comments, especially the editors and former editors of several top journals in eco-
nomics, finance, and accounting in China, including Dongsheng Jiang, Hongkui Liu, Zhigang Song,
and Qian Xie. Finally, we are especially indebted to Alex Edmans for encouraging us to write this
article. Fuxiu Jiang acknowledges financial support from the China National Natural Science
Foundation (No. 71432008).
C The Author(s) 2020. Published by Oxford University Press on behalf of the European Finance Association.
V
All rights reserved. For permissions, please email: [email protected]
734 F. Jiang and K. A. Kim
Enron in the USA, and other firms globally). Since it was in the early 1990s that China
launched its stock market and began to establish modern enterprises, corporate governance
practices in China have grown alongside this global trend. In the meantime, China has
experienced spectacular economic growth and given rise to a large number of influential
corporations operating worldwide. Hence, the underlying governance mechanisms and
problems of Chinese corporations have garnered significant interest from researchers, and
top journals have published a large body of work on this topic in recent years. In this art-
icle, we survey this growing literature with the aim of providing a clear and thorough pic-
ture of the current findings and future research implications.

This survey is important for at least three reasons. First, China is now the second largest
economy in the world and has many globally influential corporations, so corporate govern-
ance in China cannot be ignored if one wants to understand world business. Second,
China’s capital market is young, but its corporate governance, including the institutional
and regulatory environment, has evolved dramatically. This indicates that many facts and
findings from the early stage may no longer hold, and it is critical to keep abreast of the re-
cent literature on the topic. Third, China is different from the USA, albeit similar to many
other non-US countries. Unlike the classical vertical agency problems in Western corporate
governance, the dominant agency problem in China is the horizontal agency conflict be-
tween controlling and minority shareholders owing to China’s concentrated ownership
structure. Thus, what is known about the USA cannot simply be applied to China. As the
features revealed for China are also prevalent in many non-US countries, insights from this
survey can be applied to countries far beyond China.
The origin of corporate governance in China springs from the existence of large control-
ling shareholders. Ownership is highly concentrated in China compared to the USA and
many other developed economies. The data we analyze from the China Stock Market and
Accounting Research (CSMAR) database1 show that during 2003–18 >99% of listed com-
panies had at least one shareholder with >10% of the shares. Even if we use a threshold of
20% shareholding, which is regarded as sufficient for effective control of a firm (La Porta,
Lopez-de-Silanes, and Shleifer, 1999), >80% of firms had at least one large shareholder in
2018 (down from >90% in 2003). Although the share held by the controlling shareholder
has decreased over recent years, the average (median) value of this fraction was still 33%
(31%) in 2018. Thus, in China, controlling shareholders, rather than managers, and dom-
inate corporations (Jiang and Kim, 2015). Controlling shareholders have both incentives
and power to monitor managers effectively (Shleifer and Vishny, 1986, 1997); hence, man-
agers’ expropriation is unlikely to be a serious problem in China. However, it is very likely
that large controlling shareholders may use their power to expropriate wealth from minor-
ity shareholders (La Porta, Lopez-de-Silanes, and Shleifer, 1999). Therefore, the primary
agency problem in China is the conflict of interest between controlling and minority share-
holders, while vertical agency problems are largely alleviated owing to effective discipline
of managers by controlling shareholders. While managers may still have their own private
interests, they may act in the interests of controlling shareholders to expropriate from mi-
nority shareholders, thus exacerbating the horizontal agency conflict. Referring to the ex-
tant literature, we discuss the evidence and consequences of this agency conflict, and its
sources in institutional factors and the limited role of potential monitors. In addition, we
1 The CSMAR database, developed by GTA Information Technology, covers Chinese publicly listed
firms and has been used in studies published in leading journals (Fang, Lerner, and Wu, 2017).
Corporate Governance in China 735
discuss circumstances under which a controlling shareholder can solve problems rather
than cause them—that is, the bright side of having a controlling shareholder.
Shleifer and Vishny (1997) argue that legal protection of investor rights is one essential
element of corporate governance. Given the existence of dominant controlling sharehold-
ers, legal protection seems to be the most important, albeit imperfect, solution to agency
problems in China. When controlling shareholders take full control of corporate boards
and management teams, it is difficult for internal corporate governance to work effectively,
as is also the case in the USA, where managers dominate corporate decisions and reduce the
effectiveness of internal corporate governance (Allen and Gale, 2000). Meanwhile, external

corporate governance mechanisms, like takeover threats, which are popular in the USA are
ineffective in China, because the ownership structure is so concentrated that takeovers rare-
ly occur.2 Thus, corporate governance in China is left with another external mechanism,
namely, law and institutions. In the past three decades, since the launch of the Chinese
stock exchanges in the early 1990s, legal protection in China has dramatically improved.
We survey whether and how law and regulations help to alleviate agency conflicts in
China.
SOEsState owned enterprises (SOEs) are worthy of a separate discussion for their im-
portance and uniqueness. First, SOEs are undeniably important to China’s economy, to
state controlling shareholders, and to minority shareholders. At the start of China’s capital
market, all listed companies were SOEs, and SOEs currently account for one-third of firm
numbers but two-thirds of market capitalization. Second, SOEs differ markedly from non-
SOEs in corporate governance. As the government is obliged to maintain social stability
(Lin, Cai, and Li, 1998; Bai, Lu, and Tao, 2006), the departure of SOEs’ political objectives
from value maximization may jeopardize corporate performance and thus create conflicts
of interest between the state controlling shareholder and minority shareholders. In response
to these problems, a series of reforms have been undertaken to improve SOE performance,
leading to a large number of relevant studies (e.g., Li, 1997; Bai, Lu, and Tao, 2006; Gan,
Guo, and Xu, 2018). Meanwhile, since state owners do not actively oversee day-to-day
operations, managers may be able to engage in self-serving behavior at the expense of both
state and minority shareholders. Thus, SOEs in China face a vertical agency conflict similar
to those in many developed countries, like the USA. We survey the literature on Chinese
SOEs and their agency problems, as well as some governance mechanisms for this special
kind of entity.
Corporate governance is closely related to corporate social responsibility (CSR), a com-
pany’s commitment to not only shareholders, but also stakeholders, such as employees, cus-
tomers, suppliers, and communities. Indeed, Tirole (2001, p. 4) defines corporate
governance as “the design of institutions that induce management to internalize the welfare
of stakeholders”. There is some evidence that stakeholder value improves shareholder value
in the long term; thus, a well-governed firm should care for its stakeholders. However, in a
developing economy such as China, where citizens may not prioritize social concerns, the
determinants and effects of CSR may differ from those in other countries. We discuss CSR
in China in this survey.
While research to date has provided much insight on corporate governance in China,
there are still many potential topics for future research, especially as China continues to
2 In saying that takeovers are rare, we refer to listed firms; mergers and acquisitions involving non-
listed firms and overseas firms are quite active (see Section 6).
transition from a control economy to a market economy, and as corporate governance in

China continues to evolve. Hence, we include a section discussing directions for future
research.
Most studies on corporate governance suffer from endogeneity issues. For example,
omitted variables such as firm, market, or country characteristics could simultaneously
affect the adoption of better corporate governance mechanisms and better performance.
Alternatively, there may be reverse causality if better-performing firms attract or have the
ability to employ better corporate governance. Many studies we review in this survey ad-
dress these endogeneity problems through instrumental variables, difference-in-

differences methods, or regression discontinuity designs. Some studies use fixed effects
and matching methods. We describe these strategies, not only to show which studies
document causal relationships, but also to generate ideas for future research. For ease of
presentation, we provide a separate Appendix A to show the techniques used in each
paper.
This survey builds on, but significantly expands, our earlier survey on corporate govern-
ance in China (i.e., Jiang and Kim, 2015). However, we focus here mainly on academic lit-
erature published in top journals, and provide directions for future research, rather than
institutional background. Two recent surveys on corporate governance in China are by
Morck and Yeung (2014) and Wong (2016). Focusing on accounting-related issues, Wong
provides detailed descriptions of institutional features (as we have previously done in Jiang
and Kim, 2015) and discusses previous research on SOE performance, managerial turnover
and compensation, and accounting. Morck and Yeung (2014) focus on China’s political
economy, which we do not emphasize in this survey, and target a practitioner audience,
whereas our target is an academic audience.
2. Controlling Shareholders and the Agency Problem in China

This section discusses the agency problem in China, the incentives and evidence for control-
ling shareholder expropriation, and the limited role of potential monitors that facilitates ex-
propriation. We then consider the bright side of controlling shareholders.
Controlling shareholders in China have at least three important broad features. First,
there are two types of controlling shareholders, the state and the family. SOEs, which are
controlled by the state, have two primary objectives: to generate profit and to carry out
state policies. Naturally, the two objectives may conflict. Family-owned enterprises have
only the profit objective. Therefore, research on controlling shareholders in China should
differentiate these two groups.
Second, controlling shareholders are the primary decision-makers. Some researchers
have assumed, either explicitly or implicitly, that CEOs, general managers, and/or chairs of
the board (hereafter chairs) are the primary decision-makers or controllers of firms.
However, those who make the final decisions are always the controlling shareholders, espe-
cially in non-SOEs (SOEs usually delegate control to the chair, a practice we discuss in
Section 4). Often, the controlling shareholder is also the chair, but even when she/he is not,
she/he is still the primary decision-maker and should be treated as an insider in any study of
insider–outsider conflict.
Finally, controlling shareholder entrenchment significantly contributes to the agency
problem in China. Since controlling shareholders have large equity stakes or are the state,
outside investors, or boards cannot fire insiders for poor performance, nor can there be an
effective market for corporate control (outsiders cannot obtain enough shares to seize con-
trol, nor can they seize control of an SOE). That is, the ways to resolve the agency problem
in China are limited.
2.1 Conflict of Interest between Controlling and Minority Shareholders

While China’s concentrated ownership empowers controlling shareholders to discipline
managers, it also leads to conflicts with minority shareholders. This is similar to how large
managerial ownership can lead to entrenchment in the USA (Morck, Shleifer, and Vishny,
1988). Just like controlling managers, a controlling shareholder may extract private bene-

fits at the expense of minority shareholders, especially when the ratio of control rights to
ownership or cash flow rights is very high. Expropriation of minority shareholders by con-
trolling shareholders is known as tunneling (Johnson et al., 2000) or self-dealing (Djankov
et al., 2008).3
One way in which controlling shareholders may expropriate minority shareholders is
outright theft. A less detectable way is through intercorporate loans, which were common
practice in China before the mid-2000s. Jiang, Lee, and Yue (2010) find that during 1996–
2006, controlling shareholders borrowed tens of billions of RMB, usually interest free and
almost never paid back, from hundreds of Chinese listed companies. These intercorporate
loans were typically reported as “other receivables” (OREC). In their sample, OREC balan-
ces averaged 8% of total assets. Jiang, Lee, and Yue (2010) further found that during
1999–2002, a substantial portion of OREC (30–40%, for firms in the top three deciles of
other receivables scaled by total assets) went directly to controlling shareholders or their
affiliates.
Although this brazen form of tunneling has now been eradicated under strict rules and
regulations from the Chinese Securities Regulatory Commission (CSRC) and other govern-
ment ministries (Jiang, Lee, and Yue, 2010), tunneling by controlling shareholders still per-
sists through other means. Nowadays, related party transactions (RPTs) are perhaps the
most common channel of minority shareholder expropriation. A related party may be a
substantial shareholder, a director, a top manager, or a close relative to any of these people,
or another firm in which the listed firm owns a stake. RPTs include asset acquisitions, asset
sales, equity transfers, cash payments, loan guarantees, and trademark rights transfers.
Controlling shareholders can use RPTs as a tunneling tool through favorable transaction
terms. For example, the listed firm may buy (sell) assets or products from (to) a controlling
shareholder at a high (low) price. However, it is difficult to identify whether controlling
shareholders are using RPTs to tunnel because it is not obvious whether these transactions
are favorable to them or not. Therefore, researchers can only infer tunneling from negative
abnormal announcement returns surrounding RPTs. For example, Peng, Wei, and Yang
(2011) find that when financially healthy Chinese listed firms announce a transaction
whose value is >10% of the firm’s total assets, the average (5, þ5) cumulative abnormal
return is 3%. Similarly, Cheung, Rau, and Stouraitis (2010) find a negative wealth effect
of RPTs when firms are controlled by the local government.4
3 Bertrand, Mehta, and Mullainathan (2002) and Bae, Kang, and Kim (2002) provide some of the ear-
liest empirical evidence on tunneling in their study of Indian firms and Korean firms, respectively.
4 Cheung, Rau, and Stouraitis (2010) measure the wealth effect as the ratio of the total value change
to the announced size of the related party transaction, where the total value change is the abnor-
mal announcement return multiplied by the firm’s market capitalization.
Controlling shareholders have incentives to hold excessive amounts of cash for their pri-
vate benefit, as Jensen’s (1986) free cash flow hypothesis suggests for managers. Cash pro-
vides more tunneling opportunities because it can be more conveniently transformed into
private benefits than other assets (Myers and Rajan, 1998). Providing indirect evidence of
this agency problem, Chen et al. (2012) find that firms held significantly less cash after the
split-share structure reform aligned incentives between controlling and minority
shareholders.5
Controlling shareholders may also manipulate information disclosure to hide their self-
dealings. When they withhold information, the firm’s stock price movements will mimic

overall market movements. Gul, Kim, and Qiu (2010) find that such price synchronicity
increases with controlling shareholder ownership up to a ceiling of 50%. Moreover, con-
trolling shareholders can manipulate information with the help of outsiders. Chan et al.
(2019) find that, to cash in their original non-tradable shares (NTSs) after the split-share
structure reform, controlling shareholders use affiliated analysts’ optimistically biased rec-
ommendations to keep stock prices high until the end of lock-up periods, when they can
sell.
The self-serving behavior of controlling shareholders can harm listed firms and the over-
all capital market in at least three ways. First, it can hinder firm performance. For example,
Jiang, Lee, and Yue (2010) find that companies with larger intercorporate loans exhibit
worse future operating performance, as measured by both accounting rates of return and
the likelihood of entering financial distress. Specifically, they sort firms into deciles based
on their amount of intercorporate loans in Year t, and they find that the ROA difference in
Year t þ 1 between the top decile (those with the most intercorporate loans) and bottom de-
cile is 4.9%. Furthermore, 14% (4–5%) of firms in the top decile (other deciles) receive
“Special Treatment” status from market regulators within 3 years.6 Second, this behavior
can drive down the market value of listed firms. Specifically, for top (bottom) decile firms,
the average market-value-to-earnings multiple is 4.0 (13.8). Jiang, Lee, and Yue (2010) find
a higher implied discount rate in the valuations of earnings of firms that have large amounts
of intercorporate loans. Third, this behavior can reduce price informativeness as Gul et al.
(2010) show. This can damage market efficiency and hinder the capital market from allo-
cating scarce capital.
2.2 Institutional Sources of Agency Problems in China

We now discuss the institutional features of China which exacerbate the conflicts between
controlling and minority shareholders.
2.2.a. Poor liquidity of the controlling shareholder’s share

Stock illiquidity could trigger agency problems of controlling shareholders. At the start of
China’s stock market, when all listed companies were SOEs, in order to retain control, the
government established a split-share structure under which shares owned by the state con-
trolling shareholders could not be traded in the secondary market. Thus controlling share-
holders were unable to benefit from stock price appreciation by selling shares. The only
5 The split share structure reform converted nontradable shares owned by controlling shareholders
into tradable shares. We discuss this reform in more detail in a later section.
6 Normally a firm receives ST status if it experiences two consecutive annual losses. If it experien-
ces another annual loss, then trading is suspended; a fourth annual loss leads to delisting.
legal means for controlling shareholders to realize returns from their NTSs was dividends,
but these have to be shared with all other investors. They thus have strong incentives to
realize returns through expropriation.
Several studies provide empirical evidence for this argument, using the 2005 split-share
structure reform, which converted all NTSs into tradable shares (TS) and thus allowed the
controlling shareholders to obtain returns through capital gains rather than expropriation.
For example, Chen et al. (2012) find that average cash holdings and the average corporate
savings rate were significantly larger before the reform, indicating self-serving cash holding
due to poor liquidity of shares. Campello, Ribas, and Wang (2014) find that real corporate

activity was substantially hindered before the reform, as reflected in lower fixed assets in-
vestment, firm productivity (measured by the ratio of sales to capital), profitability, and
firm market value.
Although the split-share structure no longer exists, controlling shareholders’ shares re-
main illiquid: since they are insiders, they cannot sell without adversely moving the price.
Thus the agency problem triggered by illiquidity persists.
2.2.b. Pyramid ownership structures

Pyramid ownership structures (where control of a firm is obtained through a chain of com-
panies) are common in many countries (La Porta, Lopez-de-Silanes, and Shleifer, 1999).
They can worsen conflicts between controlling and minority shareholders, by allowing con-
trolling shareholders to gain control rights in excess of their cash flow claims. For example,
if Firm C owns 51% of Firm B, and Firm B owns 51% of Firm A, then Firm C is ultimately
the controlling shareholder of Firm A, yet owns only 26%. Lemmon and Lins (2003) find
that firms with pyramid ownership structures suffered a 10–20% greater performance de-
cline (measured by cumulative stock returns) than other firms in the Asian financial crisis.
They explain that when a crisis eradicates investment opportunities, controlling sharehold-
ers have more incentive to expropriate wealth from minority shareholders. Fan and Wong
(2002) find that firms controlled through a pyramid ownership structure have less inform-
ative earnings (measured by the earnings–return relationship). They argue that controlling
shareholders with control rights that exceed their cash flow rights have incentives to misre-
port accounting information, so their reported earnings have low credibility.
Pyramid ownership structures are also common in China. According to our statistics,
from 2003 to 2018, about half of Chinese A-share listed-firms had a divergence between con-
trol rights and cash flow rights.7 Wang et al. (2015) find that firms with a pyramid ownership
structure underperform firms without it by 30% for a 3-year period following their initial
public offerings (IPOs), in buy-and-hold returns adjusted by market, industry, and size. They
further find that when the divergence between the controlling shareholder’s control rights and
cash flow rights increases, so does the likelihood of tunneling through value-destroying RPTs.
2.2.c. Political connections

Politically connected firms may circumvent regulations or may enjoy favors, such as easy
access to debt financing (Fisman, 2001; Khwaja and Mian, 2005), which distort the
7 We obtain pyramid ownership structure data from CSMAR. Fan and Wong (2002) find that one-
quarter of the seven East Asian firms display cash-vote divergence, and the mean ratio of cash
flow right to voting right (the CV ratio) is 0.85. In our data, the mean CV ratio of Chinese listed firms
is 0.83.
efficient allocation of capital in the economy. For example, Faccio, Masulis, and
McConnell (2006) find that politically connected firms are more likely to receive bailouts
than matched unconnected firms, but they underperform after bailouts. In China, many
controlling shareholders also have political connections. While controlling shareholders of
SOEs, that is, the government, are naturally politically connected, it is also common for
controlling shareholders of non-SOEs to build connections with the government through
connected CEOs, top managers, or directors. For example, Fan, Wong, and Zhang (2007)
find that almost 27% of the CEOs in their non-SOE sample are former or current govern-
ment bureaucrats.

While firms can benefit from political connections, minority shareholders may be hurt.
For example, a politically connected firm is more likely to receive approval to go public
when it is not ready for an IPO. Piotroski and Zhang (2014) study impending political pro-
motions in China. They find that when local politicians anticipate a promotion, they may
encourage local firms to go public to show their ability to develop local capital markets.8
On the firm’s part, when it anticipates the loss of a political connection, it may capitalize
on the connection before its local politician’s departure to prematurely seek—and receive—
IPO approval. Piotroski and Zhang (2014) find that these early-IPO firms subsequently ex-
perience poor performance (in terms of both future financial performance and long-run
stock returns), and controlling shareholders are more likely to divert proceeds away from
their intended use after the offering.
Political connections may induce controlling shareholders to believe they can get away
with tunneling. For example, Fan, Wong, and Zhang (2007) find that newly partially priva-
tized firms with politically connected CEOs (defined as former or current government
bureaucrats) underperform those without by almost 18% in 3-year post-IPO stock returns.
The authors argue that this is because politically connected CEOs are likely extracting
resources from the listed firm at the expense of minority shareholders to satisfy state objec-
tives or to seek rents. Cheung, Rau, and Stouraitis (2010) find that Chinese listed firms are
more likely to engage in value-destroying RPTs with their local government controlling
shareholders when >10% of their directors are affiliated with the local government.
Political connections may also discourage high-quality corporate financial disclosures or
even induce information manipulation. Tellingly, Hope, Yue, and Zhong (2019) find that
after China’s national anticorruption campaign cut such connections by forcing official
directors to resign (Rule 18),9 their firms started to improve financial reporting quality.
Furthermore, Piotroski, Wong, and Zhang (2015) show that during meetings of the
National Congress of the Chinese Communist Party, and during times when high-level pro-
motions of politicians take place, politically connected firms suppress negative information,
perhaps to protect those connections. However, this is followed by an increase in the flow
of negative information after the event, as previously suppressed information is subsequent-
ly released. Such suppression harms minority shareholders.
Political connections may harm firm value, given that they can facilitate tunneling and
discourage transparency. Event studies based on China’s national anticorruption campaign
8 This is similar to Bertrand et al.’s (2018) finding that French firms maintain high employment and
plant creation rates to help regional politicians in their re-election efforts.
9 As an important component of the anticorruption campaign, in October 2013, the Organization
Department of the Central Committee of the CPC issued Rule 18, to prohibit party and government
officials from serving as directors for publicly listed firms.
provide indirect evidence. On December 4 2012, the Chinese Communist Party unexpected-
ly announced its “Eight-point Policy”.10 In general, the policy prohibits government offi-
cials and top executives of SOEs from demanding or accepting extravagant perks. Lin et al.
(2018) find that the Chinese stock market experienced 3–4% return over the 3-day and 5-
day windows surrounding the announcement date, suggesting that political connections,
and corruption in general, can destroy firm value. On May 17 2013, the Central
Commission for Discipline Inspection (CCDI) announced that it would conduct inspections
of provincial governments.11 This surprise announcement meant the government’s anticor-
ruption campaign was not just talk. Ding et al. (2020) find an overall positive return

around the announcement date. The positive returns were significantly higher for non-
SOEs, small firms, and non-connected firms, which are the firms most vulnerable to tunnel-
ing (or resource extraction by the government).
Political connections can also hurt firms once the connections are lost. Yan (2019) stud-
ies firms that lost their political connections due to Rule 18 of China’s national anticorrup-
tion campaign. She finds that these firms subsequently found it difficult to obtain bank
loans. Political connections can also impose a negative externality onto other firms, espe-
cially to small firms that do not have the resources to curry favor with connected officials.
Giannetti et al. (2017) study firms that lost their political connections due to the Eight-
point Policy of the anticorruption campaign. Before the policy, large firms that could spend
more on entertainment expenses, which is a proxy measure to capture the extent that firms
spend on “greasing” government officials, enjoyed lower financing costs. After the policy
implementation, these large firms lost their ill-gotten financing advantages.
2.3 The Limited Roles of Possible Monitors

In Western countries, corporate insiders may be effectively monitored—though this is still
debatable—by boards; institutional investors, including banks; and information interme-
diaries, including security analysts, independent auditors, and the media.12 In China, these
mechanisms seem to play a rather limited role in monitoring controlling shareholders.
2.3.a. Boards as internal monitors

Boards of directors are supposed to monitor firm management on behalf of investors.
However, whether they are effective in this role is widely debated (for a survey of the evi-
dence, see Adams, Hermalin, and Weisbach, 2010). Some scholars find that independent
directors may be particularly effective monitors, especially for Western countries (e.g.,
Weisbach, 1988, using US data; Dahya, McConnell, and Travlos, 2002, using UK data).
However, as Jiang and Kim (2015) have pointed out, it may be difficult for directors in
China to be active and effective monitors, for three reasons: First, board nominations and
appointments are largely made by controlling shareholders. Second, the main role of inde-
pendent directors in China is to monitor controlling shareholders, even though these
10 For details about the Eight-point Policy, see http://cpcchina.chinadaily.com.cn/2012-12/05/content_

15991171.htm
11 Information about the CCDI can be found at this website (in Chinese): http://www.ccdi.gov.cn/
12 Dyck, Morse, and Zingales (2010) show that some purported monitors in the USA are slow (or they
fail) to bring corporate fraud to light. Therefore, corporate governance mechanisms sometimes
also do not work effectively in the USA.
directors were likely nominated and appointed by controlling shareholders. Third, even if
independent directors are active, they represent the minority on most boards.13
Nevertheless, some types of directors still conduct partially effective monitoring. Jiang,
Wan, and Zhao (2016) study the voting behavior of independent directors of listed firms in
China. Their sample includes 609 board meetings, in which voting takes place on 859 pro-
posals, with at least one independent director voting “abstain” or “against”. The study
finds that only 6% of independent directors dissent even once, particularly those who are
career cautious and highly reputed—and most of these dissents occur during the independ-
ent directors’ second terms (there is a two-term limit for directors in China), when they are

less beholden to controlling shareholders. Furthermore, 92% of the proposals eventually
pass despite dissent. This high pass rate is not surprising given that insiders control the
board meeting agenda and independent directors constitute only a minority on the board.
Nonetheless, the authors argue that director dissent helps to improve corporate governance,
as it conveys value-relevant information to outsiders.
Another important type of director who may monitor effectively is one with experience
of superior corporate governance and advanced management practices from abroad.
Giannetti, Liao, and Yu (2015) study the impact of these emigrant directors on Chinese
listed firms. During the 1980s and 1990s, many Chinese went abroad for education and
then subsequently remained abroad for employment. In the early to mid-2000s, various
Chinese provinces started implementing policies (e.g., tax breaks and subsidized housing)
to entice these overseas Chinese to return to China. If emigrant directors are less likely to
have local ties, then they may be less beholden to controlling shareholders and thus more ef-
fective as directors. Giannetti, Liao, and Yu (2015) find that when an emigrant director
joins a board, the firm’s valuation, total factor productivity, and profitability improve,
partly because governance improves (as revealed by a reduction in earnings management),
but mostly because the firm’s international activities increase. For example, these firms are
more likely to engage in foreign mergers or acquisitions, raise capital internationally, and
increase exports. Therefore, it may be emigrant directors’ overseas expertise, rather than
their independence or innate ability, which makes them effective monitors.
Board monitoring effectiveness may also vary with different forms of board meetings.
Cai, Jiang, and Kang (2019) study differences in directors’ monitoring of corporate insiders
between remote and face-to-face meetings in China. Since social context cues and visual
images are not observable in remote board meetings, such meetings encourage independent
directors to think more independently and feel less pressured to agree with inside directors
and CEOs. The authors find that remote board meetings are associated with improved
meeting attendance by independent directors, higher likelihood of dissent on monitoring-
related proposals, and higher sensitivity of forced CEO turnover to performance.
13 In our own check of the data on CSMAR, in 2018, 4.27% of the listed firms have boards with at
least 50% independent directors, and 1.51% of listed firms have boards with >50% independent
directors. Since June 30 2003, one-third of listed firms’ boards must be independent (CSRC board
regulations can be found here (in Chinese): http://www.cninfo.com.cn/finalpage/2001-08-22/
605382.html). Since 2003, the annual median ratio of independent directors to total directors is
0.333, with mean ratios being slightly higher (see Jiang and Kim, 2015). While some boards have
extra independent directors, another reason why mean ratios are slightly >0.333 is because
boards with five, seven, and ten members cannot have an independence ratio <0.4.
In addition to boards of directors, under China’s two-tier board structure listed firms
are also required to have a board of supervisors. Members of both boards are determined
by a cumulative voting system, where the number of votes per share is equal to the number
of directors or supervisors to be elected. However, there are different membership restric-
tions placed on each board. The regular board must have a minimum of five directors and a
maximum of nineteen. A senior manager can sit on the regular board, but at least one-third
of its members must be independent directors. The supervisory board must have at least
three members and must include representatives of shareholders, but at least one-third of
the supervisors must be employees. However, supervisors cannot include current directors

or senior managers, because the supervisory board’s primary responsibility is to oversee
and evaluate directors and senior managers.14 The rationale for a supervisory board is espe-
cially strong for SOEs, in which the chair of the board of directors is appointed by the state,
and she/he is the inside controlling agent of the outside state principal. However, for the
supervisory board to be effective, its chair should be as powerful as the chair of the board
of directors.15 In many companies, especially non-SOEs, since Chinese company law gives
substantial power to the board of directors and the controlling shareholder is usually its
chair, she/he outranks the chair of the supervisory board. Thus, in most cases, the supervis-
ory board may be redundant or pointless.
2.3.b. Institutional investors as external monitors

Institutional investors, such as mutual funds or pension funds, can be active and effective
monitors in Western countries (Smith, 1996; see Edmans and Holderness, 2017, for a re-
view of the literature on shareholder activism by institutional investors). However, in
China, no institutional investor is permitted to own >10% of a listed firm’s shares16—and
every listed firm has a controlling shareholder that owns >10%. In our own check of data
from CSMAR, from 2003 to 2018, the average total ownership of all institutional investors
in a listed firm is only 6%, while the average percentage of shares held by the controlling
shareholder is 36%. Therefore, institutional investors may not have either the incentive or
the power to exert active and effective governance. As Jiang, Lee, and Yue (2010) note, the
low presence of institutional investors partly explains why controlling shareholders are able
to get away with brazen tunneling.
However, even when they have the opportunity and power to make decisions,17 institu-
tional investors in China may not be effective monitors, owing to their short-run investment
14 The primary responsibilities of regular boards in China are the same as those of boards in
Western countries. For example, boards in China convene meetings, implement shareholder reso-
lutions, make major operational and investment decisions (e.g., capital expenditures and acquisi-
tions), make major financial decisions (e.g., budgets and raising capital), and evaluate the firm’s
top managers.
15 Conventional thought is that financial companies, such as the Industrial and Commercial Bank of
China, have effective supervisory boards because their chairs are high-ranking government offi-
cials, like regular board chairs.
16 For regulations on institutional investor ownership, refer to (in Chinese): http://www.csrc.gov.cn/
pub/newsite/flb/flfg/bmgz/jjl/201505/t20150511_276612.html and http://www.csrc.gov.cn/pub/zjhpub
lic/zjh/200804/t20080418_14496.htm
17 According to the Guidelines for Articles of Association of Listed Companies launched by the CSRC
in 1997, when a shareholders’ general meeting deliberates on matters pertaining to related party
transactions, related shareholders should abstain from voting, and the total number of valid votes
horizons (Jiang and Kim, 2015) and, sometimes, to political pressures. For example, in the
split-share structure reform, in order to convert NTS to TS, NTS holders have to offer TS
holders a compensation plan, which needs approval from two-thirds of the total voting
shares as well as from two-thirds of total TS voting shares. As mutual funds are typically
the largest institutional investors in TS, they are supposed to negotiate fair compensation
for themselves and for other holders of TS. However, in the case of SOEs, the government
is the controlling shareholder as well as the largest owner of NTS. Firth, Lin, and Zou
(2010) find that mutual funds bow to political pressure to help these firms implement the
reform quickly and at relatively low cost. Therefore, the authors conclude that minority

shareholders cannot count on institutional investors in China to monitor effectively.
As large creditors, banks in theory might also be effective monitors. Like large share-
holders, banks have large investments in firms, and want returns on their investment. In
addition to the incentives to monitor, they may also have the ability through their access to
inside information and stable relationships with borrowing firms. In Japan, where banks
are the most important providers of capital to firms, banks have been shown to be active
and effective monitors (e.g., Hoshi, Kashyap, and Scharfstein, 1990). Banks are also the
most important providers of capital to Chinese firms (Jiang, Jiang, and Kim, 2017).18
However, in China, it is difficult for banks to play a monitoring role, since most large
Chinese banks are state owned and therefore are obliged to help keep firms afloat to main-
tain employment. Indeed, using a sample of bank loans during 1999–2004, Bailey, Huang,
and Yang (2011) find not only that poorly performing firms are more likely to obtain bank
loans, but also that these borrowers continue to perform poorly, suggesting that the loans
are made only to keep the firms afloat. The stock market reaction to these loan announce-
ments is negative. The authors contend, therefore, that market participants know these
loans are being given to noncredit-worthy firms, and that these firms will continue to per-
form poorly. Finally, the authors also find that many borrowers frequently engage in RPTs,
suggesting that Chinese banks do not monitor.
Although the total value of nonperforming loans (NPLs) and the ratio of NPLs to GDP
in China have both declined since their peak in 2000–01, as Allen et al. (2012) have shown,
it would be wrong to think that banks are becoming better monitors. These reductions are
largely due to actions by the Chinese government, to reduce the NPLs of the Big Four state
banks before their public listing. During 2003–08, the Chinese government injected large
amounts of foreign currency reserves into these banks, and it also created asset management
companies to assume and then to liquidate the NPLs (Allen et al., 2012). Over time, bank
competition has also increased, and this could lead to changes in bank behaviors. However,
Gao et al. (2019) find that after bank entry was partially deregulated in 2009,19 entrant
should not include the shares with voting rights held by related shareholders. In such cases, insti-
tutional investors are supposed to be a powerful and influential party, since they are typically one
of the largest groups of unrelated shareholders. http://www.csrc.gov.cn/pub/csrc_en/laws/rfdm/
DepartmentRules/201904/P020190524606840462980.pdf
18 Having decreased substantially since 2002, loans from commercial banks in 2015 were 73.1% of
total new external financing, whereas equity financing was only 4.9% (Jiang, Jiang, and Kim,
2017).
19 Before 2009, the big four state-owned commercial banks (i.e., Bank of China, Agricultural Bank of
China, China Construction Bank, and Industrial and Commercial Bank of China) dominated China’s
banking system, while the twelve joint equity banks faced great limitations when opening new
branches. In April 2009, the China Banking Regulatory Commission partially lifted this entry barrier.
banks preferred to lend to inefficient SOEs over more productive private firms. To receive
bank loans from entrant banks, private firms have to provide more guarantees and higher
internal loan ratings to indicate their credit worthiness, while SOEs do not. Nevertheless,
the authors find that in the long run, entrant banks accumulate more information on local
private firms and eventually lend more to them, suggesting that some banks are starting to
use their inside information and stable relationships with borrowing firms to play a moni-
toring role.
2.3.c. Information intermediaries as external monitors

Securities analysts can monitor insiders through at least two channels: directly by raising
questions in conference calls and indirectly by distributing public and private information
to investors to help them detect insiders’ misbehavior (Chen, Harford, and Lin, 2015).
However, in China, controlling shareholders’ ability to choose what they disclose hinders
securities analysts from monitoring insiders effectively. In addition, in China, securities ana-
lysts can work at investment banks, a practice that compromises their objectivity.
Huyghebaert and Xu (2016) find that securities analysts affiliated with Chinese investment
banks issue positively biased earnings forecasts for firms that have had their IPOs under-
written by the affiliated bank. Evidence from Chan et al. (2019) also shows that, in China,
analysts who have had previous underwriting relations with listed firms provide more opti-
mistic recommendations before large shareholders sell their restricted shares. These findings
are similar to Lin and McNichols (1998) and Michaely and Womack (1999) that find that
analyst recommendations in the USA can also be obscured by a conflict of interest.
Independent auditors, in their roles of reviewing, checking, and confirming the accuracy
of financial statements, can be effective monitors. As Fan and Wong (2005) note, by
increasing the quality and integrity of disclosures about RPTs, auditors can discourage
tunneling-motivated RPTs, as minority shareholders discover this self-serving behavior
through financial statements and react to it by exiting. The authors find that external audi-
tors play a crucial monitoring role in East Asia (excluding mainland China), where the
agency problem of controlling shareholders is high. However, in China, some listed firms
can simply shop for favorable audit opinions (Chan, Lin, and Mo, 2006; Chen et al., 2016);
the Big 4 accounting firms may assign their less experienced partners to audit firms that are
listed only in mainland China, compared to firms that are cross-listed in Hong Kong (HK),
where the institutional environment is better (Ke, Lennox, and Xin, 2015); and some con-
trolling shareholders may hire auditors to which they have school ties, leading to favorable
auditor opinions (Guan et al., 2016). That is to say, independent auditors cannot be effect-
ive monitors in China. For an in-depth discussion of this strand of the literature, see
Wong’s (2016) survey of mostly accounting literature on China.
The media is potentially important monitors, playing a corporate governance role that
affects firms’ reputation and may force regulators to take action (Dyck, Volchkova, and
Zingales, 2008). In China, however, many media outlets are controlled by the government
and thus may be biased in their reporting. You, Zhang, and Zhang (2018) review 210,199
articles published in state-controlled financial newspapers and market-oriented financial
Joint equity banks are allowed to open branches in cities in which they had already had
branches, and allowed to enter all cities in a province in which they already had branches in the
capital city.
newspapers,20 and find that the articles published in state-controlled newspapers are less
critical, less accurate, less comprehensive, and more subject to reporting delay. The authors
also find that the articles in market-oriented newspapers are followed by stronger stock
market reactions than those in state-controlled newspapers, and that market-oriented news-
papers are better at predicting firms’ future performance.
2.4 The Bright Side of Controlling Shareholders

In Western countries, where ownership of publicly listed firms is dispersed, large sharehold-
ers are often viewed as a potential solution to the vertical agency problem between inside

managers and outside investors (Edmans, 2014; Edmans and Holderness, 2017). In China,
because controlling shareholders have full control rights, they can just as easily exert effect-
ive governance over firms as they can expropriate from firms. The question is, when and
how might controlling shareholders use their power to improve firm value, rather than to
expropriate?
One such situation occurs when the controlling shareholder is also the majority owner.
Some researchers argue (e.g., Jensen and Meckling, 1976; Stulz, 1988) and empirically
show (e.g., Morck, Shleifer, and Vishny, 1988; Claessens et al., 2002) that the alignment-
of-interest effect (entrenchment effect) occurs when a large shareholder has a high (low)
level of ownership. Gul, Kim, and Qiu (2010) point out that when a large shareholder in
China owns >50% of the firm, her/his significant cash flow rights make expropriation cost-
ly. When controlling shareholders do not engage in expropriation, they have nothing to
hide; and accordingly, Gul, Kim, and Qiu (2010) find that Chinese listed firms with major-
ity shareholders have more firm-specific information incorporated into their share prices.
Similarly, Jiang et al. (2017) find that listed firms with a majority owner have the best per-
formance (measured by return on assets, ROA), and listed firms with a controlling share-
holder that owns <50% of the firm have the worst performance. In addition, while RPTs
are an efficient way to allocate resources between a controlling shareholder and the listed
firm, the authors find that controlling shareholders with >50% of the firm use RPTs to en-
hance firm performance, and those with <50% of the firm use RPTs to tunnel. In other
words, high cash from ownership leads to effective governance; low cash from ownership
leads to expropriation.
Controlling shareholders may benefit minority shareholders when the firm is in poor fi-
nancial health, because they do not want their firms to fail. Peng, Wei, and Yang (2011) de-
scribe two major risks that controlling shareholders face in China: delisting and losing the
right to issue new shares. Both can occur if a firm suffers from poor earnings. Therefore,
the authors hypothesize, when firms are in poor financial health, controlling shareholders
conduct RPTs on favorable terms to temporarily prop up earnings. Examples include buy-
ing firms’ assets at high prices, exchanging good assets for a firm’s bad assets, and lending
to firms at favorable interest rates. Indeed, when firms in poor financial health conduct
RPTs, the abnormal return surrounding the announcement is positive. Jian and Wong
(2010) also find that firms use RPTs to prop up earnings to meet earnings targets.
However, as Peng, Wei, and Yang (2011) find, propping is temporary. In some cases, after
20 State-controlled financial newspapers include the China Securities Journal, Securities Daily,
Securities Times, and Shanghai Securities Journal, and market-oriented financial newspapers in-
clude the China Business Journal, First Financial Daily, Economic Observer, and 21st Century
Business Herald.
propping, cash is transferred back to the controlling shareholder. Therefore, propping may
benefit minority shareholders only in the short run.
Controlling shareholders may also benefit minority shareholders if the firm and the con-
trolling shareholder are part of a business group. The business group is a type of corporate
organization in which member firms are linked through cross-ownership and internal factor
markets, such as financial markets, and it can help to relax financial constraints and en-
hance investment (Hoshi, Kashyap, and Scharfstein, 1990, 1991). Business groups are com-
mon in emerging economies, perhaps because they substitute for weak institutions (Khanna
and Palepu, 2000). In China, it is well known that the state largely controls natural and fi-

nancial resources, and business groups may form in order to acquire and share these resour-
ces. He et al. (2013) find that about one-third of listed Chinese firms in their sample are
affiliated with a business group, and that such firms experience lower financial constraints
because of their internal capital markets and have lower risk because of coinsurance among
member firms. Jia, Shi, and Wang (2013) argue that RPTs can be used to provide coinsur-
ance among business group members. When the parent (subsidiary) firm experiences a
credit crunch (performance challenge), the subsidiary (parent) firms may provide funds
(support) in the form of loan-based (nonloan-based) RPTs.
Another situation in which the controlling shareholder may be of benefit occurs when
a firm has other blockholders to monitor expropriation by the controlling shareholder
(Pagano and Röell, 1998; Laeven and Levine, 2007). Multiple blockholder ownership
structure is very common in China.21 Hope, Wu, and Zhao (2017) find that Chinese
listed firms with outside (i.e., noncontrolling) blockholders have better ROA than firms
without such blockholders—even though their tests find no indication that the outside
blockholders govern through active intervention. The authors conclude that the threat of
blockholder exit is what mitigates agency problems. That is, controlling insiders may
worry that outside blockholders will sell their shares, driving down prices, and therefore
may focus on maximizing value (Admati and Pfleiderer, 2009; Edmans, 2009; Edmans
and Manso, 2011).
3. Law and Institutions

Laws and the quality of their enforcement by the regulator and courts are essential elements
of corporate governance (La Porta et al., 1997, 1998). Strong law and well-developed insti-
tutions can help resolve agency problems and protect minority shareholders. This may be
especially true for China, where the controlling shareholder is overly powerful, takes full
control of the board and management, and is difficult to govern, either internally or exter-
nally (through takeover). In this section, we first discuss the importance of legal protection
for the development of markets, and how they are particularly important for China. Then,
we describe how legal protection in China has evolved and improved.
21 According to our statistics, of all Chinese A-share listed firms from 2003 to 2018, 34.28% have at
least two blockholders that hold at least 10% of the firm’s outstanding shares (a threshold follow-
ing Faccio and Lang, 2002), and 56.65% of firms have at least two blockholders with an ownership
>5% (a threshold following Edmans and Manso, 2011 and Hope, Wu, and Zhao, 2017). The data
come from CSMAR, which specifies share ownership of the top ten largest shareholders for all
listed firms in each year. We manually group parties related to the controlling shareholder and
sum their shareholdings using the financial statement disclosures on related parties.
3.1 The Importance of Legal Protection

Much research has been undertaken in the past two decades to highlight the importance of
law and institutions for finance and economic growth. La Porta et al. (1998, 2002) provide
empirical evidence that countries with stronger legal protection have better economic out-
comes at the aggregate and firm levels. La Porta et al. (1998) study forty-nine countries and
measure their minority shareholder rights, creditor rights, and enforcement of those rights.
The authors find that legal protection and enforcement differ markedly around the world
and are relatively strong (weak) in countries with common (civil) law. In a follow-up study,
La Porta et al. (2002) find higher valuation of firms in countries with better protection of

minority shareholders.
Is this the case for China? During the 1990s and early 2000s, China’s legal protection of
shareholders and creditors was poor, compared to that in the rest of the world. Allen,
Qian, and Qian (2005) compare China’s shareholder and creditor rights to rights in other
countries studied by La Porta et al. (1998). For shareholder rights, the mean score for all
countries (English-origin countries) according to La Porta et al. (1998) is three (four) out of
five, but China’s score is only three. Almost two-thirds of the countries studied by La Porta
et al. (1998) have superior shareholder rights. For creditor rights, the mean score for all
countries (English-origin countries) according to La Porta et al. (1998) is 2.3 (3.11) out of
4, but China’s score is only 2. Over two-thirds of the countries they studied have superior
creditor rights. Perhaps most importantly, when it comes to law enforcement, China rates
much lower than other countries studied by these authors. For example, the mean rule-of-
law score for all countries is 6.85 out of 10 and the mean corruption score for all countries
is 6.9 out of 10, while China’s scores are only five and two, respectively. Even when China
is directly compared to six other emerging economies (India, Pakistan, South Africa,
Argentina, Brazil, and Mexico), it ranks only fifth in shareholder rights and creditor rights,
and ranks last in one of the enforcement measures.
Although neither China’s shareholder rights nor its creditor rights are well protected,
China remains a fast-growing economy with substantial market development. Therefore,
the evidence provided by Allen, Qian, and Qian (2005) poses an important question for
both researchers and policy-makers: is legal protection important in China? Some empirical
research considers this question and concludes that it is.
Poor investor protection harms not only share value, but also share liquidity. For ex-
ample, when investor protection is poor, minority shareholders do not invest (La Porta
et al., 1998), which implies low share liquidity. Brockman and Chung (2003) compare HK-
based blue chip firms and China-based firms that are listed on the HK Stock Exchange.
They find that stocks of China-based firms have larger bid–ask spreads and thinner depth
than stocks of HK-based firms.
In contrast, strong protection for investor rights can promote investment. For example,
protection for property rights is an important precondition for economic growth, especially
for countries transitioning from planned to market economies (Johnson, McMillan, and
Woodruff, 2002). Entrepreneurs have little incentive to start businesses or reinvest in their
businesses if the risk of expropriation is high. During the early 2000s, property rights
started to improve in China, but to varying degrees. Cull and Xu (2005) consider two
aspects of property rights: risk of expropriation by the government and the ease and reli-
ability of contract enforcement. Using data from a survey of firms based in eighteen cities in
China during 2000–02, their study finds that when managers perceive the risk of
expropriation to be low and the ease/reliability of enforcement to be high, they reinvest

more of their firms’ profit back into their firms—as Johnson, McMillan, and Woodruff
argue.
Furthermore, strong legal protection can encourage corporate innovation, by reducing
the risk that other firms will imitate or steal intellectual property. To test the importance of
intellectual property rights in China, Fang, Lerner, and Wu (2017) use survey data from
sixty-six prefectures to examine the privatization of SOEs.22 They find that on average,
firms’ patent stock increases by 200–300% in the 5 years after privatization compared to
the 5 years before—and, importantly, that the increase in innovation is significantly larger

in prefectures with higher IPR protection.
Recent research shows that the capital market reacts positively to promulgation of laws
and regulations, which confirms the importance of legal protection in another way—
improved access to finance. In 2007, China enacted the Property Right Law, which makes
it difficult for local governments to expropriate assets from firms, but easier for creditors to
seize firms’ assets if they default on loans. When owners feel that their firms’ assets will not
be expropriated by the government, they are more willing to invest in their firms. When
creditors feel that they can easily seize assets from firms that are in default, they are more
willing to lend to firms. This greater access to finance should enhance firm value.
Berkowitz, Lin, and Ma (2015) study announcement returns on December 29 2006, the
day when a draft of the Property Law was accepted by the Standing Committee of the
National People’s Congress (NPC). The acceptance of the draft was a surprise as this law
had been debated by the NPC for many years. On that day, the mean stock market return
was almost 4%. For event windows of (2, þ2) and (0, þ5), where Day 0 was December
29 2006, the mean cumulative stock returns were >6% and >15%, respectively. These an-
nouncement returns are higher for firms with more tangible assets (that could have been
expropriated by the local government), and without political connections (to prevent such
expropriation).
3.2 The Improvement of Legal Protection

Aware of the importance of legal protection, policy-makers in China began to establish a
modern framework for legal protection in the mid-1980s. Since then, the Chinese govern-
ment has promulgated a series of laws and regulations to enhance investor protection and
to improve corporate governance.
The Accounting Law, promulgated in 1985 to ensure the quality of accounting informa-
tion (amended in 1993 and 2017, and revised in 1999), was the start of building an integral
law system in China. In 1986, China first introduced the concept of reorganization and
bankruptcy of SOEs, and enacted the Enterprise Bankruptcy Law (revised in 2006), which
suggested a new way to improve the quality of enterprises by eliminating inefficient ones. It
is widely accepted that the introduction of company law and securities law is one of the
most important elements in the process of legal reforms (MacNeil, 2002). Accordingly, in
1993, the NPC enacted China’s Company Law, and in 1998 the Securities Law. To im-
prove investor protection, both laws have been updated many times. The Company Law
has been amended four times, in 1999, 2004, 2013, and 2018, and revised once, in 2005,
22 In China, a prefecture is an administrative division. It ranks below a province and above a county.
It comprises a main central urban area (such as a city) and its larger surrounding rural area, con-
taining smaller cities, towns, and villages.
while the Securities Law has been amended three times, in 2004, 2013, and 2014, and
revised once, in 2005. The Contract Law was promulgated in 1999. In 2007, the Property
Right Law was enacted to strengthen the protection of property rights, benefiting both
listed firms and their investors and creditors. In sum, in 20 years, China has set up an inte-
grated law system.
In addition to law, securities regulations and enforcement by the CSRC have also been
improving. A well-known CSRC regulation requires firms to show that they are profitable
before being allowed to issue new equity to existing shareholders. This regulation aims to
guide capital to more efficient sectors of the economy. During 1996–98, the CSRC required

listed firms wishing to make such offerings to achieve an annual return on equity (ROE)
>10% for each of the preceding 3 years. The previous requirement had been that firms
must average >10% ROE over the preceding 3 years. Chen and Yuan (2004) find that dur-
ing 1996–98 (the more stringent period) many firms managed earnings by using excessive
amounts of nonoperating income to achieve the annual 10% ROE goal. During 1996–97,
the probability of CSRC approval was negatively correlated with indicators of earnings
management. This negative correlation was even stronger in 1998, suggesting that the
CSRC became better at detecting managed earnings. Perhaps, more importantly, during
1998 (1996–97), those firms that received CSRC approval subsequently outperformed (did
not outperform) those firms that were denied of CSRC approval. These results imply that
the CSRC became better at identifying which firms deserved approval. However, after
1998, the requirement reverted to the previous status, a change that may have reduced
firms’ incentives to manage earnings.
The Securities Law, passed in December 1998, empowered the CSRC to oversee secur-
ities markets and to enforce the law and its subsequent regulations. Since then, the CSRC
has introduced a series of regulations to improve minority shareholder protection. For ex-
ample, in the second quarter of 2000, the CSRC announced three new regulations.23 The
first substantially increases the voting rights of minority shareholders at annual sharehold-
ers’ meetings by prohibiting shareholders involved in RPTs from voting on those transac-
tions; empowering small shareholders to propose motions; requiring candidates for director
to be elected individually rather than as a group; and granting new legal standing in courts
to shareholders disputing procedures used or resolutions passed. The second new regulation
prohibits listed firms from guaranteeing loans to controlling shareholders or related parties.
The third greatly improves the transparency and regulation of asset transfers to related par-
ties. Berkman, Cole, and Fu (2010) find that the 5-day cumulative abnormal returns sur-
rounding the announcement of the first, second, and third regulations were 9.9, 1.1, and
2.3%, respectively. They further find that firms with weaker corporate governance (proxied
by a high level of RPTs) enjoyed significantly larger abnormal returns than firms with
stronger governance. That is, the minority shareholders who are most vulnerable to expro-
priation benefited most from the new regulations.
To further strengthen the power of minority shareholders against expropriation, the
CSRC introduced a new voting regulation in 2004. For a long time, controlling sharehold-
ers had the power to approve RPTs. This new regulation required that major corporate
23 For regulations on minority shareholder protection, refer to (in Chinese): http://www.csrc.gov.cn/

pub/shenzhen/xxfw/tzzsyd/ssgs/sszl/ssgsfz/200902/t20090226_95510.htm, http://www.csrc.gov.cn/
pub/newsite/ssb/ssflfg/bmgzjwj/ssgszl/200911/t20091110_167718.html, and http://www.gov.cn/gong
bao/content/2001/content_61338.htm
decisions be separately approved by the owners of TSs who participated in the voting.
Chen, Ke, and Yang (2013) find that the passage of the segmented voting regulation
deterred corporate insiders from submitting value-decreasing proposals, and that the mean
announcement returns for submitted proposals were significantly negative before the regu-
lation but significantly positive after, which suggests that giving minority shareholders
more power can improve corporate decisions.
The CSRC continuously tries to improve the functioning and capabilities of financial
intermediaries and other institutions. For example, it has given investment banks more
power to identify and develop IPO candidates (Jiang and Kim, 2015). Another example is

the CSRC’s 2003 requirement for mandatory rotation of audit partners. There is a debate
on whether mandatory rotation is harmful due to lost experience or beneficial due to a fresh
perspective. Lennox, Wu, and Zhang (2014) study >6,000 audits of Chinese firms between
2006 and 2010. They find that audit adjustments, where the auditor detects and corrects
any misstatement on the pre-audit financial statement, occur relatively frequently during
the final year of an outgoing auditor. This result implies that outgoing auditors conduct
high-quality audits in their final year because they know their work will be evaluated by in-
coming auditors. They also find that audit adjustments occur relatively frequently during
the first year of an incoming auditor. This result implies that incoming auditors provide a
useful fresh perspective. Overall, the authors find that the CSRC’s regulation is beneficial in
China.
Strong laws and regulations are useless without strong enforcement. In China, owing to
the lack of an effective private securities litigation system and other market mechanisms,
private enforcement is largely absent (Jiang and Kim, 2015). Government regulators,
including the CSRC and the two domestic stock exchanges, play a dominant role in enforc-
ing securities law. Using hand-collected data on comment letters (CLs) on annual reports
issued by the Shanghai Stock Exchange, Duan et al. (2018) study the efficacy of public en-
forcement in China. Although CL announcements elicit a negative stock price reaction, the
authors find no significant effect of the exchange’s oversight on CL firms’ financial report-
ing practices, including earnings management and disclosure quality. Nor do they find any
market-discipline effect on bid–ask spreads and cost of borrowing or equity issuance activ-
ities. Instead, they show that CL firms, especially those receiving more severe CLs (more
pages and more questions), are more likely to be subject to another CL in the near future as
well as to be sanctioned by the regulators. In sum, their findings show that public enforce-
ment cannot function effectively without market discipline.
In recent years, Chinese regulators have recognized the deficiencies in relying solely on
public enforcement, and therefore have continuously taken various new steps to reform the
enforcement regime. For example, to increase the timeliness and quality of public disclos-
ure, from July 1 2013, and January 13 2014, respectively, the Shanghai Stock Exchange
and Shenzhen Stock Exchange began to allow all listed firms to release their semi-annual
and annual reports directly to the public without the need to seek a review by the stock ex-
change. Huang and Ke (2018) examine the consequences of this exogenous shift from pub-
lic to private enforcement. Contrary to the regulators’ intention, both disclosure timeliness
and disclosure accuracy worsen after the change. Moreover, the authors find no evidence
that the major market institutions, including external auditors, independent directors, mu-
tual fund managers, and financial analysts, significantly mitigate this trend. These results
suggest that market institutions in China are still not ready to substitute for public
enforcement.
4. Corporate Governance of SOEs

SOEs are some of the largest and most important Chinese firms, and they have their own
unique and significant agency problem. For one thing, the state may extract resources from
SOEs to satisfy state objectives (Shleifer and Vishny, 1998, call this the government’s
“grabbing hand”). This type of tunneling hinders SOEs from maximizing profits. For an-
other, the owners of SOEs are the citizens in general, which breeds the problem of owner
vacancy. Therefore, SOE managers, who control firm resources, have both incentive and
opportunities to tunnel. These unique features warrant separate discussion of SOEs.

Before the mid-2000s, the Organization Department of the Chinese Communist Party
and many different ministries, such as the ministry of finance, oversaw SOEs. Since the
mid-2000s, the State Assets Supervision and Administration Commission (SASAC) has
been tasked with overseeing SOEs on behalf of the state owner. Behind the two types of
tunneling in SOEs are four possible agency conflicts: (i) between the state (represented by
the SASAC) and minority shareholders; (ii) between SOE managers and the state (the
SASAC); (iii) between SOE managers and minority shareholders; and (iv) between the state
and the SASAC. To develop deep insight into corporate governance of SOEs in China, it is
necessary to discuss the first three conflicts. We do not discuss the last conflict, as it is not a
corporate governance issue. In the following subsection, we address the agency conflict be-
tween the state and minority shareholders, describing Chinese SOEs’ problems and reforms.
Thereafter, we discuss SOE managers, emphasizing their incentives and agency problems.
4.1 SOEs in China: Problems and Reforms

As government enterprises, SOEs have two primary tasks: (i) capital investment and pro-
duction and (ii) maintaining social stability. The main ways that SOEs provide social stabil-
ity are by maintaining excess labor and providing welfare to retired employees (there was
no well-functioning independent social security system in China before the 1990s). Bearing
the responsibility and costs of maintaining social stability diminishes SOEs’ ability to gener-
ate profit, which harms minority shareholders. Consequently, SOEs have long been notori-
ously poor performers (Lin, Cai, and Li, 1998; Bai, Lu, and Tao, 2006).
Since late 1978, SOEs have undergone several stages of reforms, including initial decen-
tralization in the 1980s; partial privatization, such as share issue privatization (SIP) in the
early 1990s; further privatization via negotiated transfer of nontradable controlling stakes
in the mid-1990s; and the split-share structure reform, initiated in 2005.
From the late 1970s and throughout the 1980s, the Chinese government promulgated a
series of policies on the reform of SOEs (for a detailed description of the reforms, see
Groves et al., 1994; Li, 1997; Lin, Cai, and Li, 1998; Sun and Tong, 2003). The earliest
policies aimed for administrative decentralization and profit retention (fangquan rangli).
Control rights over most SOEs were transferred from central government to local govern-
ments, primarily at the municipal level, and these local governments started allowing SOEs
to retain earnings for the purposes of paying bonuses to workers, supporting welfare pro-
grams, and investing in growth. However, as a result of this profit-retention system, SOEs
began to bargain with or hide profits from the government. Hence, the government carried
out two more reforms: requiring SOEs to pay taxes rather than profits to government
(ligaishui) and changing their funding sources from government grants to bank loans
(bogaidai). After these two policies failed to achieve the desired effects, a contractual man-
agement system (chengbaozhi) was put into practice, under which SOEs deliver promised
revenues to the state and retain the residuals. With both control rights and claims on resid-
uals, local governments effectively own SOEs, and therefore should have incentives to
maximize their value.
At first, the gradual reforms increased SOEs’ productivity (Li, 1997), largely because
bonus schemes and other incentives motivated workers (Groves et al., 1994). However,
during the mid-1990s, >40% of SOEs were loss making (Lin, Cai, and Li, 1998) as strong
non-SOE competitors entered the market. Non-SOEs have to obtain financing and sell out-
put in a competitive environment, so they have to be excellent performers to survive.
Meanwhile, SOEs still carry heavy policy burdens and experience soft budget constraints.

Lin and Tan (1999) argue that owing to information asymmetry, it is very difficult for the
state to determine whether the losses of SOEs are caused by policy burdens or by managers’
opportunism. This accountability problem makes the state take responsibility for all the
losses, which further induces SOEs to overinvest, because they know that the state would
always provide additional funding if they were to incur large losses.24
Many economists consider that privatization may be the most effective way to improve
SOE performance (e.g., Megginson, Nash, and Van Randenborgh, 1994; Dewenter and
Malatesta, 2001; for a survey of empirical studies on privatization, see Megginson and
Netter, 2001). Simply, the argument is that private investors have greater incentive to maxi-
mize firm value than state owners do. Because so many Chinese SOEs suffered from deteri-
orating performance during the mid-1990s, a wave of privatization took place between the
late 1990s and the mid-2000s. Rather than full privatization, China chose partial privatiza-
tion of SOEs. Specifically, private ownership and state ownership coexist in the firm after
privatization. Bai, Lu, and Tao (2006) propose a multitask theory to explain the rationale
for this partial reform policy; that is, SOEs have the dual objectives of production and so-
cial stability, whereas full privatization would increase the unemployment rate, which
might lead to social upheaval.
One important form of partial privatization in China is public offerings, or SIPs. On
December 19 1990, and July 3 1991, respectively, the Shanghai and Shenzhen Stock
Exchanges were launched—China’s most significant steps toward market-oriented reform
and privatization. Many SOEs listed on the exchanges, but as the Chinese government
wanted to retain control, the majority shares held by the state were nontradable. The SIPs
could best be labeled as “partial”, because they transferred only a small portion of SOE
ownership to public investors and did little to lessen the state’s dominant role in corporate
decision making (Liao, Liu, and Wang, 2014). Sun and Tong (2003) study the performance
24 Some studies provide evidence that SOEs continued to over-invest in later periods. Liu and Siu
(2011) study >36,000 Chinese firms during 2000–05 and find that SOEs used a much lower discount
rate to guide their investment decisions than non-SOEs. That is, SOEs overinvested. More recent-
ly, in the wake of the 2008 global financial crisis, the Chinese government ordered state-owned
banks to lend and ordered centrally controlled nonfinancial SOEs to invest. However, Cong et al.
(2019) find that during the stimulus plan years (2009–10), more bank credit flowed to firms with
lower initial average capital productivity, and around 70% of this misallocation was driven by
credit reallocation from private firms to SOEs. This is similar to Duchin and Sosyura’s (2012) finding
that political connections led to inefficient government bailouts in the USA. Furthermore, Deng
et al. (2015) show that SOEs’ primary response to the increased funding was simply to make highly
leveraged purchases of real estate, even though they had no experience in property
development.
of 634 SIPs during 1994–98. Immediately after the exchange listings, SOEs’ earnings, real
sales, and employee productivity rose, but returns on sales and earnings on sales declined.
Therefore, the authors conclude that SIPs had “only limited success”.
Sale of shares by the state controlling shareholder to private investors is also a form of
privatization. From the mid-1990s, the state began to allow the controlling nontradable
ownership stake to be sold to private investors via negotiated transfer, marking a new stage
in the privatization of SOEs. Chen et al. (2008) study 156 control transfers that took place
during 1996–2000. In sixty-two cases, control was transferred from state entities to private
entities, while in ninety-four cases, control was merely transferred from state entities to

other state entities. Given that private owners have cash flow rights, while state sharehold-
ers may not, the authors hypothesize that firm performance improves when control is trans-
ferred to private entities.25 They find evidence consistent with their hypothesis. The sources
of the improvements brought by private investors include CEO turnover, labor cost reduc-
tions, and changes in industry (private entities often merged their own private businesses
into their acquired firms, and therefore, the firm changed its primary industry).
There are many other methods of partial privatization, including direct sales to inside
managers, direct sales to outside investors, public offerings, joint ventures, leasing, and em-
ployee shareholding. Among these methods, management buyouts (MBOs) transfer the
most control rights to private owners (managers), so the government provides the least sup-
port (in the forms of subsidies, loans, and protected entry) to the buyers and imposes the
most stringent budget constraints on them. For other privatization methods, the govern-
ment tends to retain its influence in key corporate decisions. Surveying about 3,000 firms in
more than 200 Chinese cities, Gan, Guo, and Xu (2018) study choice of privatization
method and its outcomes. They find that cities with the least pressure to maintain excess
labor and with strong fiscal capacity are more likely to choose MBOs. The new private
owners restructure their firms by turning over management teams, strengthening manager
incentives through new compensation policies, establishing boards of directors, and intro-
ducing international accounting standards and independent auditing. As a result, the per-
formance of MBO firms (operating profits over assets and operating profits over the
number of employees) significantly improves after their privatization. Other privatization
methods do not yield statistically detectable improvement in firm performance.
The split-share structure reform initiated in 2005, which is thought to be the second
most important privatization, further diluted the state-owned shares in listed SOEs. Li et al.
(2011) document that average compensation from NTS holders amounted to a 30% in-
crease in the number of shares held by TS holders. Thus, the shares held by the state con-
trolling shareholder were diluted by the reform. Liao, Liu, and Wang (2014) find that
SOEs’ performance (output and profit) increased substantially after the reform because the
interest of government agents became better aligned with the interest of public investors.
They find that privatization-led improvements to post-reform SOE performance correlate
positively with government agents’ support (asset injection) to SOEs and financing
opportunities.
25 Chen et al. (2008) use many variables to measure performance, such as operating ROA, ratio of
operating cash flows to assets, return on sales, asset turnover, ratio of cost to sales, ratio of cap-
ital expenditure to fixed assets, employment, sales per employee, assets per employee, and sales
growth.
However, SOEs may be reluctant to be privatized. In China, the state can provide subsi-
dies, favorable tax treatment, industrial license approvals, and loans—what Shleifer and
Vishny (1998) call the government’s “helping hand”. Therefore, when firms lose their con-
nection to the government, they may find it difficult to generate sustainable profit. Offering
strong evidence for this view, Calomiris, Fisman, and Wang (2010) study a surprise an-
nouncement on July 24 2001, when four partially privatized SOEs announced that their
state shares would be sold in the A-share stock market. Because these sales could dilute the
value of A-shares, the authors study the announcement effect by considering B-share
returns. The China B-share index declined by 10.5% during a 3-day window surrounding

the announcement. That is, shareholders feared the loss of the state’s helping hand. On
June 23 2002, the SOEs suddenly canceled their plans to sell their state shares, and the B-
share index increased by 12.7% during the 3-day window surrounding the announcement.
Cheung, Rau, and Stouraitis (2010) study RPTs between partially state-owned publicly
listed firms and their wholly state-owned controlling shareholders during 2001–02. They
find that minority shareholders benefit from RPTs with central government shareholders.
Overall, despite undergoing a series of reforms, including partial privatization, SOEs
continue to underperform, especially compared to non-SOEs. For example, in 2015, the
median ROAs of listed SOEs and non-SOEs were 2.2 and 3.5%, respectively (Jiang, Jiang,
and Kim, 2017). This difference is economically large. Note that the underperformance of
SOEs is not mainly the result of expropriation by the state controlling shareholder because
the state does not have a strong incentive to tunnel (Jiang and Kim, 2015). Although the
state’s objective of maintaining social stability sometimes departs from value maximization
and may harm the interests of minority shareholders, in many cases, SOEs enjoy a variety
of compensating benefits, such as preferential bank loans and more government subsidies
(Lin and Tan, 1999; Gan, Guo, and Xu, 2018). Thus, on balance, the conflict of interest be-
tween the state and minority shareholders is far less detrimental to SOEs than are the
agency problems surrounding SOE managers.
4.2 SOE Managers: Problems, Incentives, and Monitoring

It is important to clarify who manages Chinese SOEs. The answer is not obvious. SOE
chairs are appointed by the state, and they are explicitly tasked with running the firm.
Therefore, research about managers in SOEs should place greater emphasis on the board
chair than the CEO. Many SOE chairs give themselves the CEO title. Even when the chair
is not the CEO, she/he is still the controller. Hence, in this article, we use the expressions
“SOE managers” and “SOE chairs” interchangeably.
Agency problems involving SOE managers can be categorized into two types. First,
owing to the Chinese government’s unique promotion system for SOE executives, SOE
managers prioritize the interests of the state controlling shareholder above those of minor-
ity shareholders, thereby sometimes benefiting the former and harming the latter. In other
words, this type of agency problem can trigger conflicts between SOE managers and minor-
ity shareholders but not between SOE managers and the state controlling shareholder.
Overinvestment (Liu and Siu, 2011; Deng et al., 2015; Cong et al., 2019) and higher tax
payments (Bradshaw, Liao, and Ma, 2019) by SOEs are telling examples.
Second, because most SOE managers do not own many or any shares in their firms
(Jiang and Kim, 2015), they may have incentives to use their control to serve their own
interests, to the detriment of both state controlling shareholders and minority
shareholders—behavior akin to the vertical principal–agent problem common in Western

countries. SOE managers may be tempted to expropriate wealth from their firms as the
state owner does not actively oversee day-to-day operations. For example, during partial
privatization, SOE managers may have an incentive to manage earnings to drive down the
price of shares sold to private investors (Shleifer and Vishny, 1992, 1993), because underva-
luing the firm’s assets makes it easier for managers to extract private rents later. Fisman
and Wang (2015) study such corruption during negotiated transfers of NTSs in Chinese
partially privatized SOEs. The study focuses on transfers in which the underlying seller
(owner of the listed firm’s NTSs) is an SOE but disguises itself as a private firm. Since sales

by private firms face less regulatory scrutiny, SOE managers, who can dispose of state
assets but do not bear the costs of low transfer price, then underprice the transfer in ex-
change for side payments or sell the assets to friends or family. The authors find that trans-
fers by these “disguised” sellers are discounted by 5–7 percentage points more than
transfers by SOE sellers that have honestly represented their ownership. Moreover, these
discounted and disguised transfers are followed by increases in insider tunneling (RPTs)
and not associated with improved profitability (ROA). The SOE managers eventually harm
both the state and minority shareholders.
Resolving the agency conflict between state controlling shareholders and SOE managers
differs from resolving the agency conflict between minority shareholders and SOE manag-
ers. Minority shareholders, having little power to exert effective corporate governance over
SOE managers, must rely on strong laws and regulations to protect their interests and rights
(see Section 3). However, the state controlling shareholder can set incentives for, give
rewards to, and exercise supervision of SOE managers.
One common way to align managers’ interests with shareholders’ interests is to tie pay
to performance; many studies on US firms find that CEO compensation is positively corre-
lated with firm performance (e.g., Edmans, Gabaix, and Jenter, 2017). However, in China,
SOE managers are not incentivized by pay. Ke, Rui, and Yu (2012) study manager pay at
state-controlled A-share, H-share, and Red Chip firms. A-share (H-share) firms are incor-
porated in China and listed on the Chinese (HK) stock market. Red Chip firms are incorpo-
rated outside of mainland China and listed on the HK stock market. As we explain briefly
in Section 3, investor protection is stronger in HK than in mainland China. Ke, Rui, and Yu
(2012) find little (some) manager pay-for-performance sensitivity for A-share and H-share
(Red Chip) firms—and no sensitivity of manager turnover to performance for any of these
state-controlled firms. That is, Chinese SOE managers are not paid much more for good
performance, even if the SOE is listed in a stock market with strong investor protection,
nor are they fired for poor performance.
What about other forms of Western-style managerial incentive compensation, like stock
and stock options? Chen, Guan, and Ke (2013) study executive stock option grants to SOE
managers of state-controlled Red Chip firms. Given that SOE managers are not incentivized
by pay (Ke, Rui, and Yu, 2012), one might ask why these options are granted in the first
place. Chen, Guan, and Ke (2013) find that large foreign investors in HK pressure these
firms to adopt executive stock options. However, once the options become vested and are
in the money, the SOE managers do not exercise them. The authors find no correlation be-
tween option grants and subsequent firm performance.
Instead, managers’ main incentive is political promotion. First, in China, whose govern-
ment dominates the economy, high political ranking can bring huge benefits, such as privi-
leges, perks, and social status. Second, as many SOE managers are government bureaucrats
with training and experience only in the state sector, they have almost no outside opportu-
nities (Chen, Guan, and Ke, 2013). Thus, the incentive for doing a good job as a SOE man-
ager is to get promoted to a high-level government position (Jiang and Kim, 2015). Cao
et al. (2019) study the relationship between political promotion and firm performance of
Chinese SOEs during 2005–11. They find that the likelihood of an SOE manager’s receiving
a political promotion increases with firm performance. Furthermore, manager pay-for-
performance sensitivity is higher when the SOE manager has a lower likelihood of receiving
a political promotion—that is, incentives for political promotion substitute for explicit
compensation incentives. This is similar to Gibbons and Murphy’s (1992) finding of career

concerns substituting for compensation incentives in the USA.
However, the motivation of a manager’s political promotion may harm minority share-
holders, whose interests sometimes run counter to those of the state. Bradshaw, Liao, and
Ma (2019) find that SOEs exhibit less tax avoidance than non-SOEs (at the expense of mi-
nority shareholders), and that SOE tax rates are positively associated with the promotion
frequencies of SOE managers. That is, promising SOE managers political promotion if they
meet state objectives may only exacerbate the agency problem.
If the promise of political promotions incentivizes SOE managers to enhance firm per-
formance, can minority shareholders rely on the government to evaluate SOE managers ef-
fectively? Since 2004, the SASAC has been charged with appointing and evaluating SOE
managers. If it monitors effectively, then all shareholders will benefit. However, recent re-
search raises doubt about the SASAC’s ability to evaluate SOE managers objectively, accur-
ately, and effectively. Du, Tang, and Young (2012) study the SASAC’s performance
evaluation of sixty-three SOEs during 2005–07. They find that SOE managers receive
higher evaluation scores, ratings, and ex-post score adjustments when managers have polit-
ical connections, the firm is geographically near the central SASAC office, the SOE fulfills
state objectives, and/or the SOE has a high political rank.26
In particular, subjectivity in the SASAC’s appraisal process manifests in its discretionary
adjustment of the appraisal criteria. For example, in 2010, the SASAC replaced ROE with
economic value added (EVA) as one of the measures used in the formula to compute initial
performance scores for SOEs. Although the intention was to improve capital efficiency, this
change opened the SASAC to allegations of manipulation. Du et al. (2018) study the per-
formance evaluation of eighty-two SOEs during 2007–12. They find that when EVA is un-
favorable but ROE is favorable, the SASAC shifts more weight back to ROE from EVA.
The authors argue that the SASAC makes these adjustments in the interest of fairness, and
perhaps partially because its members do not understand the importance of what EVA cap-
tures. However, tellingly, these adjustments are more pronounced for SOEs with political
connections and SOEs located geographically near the central SASAC office.
5. CSR in China
Above, our central concern has been outside investors. However, many people believe that
companies have a responsibility to all their stakeholders, including society at large, not only
26 Chinese SOEs are classified by administrative rank. Du, Tang, and Young (2012) use two criteria to
code the political rank of individual SOEs: whether an SOE is a “vice-ministerial level” firm and
whether the Organization Department of the CPC Central Committee assigns its CEO.
shareholders. Is CSR important in China? If so, then does it improve shareholder value, and
what are the factors leading to improved CSR?
Since managers, shareholders, and creditors do not suffer directly from negative exter-
nalities created by firms (e.g., environmental damage and poor labor conditions), it is usual-
ly ordinary citizens who call on government to regulate or tax such behavior. Is CSR
important to ordinary Chinese citizens? Given that China is still a developing economy,
they may not currently be in a position to make social concerns a high priority. Bartling,
Weber, and Yao (2014) experimented using college students in Zurich, Switzerland, and
Shanghai, China. Almost half of the Zurich students were willing to purchase a high-priced

good as long as the firm’s production process did not damage a third party. In other words,
Zurich students were willing to share the firm’s CSR cost. Among Shanghai students, only
16% were willing to buy the high-priced product. One reason for the difference may be dif-
ferent perceptions about fairness. However, to conclude from this result that Chinese peo-
ple do not care about social concerns would be premature. Chinese consumers may simply
feel that either the firm or the government should bear the costs and burden of social
responsibility.
When firms embrace social responsibility on their own, it is always unclear whether
they are truly interested in making a social impact or whether they are merely concerned
with their reputations and long-run profits. Skeptics may argue that firms engage in CSR
only when it is profitable to do so. Lins, Servaes, and Tamayo (2017) find that high-CSR
firms were much more profitable than low-CSR firms during the 2008–09 financial crisis,
when trust in corporations dropped. Edmans (2011) finds that firms with satisfied employ-
ees enjoy long-run stock outperformance. However, given that CSR activities are not cost-
less, whether CSR leads to profitability and higher firm values has been a subject of
longstanding debate (e.g., McWilliams and Siegel, 2000; Servaes and Tamayo, 2013).
Does CSR improve shareholder value in China? On the one hand, engaging in CSR may
harm the interest of shareholders, since CSR is driven primarily by political and social fac-
tors rather than economic considerations. Chen, Hung, and Wang (2018) find that firms
affected by China’s mandatory CSR disclosure regulation in 2008 increased CSR spending
but decreased profitability, as reflected in a decrease in ROA, ROE, sales revenue, and cap-
ital expenditure and an increase in operating costs and impairment charges. On the other
hand, CSR may create value for shareholders by nurturing political connections. Since gov-
ernment officials are evaluated by measures of regional economic development and social
welfare, listed firms might enjoy more political privileges if they were to help these officials
meet such requirements. Lin et al. (2015) find that firms that increase CSR (proxied by cor-
porate charity donation) to build new political connections after mayoral transitions are
subsequently more likely to receive government subsidies than firms that do not. The donat-
ing firms also have better future performance as measured by ROE, ROA, and return on
sales.
These findings shed light on the role that the Chinese government plays in improving
CSR. In fact, the government is likely the most important promoter of CSR in China. Since
public concern regarding environmental issues has grown rapidly in China along with the
growth of its manufacturing sector and economy, the government has adopted a series of
actions to improve CSR. The January 2002 Code of Corporate Governance for Listed
Companies of China,27 for example, includes a specific chapter concerning CSR, called
27 http://www.csrc.gov.cn/pub/csrc_en/newsfacts/release/200708/t20070810_69223.html
“Stakeholders”, which is renamed “Stakeholders, environmental protection and social

responsibility” in a September 2018 revision.28 According to the 2006 General Meeting of
the Central Commission of the Chinese Communist Party, a key goal of Chinese socialism
is “building a harmonious society”. Meanwhile, the Company Law of the People’s
Republic of China revised in 2005 has the following general provision: “In its operational
activities, a company shall abide by laws and administrative regulations, observe social
morals and commercial ethics, persist in honesty and good faith, accept supervision by the
government and the public, and assume social responsibility”.29
For now, these regulations launched by the government have been shown to lead to

improved CSR (Chen, Hung, and Wang, 2018; Zhang, Chen, and Guo, 2018). As Chen,
Hung, and Wang (2018) note, the government first mandated CSR disclosure by a subset of
listed firms in 2008. The authors find that this disclosure requirement led to a significant
decrease in subsequent pollution by affected firms, indicating an increase in spending on
CSR activities. In addition, supervision from the central government enhances the environ-
mental enforcement of local government, which can be weak because of the decentraliza-
tion of environmental regulation, as part of the state power delegation mentioned in
Section 4. To solve this problem, in 2007, the central government launched a National
Specially Monitored Firms program, which placed industrial polluters under special moni-
toring at the national level. Zhang, Chen, and Guo (2018) find that this direct central
supervision reduced industrial water pollution by at least 27%. The authors suggest that
central government supervision and local government enforcement are necessarily comple-
mentary, and lead to a better outcome overall.
China will continue to emphasize CSR as its economy continues to grow in both size
and importance, especially as air quality, food safety, human rights, and corporate miscon-
duct come under the spotlight. Nevertheless, CSR activities are costly in China (Chen,
Hung, and Wang, 2018), because Chinese consumers currently seem unwilling to share the
cost of CSR (Bartling, Weber, and Yao, 2014) and because some firms engage in CSR mere-
ly to nurture political connections (Lin et al., 2015). Thus, it appears that China must con-
tinue, at least for now, to rely on the government to promote CSR. At this stage, the
government seems to be somewhat effective at doing so (Chen, Hung, and Wang, 2018;
Zhang, Chen, and Guo, 2018). However, there is a long way to go for firms to be truly
interested in CSR. As Edmans (2011) points out, it may take time for shareholders to realize
the benefits of CSR. We believe that shareholders in China will gradually recognize the im-
portance of CSR and invest more in it.
6. Conclusion and Directions for Future Research

China’s corporate governance problem stems from its concentrated ownership structure
and imperfect law and regulations. Given this typical ownership structure, the main agency
problem in China is the conflict of interest between the controlling shareholder and minor-
ity shareholders. The controlling shareholder holds power through control of the board and
managers, and many monitoring mechanisms that are arguably effective in developed coun-
tries do not work well in China. Thus, law and institutions are particularly important. In re-
cent decades, legal protection of investors has improved a lot. For SOEs, corporate
28 http://www.csrc.gov.cn/pub/csrc_en/laws/rfdm/DepartmentRules/201904/P020190415336431477120.pdf
29 http://english.sse.com.cn/laws/framework/c/3978492.pdf
governance is more complicated, since they face conflict of interest between the state and
listed firms, as well as agency problems involving SOE managers. As to CSR, government is
likely the most important promoter in China.
While research to date has provided much insight on corporate governance in China,
there are still many potential topics for future research, especially as China continues to
transition from a control economy to a market economy, and as corporate governance in
China continues to evolve. Here, we provide a brief agenda.
First, the effect of the political system should be emphasized. Corporate governance
mechanisms that prove effective in capitalist countries may differ from those in China. The

political system of China is typically socialist, and under the new political leadership in
China, SOEs have come under tighter control by the state. The new leadership’s massive
anticorruption campaign raises the question of whether a less corrupt government will lead
to less corrupt SOEs. Shleifer and Vishny (1997) point out that political pressure is just as
important as economic pressures in shaping corporate governance systems. Roe (2003)
argues that politics played a greater role than economic efficiency did in shaping US corpor-
ate law. What effects will the current political leadership’s objectives have on corporate
governance in China? Will the mechanisms behind these effects be different from those in
Western countries? Answering these questions might help build a new corporate govern-
ance model, say a Chinese model, alongside the current Anglo-American and German–
Japanese models.
Second, the heterogeneity of controlling shareholders should be taken seriously. SOEs
account for around two-thirds of market capitalization in China, and they are very different
from non-SOEs in many respects, including primary tasks (Lin, Cai, and Li, 1998; Bai, Lu,
and Tao, 2006), financing and investment (Liu and Siu, 2011), and performance (Jiang,
Jiang, and Kim, 2017). Thus, corporate governance in SOEs is largely different from that in
non-SOEs, as we explain in Section 4. However, many studies have simply included a
dummy in their regression models to designate SOEs versus non-SOEs. A more appropriate
strategy is to separate these two types of firms as sub-samples when conducting analyses.
For example, to study the effect of political connections, we should focus on non-SOEs
since all SOEs are naturally politically connected; and to study the effect of government
intervention, we should recognize that the mechanisms used in SOEs and non-SOEs are
completely different because the government is the controlling shareholder of SOEs while
in non-SOEs it is an outsider. Thus, separate analyses on these two types of firms could pro-
vide a clearer picture of corporate governance in China.
Third, studies on institutional investors need to consider investor heterogeneity. Firth,
Lin, and Zou (2010) find that mutual funds are ineffective monitors in China, but the Wind
database identifies eleven other types of institutional investors, including private equity, in-
surance companies, trust companies, financial companies, nonfinancial listed companies,
state asset management, and so on.30 Do any monitor firms? Using a cost–benefit frame-
work and US data, Chen, Harford, and Li (2007) find that independent institutions with
long-term investments do monitor. For China, we do not even know which institutions are
longer term investors, let alone whether and how they monitor. Perhaps it is difficult for in-
stitutional investors to influence firms in China today, but as they become larger, research
should revisit their investing and monitoring behavior (e.g., collaboration among several
large institutional investors to monitor firms). Moreover, although no single institutional
30 Wind’s website (in English): www.wind.com.cn/en/about.html

investor is permitted to own >10% of a listed firm’s shares, the shares institutional invest-
ors hold allow them to place directors on the board, and this is currently happening, as
shares held by controlling shareholders gradually decrease. Exit is another important way
for shareholders to monitor in addition to voice, and institutional investors may govern
through exit. We need to know more about these questions to deepen understanding of the
role of institutional investors.
Fourth, we need to learn more about the role that legal protection plays in corporate
governance. China has long been criticized for its weak investor protection (Allen, Qian,
and Qian, 2005), though legal protection is one of the most important solutions for agency

problems in China. However, in recent years, law, institutions, and regulations have
improved significantly, and have largely increased the costs of violation. While previous
studies provide evidence of the effective role that some specific regulations play in corporate
governance (Chen, Ke, and Yang, 2013; Lennox, Wu, and Zhang, 2014; Berkowitz, Lin,
and Ma, 2015), a broader question is how corporate governance in China is influenced or
shaped by the costs of violation. Papers on law and finance rarely discuss punishment,
which seems like a glaring omission. A time-series study, or a cross-province study, or even
a cross-country study, in which punishment for white-collar crimes vary may yield insight
into whether a “big stick” can deter inside controllers from engaging in self-serving behav-
ior to the detriment of outside investors.
Fifth, it is important to examine the interaction between corporate governance and
stock markets. China is now the second largest stock market and has the highest fraction of
the world’s largest 500 companies31; thus, it provides a good opportunity to study how cor-
porate governance affects and is affected by stock markets. For example, the increased li-
quidity on the stock market after the split-share structure reform strengthens the links
between real and stock market performance, improves real corporate activities, and eases
firms’ external equity finance (Campello, Ribas, and Wang, 2014; Liao, Liu, and Wang,
2014). Conversely, corporate ownership structure and political connections may influence
the amount of firm-specific real information incorporated in stock prices (Gul, Kim, and
Qiu, 2010; Piotroski, Wong, and Zhang, 2015). Many other interesting subjects are still
under debate. For example, will investors price SOEs and non-SOEs differently? Will
agency problems be alleviated by other stock market reforms, like the recent commence-
ment of short selling? How does ownership structure dynamically interact with stock li-
quidity? Further research can utilize the unique features of corporate governance and stock
markets in China.
Sixth, the market for corporate control can be explored further. While this market in
China has been quite dormant given the concentrated ownership, M&A volume in China
has been growing over time, as Chinese firms are increasingly acquiring nonlisted firms and
foreign firms. Jiang, Jiang, and Kim (2017) report that recently, each year, more than one-
third of listed firms have acquired another firm. While these acquired firms are not
Chinese-listed firms, could this rise in M&A activity in general, and foreign acquisitions in
particular, eventually change the governance practices of the acquiring firms? Might these
31 In 2019, there were 129 Chinese firms and 121 US firms in the list. https://enapp.chinadaily.com.cn/
a/201907/24/AP5d376510a3106b83cdbf8a27.html
changes eventually spill over to other listed firms? More importantly, would underperform-
ance increase the likelihood of takeover? Do takeovers create value, and how does corpor-
ate governance affect the returns to takeovers? Sophisticated analyses of these takeovers
could at least provide some insights for the market for corporate control in China.
Seventh, more research is needed to understand the role of banks. In China, banks are
the dominant providers of capital to firms (Jiang, Jiang, and Kim, 2017) and therefore have
the potential to be effective monitors. Surprisingly, little research has been conducted on
the governance role of banks in China. Bailey, Huang, and Yang (2011) find that the
Chinese banking system is subject to political goals, so that poorly performing firms are

likely to obtain bank loans and be kept afloat. However, their findings are based on only
285 publicly announced bank loans between 1999 and 2004—before the transition from
wholly state owned to shareholder owned corporations and the public listing of the Big 4
state banks from 2004 to 2010; before the loosening of many restrictions on foreign banks,
including the full opening to foreign banks’ involvement in the RMB business in 2006; and
before the introduction of nonstate-owned banks in 2014. Given this dramatic evolution of
the Chinese banking system, the corporate governance role of state-owned, private-owned,
and foreign banks requires sophisticated analysis. Moreover, shadow banking activities in
China have grown tremendously in recent years.32 The fact that most lending firms in the
shadow banking system are not financial firms raises not only the question of whether they
can properly monitor borrowers but also concern about the diminution of the banks’ role
as potential monitors. While the shadow banking system continues to flourish, more studies
are needed on the relationship between the official banking system and the shadow banking
system, and the role of law in both.
Eighth, the corporate governance of unlisted firms needs to be explored. Even though
there are more than 3,000 listed firms in China, the listed sector is merely the tip of the ice-
berg. There were more than 30 million registered corporations at the end of 2018, accord-
ing to statistics from the China State Administration for Market Regulations. Do unlisted
firms suffer more or less than listed ones do from agency costs? What do their boards look
like, and are they effective? Where does their debt come from, and do creditors actively and
effectively monitor them? Where does their equity come from, and do these equity
providers actively and effectively monitor? Jiang, Jiang, and Kim (2017) state that venture
capitalists and private equity investors are becoming important investors in young, fast-
growing firms in China, but we do not know what roles they play. Do they actively moni-
tor, or are they just passive investors? What rules and regulations pertain to unlisted firms,
who are the enforcers, and are they effective? It is possible that listed firms can learn lessons
from unlisted firms, and vice versa.
Ninth, there should be more attention paid to changes in law and regulations, and to ex-
ogenous policy shocks. While China has been developing rapidly during the past three deca-
des, changes in law and regulations and exogenous policy shocks provide opportunities for
32 A major feature of shadow banking is the entrusted loan, in which a privileged nonbank firm (such
as a large industrial SOE) with access to cheap capital lends to a less privileged nonbank firm
(such as a small or medium sized non-SOE). A bank plays the role of a servicing agent, in ex-
change for a fee, but does not bear the investment risk. See Allen et al. (2019) for an overview of
China’s shadow banking system.
researchers to address endogeneity problems. Already, many studies have exploited China’s
privatizations of SOEs (Fang, Lerner, and Wu, 2017; Bradshaw, Liao, and Ma, 2019)
and split-share structure reform (Chen et al., 2012; Campello, Ribas, and Wang, 2014) as
identification methods. While most studies in corporate governance suffer from serious
endogeneity issues and many early studies do not take these issues seriously, new opportu-
nities for identification deserve more attention.
Last, there should be more attention to how corporate governance has contributed posi-
tively to the prosperity of Chinese corporations and the Chinese economy in the past several
decades. Some studies have found that improvement of law and regulations has positively

affected Chinese corporations; what about other factors? For example, RPTs can be used to
prop up a company facing negative industry earnings shocks (Jian and Wong, 2010), which
suggests that under some circumstances, controlling shareholders could be problem-solvers
rather than problem makers. Many studies criticize guanxi (informal social networks and
personal connections) for the costs it imposes on firms, especially on minority shareholders
(Berkman, Cole, and Fu, 2010; Piotroski and Zhang, 2014; Guan et al., 2016; Brockman,
et al., 2019). However, it also improves efficiency—for example, by reducing information
asymmetry and thereby reducing adverse selection in the appointment of CEOs or other
top managers. Such positive experiences could be particularly instructive for other emerging
markets.
Overall, a great deal of literature has studied corporate governance in China, and more
and more papers have been accepted by top journals. However, many fields are still in their
infancy, and many important and interesting subjects are still worth investigating as the
real economy develops, data become available, and new opportunities open up for identifi-
cation strategy. We hope that this survey attracts more interest on this topic, and stimulates
more researchers to study corporate governance in China.
Appendix A: Identification Strategies

This appendix presents the identification strategies used to address endogeneity concerns in
the papers (concerning corporate governance in China) we discuss in this survey. We list
the strategies and show a tick in the corresponding columns if the authors explicitly state
that they use the relevant method to address endogeneity issues or to identify the causal re-
lationship. Since some of the studies do not mention how they deal with endogeneity,
we do not report them in this appendix. Column IV indicates use of an instrumental
variable. Column DID indicates use of the difference-in-differences method. Column
RDD indicates use of a regression discontinuity design. Column FE indicates use of fixed
effects. Column MM indicates use of the matching method. Column ES indicates use
of an event study. Column Others indicates other strategies, including adding explanatory
variables; using an alternative proxy, an alternative regression model, subsample analysis,
or a placebo test; or giving reasons why there are no endogeneity concerns. Column
Description presents detailed information of the methods used, including the specific instru-
mental variable(s) in the IV approach, the exogenous treatment in the DID methods, the
cut-off in the RDD design, the level(s) of fixed effect in the FE approach, the specific match-
ing method in the MM methods, and the event in the ES approach. We list the papers
alphabetically.
764
Paper Description IV DID RDD FE MM ES Others
Bai, Lu, and Tao (2006) DID: Privatization (single difference) – 冑 – 冑 – – –

Berkman, Cole, and Fu (2010) ES: Three regulations designed to improve protection – – – – – 冑 –
for minority shareholders
Bradshaw, Liao, and Ma (2019) (1) IV: CPC Meeting, Split share structure reform, regu- 冑冑 – – 冑 – 冑
lated industries; (2) DID: Privatization (industry
matched); (3) MM: PSM
Brockman and Chung (2003) MM: PSM – – – – 冑 – –
Brockman et al. (2019) – – – – – – 冑
Cai, Jiang, and Kang (2019) (1) IV: Severe weather; (2) FE: Firm/proposal level; (3) 冑 – – 冑冑 – –
MM: PSM
Calomiris, Fisman, and Wang (2010) ES: Announcement of proposed sales of government- – – – – – 冑冑
owned shares and cancellation of this plan 11 months
later
Campello, Ribas, and Wang (2014) Generalized PSM matched DID: Split share structure – 冑 – – 冑 – –
reform
Cao et al. (2019) IV: Central government turnover, central state 冑 – – – – – 冑
ownership
Chen et al. (2012) DID: Split share structure reform – 冑 – – – – 冑
Chen et al. (2008) DID: Changes of ownership (single difference) – 冑 – – – – –
Chen, Hung, and Wang (2018) PSM matched DID: Mandatory CSR reporting – 冑 – – 冑 – –
Chen, Ke, and Yang (2013) DID: Segmented voting regulation (single difference) – 冑 – – – – 冑
Cong et al. (2019) – – – – – – 冑
Ding et al. (2020) ES: Announcement of inspections of provincial govern- – – – – – 冑 –
ments by the CCDI
Fan, Wong, and Zhang (2007) – – – – – – 冑
Fang, Lerner, and Wu (2017) 冑冑 – – 冑 – 冑
(continued)
F. Jiang and K. A. Kim

. Continued
(1) IV: The number of Christian colleges, British settle-

ment; (2) PSM matched DID: The privatization of
SOEs
Fisman and Wang (2015) – – – – – – 冑
Gan, Guo, and Xu (2018) (1) IV: % SOE employment, fiscal revenue/GDP, gov- 冑冑 – 冑 – – 冑
ernment allocation of land, loan guarantees; (2) DID:
Change of control right; (3) FE: City-by-year level
Gao et al. (2019) DID: 2009 partial bank entry deregulation – – – – – –
Corporate Governance in China
冑
Giannetti et al. (2017) DID: Launch of the Chinese anti-corruption campaign – 冑 – – – – 冑
in 2012
Giannetti, Liao, and Yu (2015) (1) IV: Staggered provincial policies to attract highly 冑 – – 冑 – – 冑
skilled emigrants; (2) FE: Firm/province level
Groves et al. (1994) (1) IV: 1 or 2-year lagged bonus payments and contract 冑 – – 冑 – – 冑
workers; (2) FE: Firm level
Guan et al. (2016) (1) IV: Sum of percentile ranks of a firm’s executive 冑 – – 冑冑 – 冑
team, where the rank for each executive is based on
the number of managers and auditors graduating
from his/her school; (2) FE: Firm level; (3) MM: PSM
Gul, Kim, and Qiu (2010) IV: Likelihood of Big 4 auditor choice 冑 – – – – – –
Hope, Wu, and Zhao (2017) (1) DID: Split share structure reform; (2) FE: Firm/year/ – 冑 – 冑冑 – –
industry level; (3) MM: PSM
Hope, Yue, and Zhong (2019) (1) DID: Rule 18 issued by the CPC; (2) MM: PSM; (3) – 冑 – 冑冑 – 冑
FE: Firm/year level
Huang and Ke (2018) DID: Regulatory reform (single difference) – 冑 – – – – –
Huyghebaert and Xu (2016) DID: Investment banks become fully responsible for fix- – 冑 – – – – –
ing IPO offer prices
(continued)
765

. Continued
766
Jia, Shi, and Wang (2013) FE: Firm/year level – – – 冑 – – –

Jiang et al. (2017) (1) DID: Ownership structure transitions; (2) FE: Firm/ – 冑 – 冑冑 – –
year/industry level; (3) MM: PSM
Jiang, Wan, and Zhao (2016) FE: Proposal level – – – 冑 – – –
Ke, Lennox, and Xin (2015) MM: PSM – – – – 冑 – 冑
Ke, Rui, and Yu (2012) – – – – – – – 冑
Lennox, Wu, and Zhang (2014) – – – – – – – 冑
Li (1997) IV: Changes in quota allocations, market price inflation 冑 – – – – – –
in the intermediate inputs
Liao, Liu, and Wang (2014) DID: Split share structure reform (size and industry – 冑 – – 冑 – –
portfolio matched/size and M/B ratio portfolio
matched)
Lin et al. (2015) (1) IV: Mayor’s age; (2) DID: Turnover of mayors (sin- 冑冑 – – – – –
gle difference)
Lin et al. (2018) ES: Announcement of the “Eight-Point Policy” – – – – – 冑 –
Liu and Siu (2011) – – – – – – – 冑
Piotroski and Zhang (2014) – – – – – – – 冑
Sun and Tong (2003) – – – – – – – 冑
Wang et al. (2015) ES: IPO events of 636 non-state-controlled firms – – – – – 冑 –
You, Zhang, and Zhang (2018) IV: Hometowns of newspaper editors, introduction of 冑 – – – – – –
high-speed rail between media and firms
Yan (2019) DID: Issuance of Regulation No. 18 (Rule 18) 冑 – – – – – 冑
Zhang, Chen, and Guo (2018) RDD: The 65th percentile of firms ranked by their – – 冑 – – – –
amount of water pollutants discharged in 2005
F. Jiang and K. A. Kim

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Review of Finance, 2020, 733–772

Corporate Governance in China: A Survey*

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JEL classification: G30, G34, G38

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transition from a control economy to a market economy, and as corporate governance in

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2. Controlling Shareholders and the Agency Problem in China

2.1 Conflict of Interest between Controlling and Minority Shareholders

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2.2 Institutional Sources of Agency Problems in China

2.2.a. Poor liquidity of the controlling shareholder’s share

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2.2.b. Pyramid ownership structures

2.2.c. Political connections

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2.3 The Limited Roles of Possible Monitors

2.3.a. Boards as internal monitors

10 For details about the Eight-point Policy, see http://cpcchina.chinadaily.com.cn/2012-12/05/content_

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2.3.b. Institutional investors as external monitors

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2.3.c. Information intermediaries as external monitors

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2.4 The Bright Side of Controlling Shareholders

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3. Law and Institutions

3.1 The Importance of Legal Protection

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expropriation to be low and the ease/reliability of enforcement to be high, they reinvest

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3.2 The Improvement of Legal Protection

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23 For regulations on minority shareholder protection, refer to (in Chinese): http://www.csrc.gov.cn/

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4. Corporate Governance of SOEs

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4.1 SOEs in China: Problems and Reforms

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4.2 SOE Managers: Problems, Incentives, and Monitoring

shareholders—behavior akin to the vertical principal–agent problem common in Western

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“Stakeholders”, which is renamed “Stakeholders, environmental protection and social

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6. Conclusion and Directions for Future Research

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30 Wind’s website (in English): www.wind.com.cn/en/about.html

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