Economic functions and soft budget constraint of SOEs: evidence from China

Existing literature has extensively explored the evolution of soft budget constraints in State-Owned Enterprises (SOEs) from strategic and socio-functional perspectives. However, there is a notable dearth of studies investigating these constraints from an economic-functional standpoint. Our study bridges this gap by analysing the impact of the increasing profit remittance ratio by SOEs to the government, using the Difference-in-Differences (DID) method. We reveal several critical insights: (1) As the economic function of SOEs progressively strengthens, there is a significant increase in government subsidies to these enterprises. Specifically, a 10% increase in the profit contribution ratio leads to an 18.96% increase in government subsidies. (2) Mechanistic analysis suggests that compensatory benefits from the government are likely the primary driver of the increased subsidies received by SOEs. Empirical data indicate that mandatory profit remittances adversely affect the profitability and growth of SOEs, with more severe effects resulting in greater government subsidies. (3) The reciprocal exchange of interests between governments and SOEs may exacerbate the principal-agent dilemmas inherent in such relationships.