The effect of housing boom on firm leverage evidence from China

After decades of fast growth, the Chinese housing market has become twice as large as the US housing market. In this paper, we examine the effect of the housing boom on the capital structure of Chinese public-listed firms. We find a reverse U-shape relationship between the growing real estate prices and firm leverage. At a lower level of price growth, firms tend to increase leverage to exploit the appreciation of pledgeable assets from the boom. When the price growth reaches to a certain high level, the housing boom creates a positive wealth shock effect on shareholders that reduces the use of debt for their tunneling activities, given that shareholder tunneling is very predominant in China. The wealth shock effect is more dominant when the shareholders' tunneling activities are more vigorous. Moreover, the reserve U-shape relation is more pronounced for firms with more powerful controlling shareholders, and for firms with high level of fixed assets or in the manufacturing industry. The results are still robust after we address the endogeneity issue that both housing price and firm leverage could be affected by a common factor.