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Small Business Economics

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30-03-2023

R&D responses to labor cost shock in China: does firm size matter?

Author: Chih-Hai Yang

Published in: Small Business Economics | Issue 4/2023

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Abstract

This study examines how a labor cost shock affects firms’ research and development (R&D) activity, focusing on the heterogeneous effect across firm size. Using the difference-in-differences approach, we investigate the R&D effect of Labor Contract Law (LCL) on firms in China. Empirical evidence reveals that, when considering the law binding issue, strict enforcement of the LCL has a negative treatment effect on treated firms’ R&D expenditure, which was reduced by 3.03%–6.75% on average, but it did not affect their likelihood of engaging in R&D. Crucially, the LCL’s R&D effect varies greatly by firm size. There is a positive treatment effect for large and medium-sized firms, whereas small treated firms reduce R&D in response to the labor cost shock. These heterogeneous effects apply to R&D propensity across firm size. The potential mechanisms for mitigating the LCL’s cost impact are discussed. Robustness checks reaffirm the above findings.

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The employer contribution of endowment insurance varies in different provinces slightly. See Chen and Funke (2009) for a comprehensive introduction to the LCL.

Chapter 3 regulates dismissal law and contract termination, which also increases employers’ costs, but these rules cannot have the ex-ante incentive effect as claimed in Acharya et al. (2013).

See Chen and Yang (2019) for the development of R&D tax credit policy in China.

The accelerating trend in wage, particularly the 2004 MW reform, has negatively impacted on employment in China (Mayneris et al., 2018).

Although the wage level of R&D personnel is higher than manufacturing workers, the number of R&D staffs generally accounts for a very minor share of total employees in China’s non-high-tech industries.

The high-tech sectors include pharmaceutical manufacturing (27), machinery (35–36), transportation (37), and electronics industries (39–41). These two-digit industry codes refer to China Standard Industry Classification (CSIC) version GB/T 4754–2011.

The sample is composed of six disposable years. As mentioned previously, firm characteristics enter the R&D equation in the one-year lagged form; that is, we use the observations in 2007, 2010, and 2013 for the dependent variable and the observations in 2006, 2009, and 2012 for the independent variables. Thus, our sample contains a three-period panel data.

The precise measure is ln(RD + 1) because many firms report zero value in R&D investment as shown in Table 1.

As the LCL was strictly enforced from 2010, the R&D effect in 2008–2009 was probably attributed to the financial crisis rather than the labor regulation. The information regarding the statutory ratio of employee welfare in firms was unavailable since 2008, preventing us from precising whether every firm really implemented the requirements. We thus assume that the LCL was implemented by firms.

The information regarding the ratio of insurance provision to wage was available only in years until 2008, preventing us from using the provision rate in the estimations.

The descriptive statistics referring to large, medium, and small firms are displayed on Appendix Table 10.

This classification is because the R&D effect of the LCL is positive in large and medium firms, whereas the corresponding effect is negative in small firms, as displayed in Table 4.

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Title: R&D responses to labor cost shock in China: does firm size matter?
Author: Chih-Hai Yang
Publication date: 30-03-2023
Publisher: Springer US
Published in: Small Business Economics / Issue 4/2023
Print ISSN: 0921-898X
Electronic ISSN: 1573-0913
DOI: https://doi.org/10.1007/s11187-023-00741-x

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