Creditor protection and labor investment efficiency: Evidence from China

This paper examines how strengthened creditor protection affects the real economy in view of labor investment efficiency. Exploiting the implementation of the enterprise bankruptcy law and the property law in 2007 as quasi-exogenous shocks, we find that strengthened creditor protection can reduce the deviations of labor investment from the level justified by economic fundamentals, i.e., improve labor investment efficiency. The improvement in labor investment efficiency is largely driven by the alleviation of overinvestment in labor due to under-firing. The main results are more pronounced for non-state-owned enterprises with more intermediate layers and state-owned enterprises with fewer intermediate layers in the pyramid control chains. Our overall findings indicate that strengthening creditor protection through upgrading the legal system can improve the efficiency of human capital allocation.