Does high debt ratio influence Chinese firms’ performance? A semiparametric stochastic frontier approach with zero inefficiency

The excessive debt ratio of Chinese firms has raised concerns over its impact on productive efficiency. We employ a firm-level dataset over 1998–2007 to investigate the role of debt in the firm’s production frontier and technical efficiency. The impact of debt on frontier is decomposed into a stand-alone neutral effect and indirect non-neutral effects, which alter the output elasticity of production inputs. We estimate the effects through a semiparametric smooth coefficient stochastic frontier model. We allow a nonzero probability for the firms to be fully efficient and model it as a function of debt and technical progress represented by time. We observe that an increase in debt significantly shifts firms’ frontier downward across different ownerships, regions, and industries. Foreign and private firms are more efficient, with their full efficiency probability increased by debt and technical progress. By contrast, state-owned enterprises and collective firms are much less efficient and their probability of being fully efficient does not increase with more debt. Furthermore, lower efficiency levels are concentrated in the central and western regions and in the mining and public utility industries.