How does economic policy uncertainty affect corporate Innovation?–Evidence from China listed companies

Abstract

This paper examines the effects of economic policy uncertainty (EPU) on corporate innovation in China from 2000 to 2017. The monthly EPU index for China, developed by Huang et al. (2019), is applied as the measurement of EPU. We find that EPU is positively correlated with corporate innovation in general. We further conclude that in the low EPU period before 2008, EPU induced more innovation activity, but it decreased corporate innovation in the higher EPU period after 2008. Moreover, EPU has a stronger positive effect on state-owned enterprises, lower cash flow companies and companies with fewer financial constraints. This shows that EPU affects corporate innovation mainly through cash holdings and revenue growth rate. Finally, we use different corporate innovation indicators, the US EPU index and a different estimation method for endogeneity and robustness checks. Our results shed light on the relationship between economic policy environment and corporate innovation in China as an emerging economy.