Political uncertainty and cost stickiness: evidence from prefecture-city official turnover in China

Abstract

The aim of this study is to investigate the impact of local political uncertainty on the asymmetric cost behavior (i.e. cost stickiness) for listed firms in China. In this study, the authors manually collect the turnover data of prefecture-city officials as a measure of exogenous fluctuations in political uncertainty and obtain firm-level financial information from the China Stock Market Accounting Research (CSMAR) database. To perform the analysis, the authors augment the traditional cost stickiness model by including the interaction terms of the prefecture-city official turnover, and firm-level and prefecture-city level control variables. The authors find that political turnover leads to a higher degree of cost stickiness, implying that firms retain slack resources when political uncertainty is high. Moreover, the effect of political turnover on cost stickiness is more pronounced for firms residing in regions with weaker institutional environments, and firms that are privately owned and with smaller size. The authors further provide evidence that policy uncertainty and the threat of losing political connection are two underlying channels. Overall, this study documents that the local political process is an important channel that influences corporate operational decisions. This study provides the first piece of evidence on the relation between political uncertainty and cost stickiness at the local government level. Moreover, the authors propose and demonstrate two underlying channels through which political uncertainty affects firms' asymmetric cost behavior.

Keywords

• cost stickiness
• local official turnover
• political uncertainty
• ownership structure
• institutional environment