Does economic policy uncertainty matter to corporate default probability? findings from theoretic analyses and China’s listed firms

Abstract

This paper conducts a theoretical–empirical study to investigate the nexus between economic policy uncertainty (EPU) and corporate default probability (CDP) and documents a significant and positive impact of EPU on CDP, which is validated through rigorous robustness tests and local project estimations. The study also reports that the increasing term structure of bond maturity aggravates the impact of EPU on CDP systematically. Our findings pronounce that EPU brings about the erosion of firm financing capacity, management quality deterioration, lowered stock liquidity, and corporate sentimental depression, providing an effective conducting mechanism to breed an increase in CDP. Additionally, state ownership, high technology, and internationalization curtail the CDP-increasing effect of EPU, and the same in the manufacturing sector. Whereas, this effect is intensified in non-state-owned, low-tech, service, and non-internationalized enterprises. We also highlight that EPU can robustly predict in the subsequent 2 years. This study suggests that the corporate financial position well reflects EPU and the relevant stakeholders, both governments and firms, may improve financial risk management by considering EPU and the attribute of its impacting CDP.