Bank competition and formation of zombie firms: Evidence from banking deregulation in China

Xuchao Li, Xiang Shao, Guangjun Shen and Jingxian Zou

Journal of Banking & Finance, 2025, vol. 172, issue C

Abstract: Can bank competition help to attenuate the prevalence of zombie firms? Motivated by a stylized model, this paper studies the effect of bank competition on the formation of zombie firms in two stages: the formation of distressed firms and distressed firms obtaining zombie lending. Using China's 2009 bank entry deregulation as a quasi-natural experiment, the paper finds that bank competition lowers the probability of the formation of distressed firms, while it increases the probability of distressed firms obtaining zombie lending. Overall, bank competition decreases the formation of zombie firms. In addition, the findings show that a higher ex ante proportion of bad loans and higher probability of bad loan recovery lead to a higher probability of distressed firms receiving zombie lending. Both factors encourage banks to sustain lending to distressed firms to keep them alive and to gamble that those firms may recover in the future.

Keywords: Zombie firms; Bank competition; Banking deregulation; Zombie lending (search for similar items in EconPapers)
Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jbfina:v:172:y:2025:i:c:s0378426625000111

DOI: 10.1016/j.jbankfin.2025.107390

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