Government R&D support and firms' access to external financing: funding effects, certification effects, or both?

We examine the effects of government R&D support on a firm's access to external financing, focusing on the mechanisms through which the impacts are achieved. Based on a panel dataset of Chinese manufacturing firms, we compare firms backed by government R&D subsidies with a control group of firms in their capability to access external financial resources. To address identification issues, we employ a propensity score matching approach to construct the control group and estimate the effects of government R&D subsidies in a difference-in-difference manner. Above all, we find significant ex-post effects of such subsidies on firms' access to external financing after addressing the identification issues. We investigate two mechanisms, namely, direct funding effects and certification effects. In particular, we decompose direct funding effects by identifying the equity effect and the prototyping effect and decompose certification effects by separating quality certification from the certification of the political capital of entrepreneurial firms. We find that both direct funding and certification mechanisms are at play. Specifically, government R&D subsidies have significant and positive effects on innovation outputs but not on the financial returns of firms, supporting the prototyping effects of the direct funding of government subsidies in China. Furthermore, government subsidies for R&D primarily serve as a certificate for political capital rather than the quality of the firms in China. Government-supported firms receive further subsidies afterward. Moreover, the effects of government R&D subsidies are more potent in regions where the local governments are more efficient and impose less intervention in business activities. However, the effects of government subsidies are not sensitive to the magnitude of information problems related to the quality of entrepreneurial firms.