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| The Pricing Effect of Labor Leverage: Evidence from Chinese A-Share Market |
| YIN Libo, WEI Dong
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| School of Finance, Central University of Finance and Economics |
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Abstract In recent years, surging labor costs in China, accompanied by the erosion of the demographic bonus, have received vast attention from researchers. Studies underline the effects of rising labor costs on firms' performance from the perspectives of technological innovation, factor substitution, labor productivity, wage stickiness, etc. The roles of labor supply, labor quality and human capital in economic development and production efficiency are also amply discussed. However, the relationship between labor costs and asset prices in the Chinese A-share market is rarely considered in the literature.
There are many studies of the relationship between labor and stock prices in the European and U.S. markets. However, findings from developed markets are not applicable to the Chinese market because of the remarkable distinctions between their market microstructures.
Considering China's rising labor costs and structural transformation of enterprises, we believe it is necessary to examine the relationship between China's labor market and asset prices from a micro-perspective, and more importantly, to analyze in depth whether there are differences in the pricing effectiveness of labor leverage and its mechanism in the Chinese and U.S. markets. If there are differences, the underlying causes of the differences require exploration. Exploring these issues can provide an important guide for the pricing mechanism of China's A-share market, the rational allocation of production factors, the transformation of corporate growth and the optimization and upgrading of corporate production structure.
From the wage stickiness perspective of Belo et al. (2014), we examine the relationship between micro labor markets and cross-sectional stock returns in China and explore the pricing power of labor leverage in the A-share market. Our empirical results show that firms with low labor leverage outperform firms with high labor leverage, and that the labor leverage discount remains stable after controlling other relevant variables. Furthermore, we explore the pricing performance of labor leverage in different economic states. The results show that the pricing power of labor leverage is heterogeneous; that is, the negative returns predictability of labor leverage is more profound in an economic downturn. Finally, we further explore the mechanisms in the pricing power of labor leverage relative to two sources of risk, productivity shocks and wage shocks. The results show that labor leverage has a significant positive impact on stock returns through productivity shocks on the one hand and a significant negative impact through wage shocks on the other. The latter effect is significantly stronger than the former, and their relative importance depends on the technology level of listed companies.
Our contributions can be summarized as follows. First, we uncover a pricing factor from the factor endowments perspective: labor leverage. This differs from mainstream asset pricing that focuses on financial information or operating performance. We examine the pricing effectiveness of labor leverage in light of its relative importance as a factor of production and its relative role in developing countries with low levels of technology and capital, while also considering the Chinese context and the significant differences in the labor shares of China and the United States. Second, compared with the positive pricing effect of labor leverage in the U.S. market (Donangelo et al., 2019), this paper finds that labor leverage has a significant negative pricing effect on cross-sectional returns in the Chinese A-share market. The mechanism by which labor leverage plays a dominant role also differs significantly from that in the U.S. market, mainly because of the different technology levels of listed companies in the two countries. The related results enrich explanation of the labor leverage mechanism, further improving the theory of labor factor pricing and providing a theoretical basis for China and other developing countries to rely on the technological level of micro enterprises to adjust the industrial structure of the economy and promote high-level economic development. Third, we examine the pricing effectiveness of labor leverage at various stages of the economic cycle. The relevant findings help clarify the differences in the stage characteristics and mechanisms of labor leverage shocks in different periods and provide an empirical basis for the formulation and adjustment of labor-related policies.
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Received: 20 August 2020
Published: 01 April 2022
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