Blessing or Curse? The Effects of Credit Rating Standard Loosening in China

ABSTRACT We document a substantial loosening of credit ratings by Chinese issuer‐paid rating agencies from 2006 to 2020. Controlling for firm fundamentals, average ratings rose by 1.73 notches. Although looser ratings lower bond financing costs and support greater borrowing, firms mainly use the proceeds to roll over debt and increase cash holdings rather than to expand investment or research and development (R&D). These firms subsequently show lower profitability and higher default risk, challenging the view that lenient ratings improve performance by easing financing constraints. We identify rating‐contingent regulations and conflicts of interest in the issuer‐pay business model as key drivers of rating loosening, highlighting structural distortions in China's credit market.