Pay for Performance and SOEs' Labor Productivity: Evidence From the Wage Determination Reform in China

ABSTRACT This paper examines whether pay‐for‐performance promotes labor productivity of SOEs. Using the Reform of Wage Determination Mechanism issued by the State Council of China in 2018 as a quasi‐natural experiment, the difference‐in‐differences estimates show that the reform has resulted in a 4.99% increase in SOEs' labor productivity relative to private firms. Further mechanism tests suggest that the reform significantly increases the positive sensitivity of workers' wage to enterprise performance, indicating that the pay‐for‐performance mechanism is improved in SOEs. Moreover, the cross‐sectional tests demonstrate that the positive labor productivity effect is more pronounced for SOEs with larger scale, greater labor market frictions, worse governance, and more intense industrial competition. In addition, SOEs have expanded and focused more on high‐quality innovation after the reform, evidenced by the increase in R&D expenses and invention patents. Taken together, we argue that privatization is not the only means to enhance SOEs' productivity, and cultivating a market‐oriented institutional environment is conducive to stimulating their competitiveness.