Court Structure, Judicial Independence, and the Attraction of Foreign Investment: Evidence from the Judicial Reform in China

Existing research suggests that an independent and efficient judicial system is crucial for attracting foreign investment. However, a remaining puzzle is whether a centralized or decentralized court system contributes to more investment? It is widely taken that a decentralized political system may encourage politicians to improve the rule of law due to inter-jurisdictional competition for foreign investment; nevertheless, the higher vulnerability to local favoritism and political patronage between domestic firms and local governments under such a system should not be neglected. Applying a difference-in-differences design on original data of recent judicial reforms in China, this paper finds that the centralization of power to control local courts from local governments into the hands of higher-level governments increases foreign investment. Furthermore, after the judicial centralization reform, foreign investors spend less on building connections with domestic firms or bribing local officials. These results suggest that the centralization of local courts helps attract foreign investment by limiting the power of local governments to intervene in the judicial system.