As increasing numbers of developing countries seek to build their own international financial centres, it is critical to take account of this new phenomenon in the realm of development studies. Previous development theories have devoted a great deal of attention to the analysis of industrialisation in the manufacturing sector, but insufficient attention to this new subject. At odds with neoliberal laissez-faire evolution, the financial statism identified in this thesis as (a) state ownership in the financial sector; (b) financial restraint policies; and (c) state control over capital mobility and currency convertibility, suggests an alternative approach adopted by the Chinese state to develop Shanghai into an international financial centre from the 1990s. It is argued that IFCs’ development is multi-faceted and can only be addressed in a country-specific context. The study demonstrates that due to the imperfection of institutions and infrastructure in China as a transitional economy in the 1990s, financial statism has played an active role in maintaining socio-economic stability at macro level, creating market institutions and urban infrastructure at meso-level and precluding exogenous financial risks at meta-level. Despite the observation of several disadvantages and deficiencies, financial statism has successfully transformed Shanghai into a domestic financial centre at the nascent stage of China’s financial development. Utilizing a process-tracing method, it was also discovered that given recent contextual changes, the Chinese state has started to withdraw its financial statist regime, paving the way for a more open and liberalised market system to further transform Shanghai into an international financial centre. The thesis concludes that market-driven and state-led development can be complementary and financial statism might serve as invisible scaffolding in the development of an IFC, particularly in large, fast-growing emerging economies.

China’s unique approach to the market economy during its transitional phase has provoked widespread interest among researchers. While the Western literature can certainly not be directly applied under Chinese economic conditions, it offers important theoretical grounds on which we can build our understanding of different behaviour of firms and banks in China. In the first chapter, we employ a unique set of data on financial information of over 6,000 firms and study the lending pattern of banks in China at a firm level. We find that in addition to common factors such as profitability, size, and credit history, state ownership is highly correlated with banks’ lending decision;the evidence is consistent with the existence of soft budget constraint. The debate over whether such lending bias is caused by the supply side (banks) leads us to the second chapter. We examine and compare investment behaviour of firms under different ownership, with a focus on investment to cash flow sensitivity, using financial and accounting data on over 1,700 listed firms in China. We find opposite effects of cash flow on firms when sample is split between different ownership, with privately owned firms showing a higher sensitivity of investment to cash flow. This result enables us to establish that the cause of lending bias and soft budget constraint in China is indeed a supply side effect. We also find that such sensitivity is positively correlated with firm size and age, but not related to Tobin’q, which we interpret as indicating the lack of market value information about firms in China. Institutional development in the sense of enhancement of the effectiveness of the market is widely viewed as the core to economic reform in transition economies. As privately owned firms generally outperform their state owned counterparts (see Estrin et al. 2009), we study the impact of regional institutions on total factor productivity (TFP) of firms under different ownership. We find that the quality of institutions is highly correlated with firms’ TFP, and that improving institutions to facilitate business operations is crucial for firms to achieve higher effectiveness and sustainable growth. The results also suggest that urgent reform is needed for the state owned sector in China.