Abstract This study investigates how political patronage influences local firms’ investment decisions in China, focusing on changes in patronage ties resulting from provincial leadership turnover. By examining prefectural officials with connections to their provincial superiors, we find that firms in these regions experience increased investment expenditures, albeit with reduced efficiency. This effect is primarily driven by stronger promotion incentives for local officials, bolstered by favoritism from provincial patrons. While political patronage helps address agency problems within political hierarchies, our findings highlight its adverse economic impact due to misaligned interests between politicians and the public.

We investigate the effects of governors’ hometown favoritism on the corporate investments of Chinese listed firms. Exploiting the exogenous distribution of governors’ tenure in a difference-in-differences research design, we find that firms in an incumbent governor's hometown make higher investments by 10.26%. This favoritism effect is more pronounced when any of the following are true about a governor's hometown: has a culture background of high collectivism, has strong clan culture, uses a minor local dialect, or if the governor has strong clan ties. Additional analyses rule out the social ties generated through living or working experiences as an alternative explanation. Neither political connections nor self-interest incentives explain the effects of hometown favoritism. Furthermore, the increased investments are overall detrimental for investment efficiency.Our study contributes to the literature by applying the social identity theory in corporate research and provides novel evidence on how politicians’ social identity affects corporate investment.