However, lower government intervention and reduced fiscal pressure can help mitigate the negative impacts of local government debt on the quality of innovation.

Research indicates that excessive local government debt can create an 'innovation crowding-out effect,' negatively impacting corporate innovation quality due to diminished fiscal support.

This research contributes to the existing literature by focusing on the microeconomic effects of local government debt, measuring innovation quality through knowledge complexity, and investigating the channels through which this debt impacts innovation.

A novel approach was employed in the study to measure innovation quality, utilizing the knowledge breadth method, which addresses the limitations of traditional patent metrics.

High-quality innovation is vital for long-term economic growth, with firms playing a crucial role by holding patents and applying patented technologies.

Key findings reveal that the expansion of local government debt significantly diminishes corporate innovation quality, adversely affecting firms' total factor productivity (TFP) and overall value.

Since the global financial crisis in 2008, China has introduced a substantial investment plan worth CNY 4 trillion (approximately USD 547.95 billion) to stimulate domestic demand and combat economic slowdown.

Although this expansion of debt has alleviated some fiscal pressures and stimulated local economic growth, it has also resulted in reduced investments in innovation and increased tax burdens on firms, ultimately undermining their innovation environment.

Local governments have financed these initiatives primarily through bank loans and bond issuances, leading to a rapid increase in local government debt, which reached around USD 639.73 billion in 2023, contributing to a national debt of nearly USD 4.79 trillion.

The study examines the detrimental effects of local government debt on corporate innovation quality, utilizing data from Chinese firms listed on the Shanghai and Shenzhen stock exchanges between 2013 and 2022.