In the context of China’s economic development having entered the new normal, it has become an important task to improve the efficiency of enterprise human capital allocation to deepen the supply-side structural reform. However, existing literature focuses on firms’ capital investment efficiency but ignores the labor investment efficiency. Moreover, early literature mainly studies the excessive employment in state-owned enterprise due to government intervention and the distortion of enterprise operation and management activities due to the strengthening of labor protection in Labor Contract Law of 2008. But improving firms’ labor investment efficiency fundamentally depends on the market playing a decisive role in resource allocation. As an innovation of the capital market trading system, the margin trading and short selling system implemented in China in 2010 is increasingly playing the role of market price discovery for the increase of stock price information content and corporate governance for the improvement of financial reporting quality, which will undoubtedly significantly promote firms to optimize the allocation of human capital and improve the labor investment efficiency. Therefore, this paper studies the impact of short selling on firms’ labor investment efficiency. We find that firms’ labor investment efficiency improves after the relaxation of short selling constraint. And this phenomenon is more significant for firms with low stock price informativeness or financial reporting quality. Further, there is an asymmetry for the improved labor investment efficiency, that is, only firms’ labor under-investment not labor over-investment is reduced. This asymmetry results from Labor Contract Law, which increases labor protection and makes it difficult to fire employees and reduce labor investment to achieve the optimal level justified by economic fundamentals. And short selling reduces labor under-investment by releasing financial constraint and managerial slack. In addition, short selling helps these under-investment firms allocate more employees with high human capital and eventually achieve higher total factor productivity. Overall, these findings not only enrich the research in the fields of enterprise investment decision, the influencing factors of labor investment efficiency, and the economic consequences of short selling, but also have important implications on how to give full play to the decisive role of market mechanism innovation in the allocation of labor resources, so as to enhance total factor productivity and promote sustained and healthy economic and social development in the current supply-side structural reform.