Political connectedness, firm performance and corporate risk taking: Are emerging markets different?

We investigate the impact of political connectedness on firm performance and corporate risk taking whilst making a case that emerging markets are different. The extant literature on political connections is vast with most of the studies concentrating on the limited breadth of the research to particularly the advanced world with little or no attention to the emerging markets. It is note worthy that emerging markets have become important on the world economic stage.

Kose and Prasad (2010) document that growth in gross domestic product for emerging economies exceeds advanced economies. The United Nations 2014 economic outlook documents that the emerging economies will contribute about 65 percent of the global growth in the next ten years. Thus, multinational corporations seeking to invest in these markets should pay critical attention. Since advanced and emerging markets do not exhibit the same level of risk and development, attempts to combine them in a single study ignoring this reality, even controlling for country effects, will at best result in an overly generalized conclusion. Therefore, this study tries to mitigate this problem by disaggregating these markets and examining the effect of political connectedness.

Overall, the study comprises 28 advanced countries and 19 emerging markets. Based on the foregoing argument, we seek to address the following questions: Does political connection affect firms performance and corporate risk-taking? We primarily investigate if emerging markets are different in terms of risk-taking and firm performance. Therefore, the specific objectives of this study are to: Determine whether political connections lead to higher risk-taking in corporate investment decisions; Examine whether political connections lead to higher firm performance; Examine if emerging markets are different with regard to political connections.

Data sources include Compustat Global for the financial statements, the political institutions variable is based on Henisz (2010) political constraint index, the political connectedness variable is based on Faccio (2006) data and the macroeconomic variables are collected from World Governance Indicators as well as from the United Nations for the years 1992 through 2016. Preliminary results are staggering, suggesting over simplification of extant papers. The results are economically and statistically significant as well as robust. The results suggest that governments in both advanced and emerging markets needs to take necessary steps to control corruption to establish fertile investment grounds and thus decrease political connections and extractions.