1. Firm-Level Responses to Political Risk Nate Jensen Washington University in St. Louis

2. Overview Politics and Multinational Firms Politics and Multinational Firms 1. Influence of Firms on U.S. Politics 2. Political Risk and Firms in LDCs Theory Theory Risk is Endogenous: Firms structure operations to minimize risk and maximize political influence Risk is Endogenous: Firms structure operations to minimize risk and maximize political influence Empirics Empirics Firm-level data of all U.S. foreign investments from 1989- 1999 Firm-level data of all U.S. foreign investments from 1989- 1999 Future Research Future Research

3. Influence of MNCs on Politics Lobbying and Campaign Contributions Lobbying and Campaign Contributions Ansolabehere et al (2003) Ansolabehere et al (2003) Revolving door, corruption and personal investments. Revolving door, corruption and personal investments. Faccio (Forthcoming) Faccio (Forthcoming) Geographic location of firms Geographic location of firms Busch and Reinhardt (1999, 2005) Busch and Reinhardt (1999, 2005) McGillivray (1999, 2005) McGillivray (1999, 2005)

4. Influence of Political Risk on Investment Decisions Economic models of FDI over-predict investment in LDCs. Economic models of FDI over-predict investment in LDCs. Lucas 1990 Lucas 1990 Consensus that high levels of political risk reduce investment. Consensus that high levels of political risk reduce investment. Blonigen 2005 Blonigen 2005

5. My Contribution Political Risk is Endogenous Political Risk is Endogenous Firms make strategic entry decisions Firms make strategic entry decisions The form of entry affects the risk environment for MNCs The form of entry affects the risk environment for MNCs Example: Monsanto’s investment in Brazil Example: Monsanto’s investment in Brazil

6. Democracy and Political Risk Democratic Regimes: Theory Democratic Regimes: Theory Veto players Veto players Information Information Audience Costs Audience Costs Empirics Empirics Leads to more FDI inflows Leads to more FDI inflows Busse 2004, Busse and Hefeker 2005, Harms and Ursprung 2002, Jensen 2003, 2006 Busse 2004, Busse and Hefeker 2005, Harms and Ursprung 2002, Jensen 2003, 2006 Lowers the risk premium on political risk insurance Lowers the risk premium on political risk insurance Jensen 2006 Jensen 2006 Fewer expropriations/nationalizations Fewer expropriations/nationalizations Li 2006 Li 2006

7. Hypotheses H1 and H2: Firms invest in smaller and more liquid operations in authoritarian regimes relative to democratic regimes. H1 and H2: Firms invest in smaller and more liquid operations in authoritarian regimes relative to democratic regimes. H3: Firms structure operations in ways that align with the preferences of domestic politicians. H3: Firms structure operations in ways that align with the preferences of domestic politicians.

8. Firm-Level Data Confidential Data from the U.S. Bureau of Economic Analysis (survey every 5 years) Confidential Data from the U.S. Bureau of Economic Analysis (survey every 5 years) Full universe of 20,000+ investments per year (Foreign Affiliates) of 3,000 U.S. parent companies Full universe of 20,000+ investments per year (Foreign Affiliates) of 3,000 U.S. parent companies Includes data on the structure of the investment and operations Includes data on the structure of the investment and operations Confidentiality assures data quality Confidentiality assures data quality

9. Empirical Analysis OLS Regressions with Robust Standard Errors OLS Regressions with Robust Standard Errors Battery of parent-firm and industry dummy variables to control for parent firm and industry factors that affect firm operations. Battery of parent-firm and industry dummy variables to control for parent firm and industry factors that affect firm operations. Economic controls and political regimes as key independent variables. Economic controls and political regimes as key independent variables.

10. Preliminary Results Democratic institutions are associated with more assets, sales, and gross product. Democratic institutions are associated with more assets, sales, and gross product. In countries with left executives, firms employ more workers. In countries with left executives, firms employ more workers.

11. Substantive Impact of Democracy on Assets (Thousands $)

12. Conclusions Firms minimize the size of their operations in less democratic regimes. Firms minimize the size of their operations in less democratic regimes. Firms increase their level of employment in countries with leftist governments. Firms increase their level of employment in countries with leftist governments.

13. Future Research: Theory Focus on how electoral institutions affect political risk. Focus on how electoral institutions affect political risk. FDI produces localized benefits FDI produces localized benefits Broaden the mechanisms through which firms can influence politics. Broaden the mechanisms through which firms can influence politics. Taxes, local purchases, technology transfer, wages Taxes, local purchases, technology transfer, wages Constraints on firms (Oil and Mining) Constraints on firms (Oil and Mining)

14. Future Research: Analysis Multilevel modeling Multilevel modeling Industries have different responses to political risk Industries have different responses to political risk Test how changes in institutions and partisanship affects operations Test how changes in institutions and partisanship affects operations Estimate the impact of firm strategies on profitability and the cost of capital. Estimate the impact of firm strategies on profitability and the cost of capital. World Bank Firm Level Survey World Bank Firm Level Survey

15. Supplemental Slides