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Political risk and external finance: Evidence from cross-country firm-level data

Olayinka Oyekola, Meryem Duygun, Samuel Odewunmi and Temitope Fagbemi
Additional contact information
Meryem Duygun: Business School, University of Nottingham
Samuel Odewunmi: Department of Economics, University of Exeter
Temitope Fagbemi: Aberdeen Business School, Robert Gordon University

No 2312, Discussion Papers from University of Exeter, Department of Economics

Abstract: Drawing on the strands of literature on agency theory, institutions and financial development, this paper investigates whether, and how, political risk can explain access to external finance by 127,542 firms in 108 countries over the period 2006 to 2021. We do this by combining international firm-specific data with a globally representative political risk measure to explore variations in access to external finance for working capital and fixed investment by firms. Our results provide robust evidence of a strong positive impact of political risk on external finance. Specifically, we find that a one-standard-deviation increase in political risk leads to a 10.89% increase in access to external finance for working capital of sampled firms. We then examine which dimensions of political risk matter for external finance, finding that bureaucratic quality, corruption, government stability, socioeconomic conditions, investment profile, external conflict, and ethnic tensions are the relevant individual components. Further analyses show that the effects of political risk on external finance for working capital are amplified for firms that are either experiencing low growth, innovative, in the service sector, or small- and medium-sized enterprises. Our results survive a battery of robustness checks, including an alternative proxy for external finance (fixed investment), controlling for additional confounding factors and outliers. Given the central importance of firms as engines of growth, our paper makes an insightful contribution to the literature on the institutional determinants of access to entrepreneurial financing by firms.

Keywords: political risk; institutions; access to finance; external finance; working capital; firm-level evidence (search for similar items in EconPapers)
JEL-codes: G20 G30 L26 O16 O50 (search for similar items in EconPapers)
Date: 2023-10-01
New Economics Papers: this item is included in nep-cfn, nep-ent, nep-fdg, nep-ifn and nep-sbm
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