Citizens angered by huge government bailouts of “too big to fail” businesses and by the Federal Reserve’s creation of trillions of dollars have new ammunition to hurl at government officials: A recent study says political connections and corruption have become extremely important for corporate success.
“Politically connected firms have higher leverage (in the form of preferential loans), pay lower taxes, have regulatory protection, are eligible for government aid, and have stronger market power. They differ more dramatically from their peers when their political links are stronger, and in more corrupt countries, although these characteristics can be observed worldwide,” author Mara Faccio writes in her report in the Autumn 2010 edition of the journal Financial Management.
Faccio is associate professor of finance at the Krannert School of Management at Purdue University in West Lafayette, Indiana. She reached her conclusions after studying several thousand firms from 47 countries.
Her report classifies a politically connected firm as a company “where at least one of its large shareholders (anyone controlling at least 10 percent of voting shares) or one of its top officers (CEO, president, vice-president, chairman, or secretary) is a member of parliament, a minister, or is closely related to a top politician or party.”
Faccio found connected firms appear to enjoy “substantial favors” from their governments, indicating distortions in the allocation of public resources are common in both emerging and developed countries.
“My study affects day-to-day corporate decisions. It is unfortunate that firms with no political ties appear to be at a disadvantage,” she says. “Those in leadership at politically connected firms need to think about how their choices affect the long-term operations of their business, and the business and political world at large.”
Faccio writes that connected firms “have higher leverage, pay lower taxes, and have stronger market power; however, they have poorer accounting performance than nonconnected firms. They differ more dramatically from their peers when their political links are stronger. Differences are greater, for example, when companies are connected through owners rather than through directors. Similarly, they are greater when the connection is with a minister, rather than with a member of the parliament.”
Steve Stanek ([email protected]) is a research fellow at The Heartland Institute and managing editor of Budget & Tax News.
“Differences Between Politically Connected and Non-Connected Firms: A Cross Country Comparison,” Mara Faccio, Financial Management: http://www.budgetandtax-news.org/article/28756