Abstract
This paper investigates whether multinational enterprises (MNEs) take into account both global and diplomatic political risks when investing abroad. Whereas global political risk is common to all foreign investors, diplomatic political risk is dyad‐specific as it is related to the overall diplomatic climate between the home and host countries. The main result of this study is that both global and diplomatic political risks matter for U.S. MNEs investing in developing countries. Their required return on investment rises when the political risk faced by all foreign investors worsens or when diplomatic tensions arise between the United States and their host countries, presumably because in both cases uncertainty about future returns increases.
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