On the Real Effects of Private Equity Investment: Evidence from New Business Creation

Abstract

Using a comprehensive database of European firms, we study how the volume of private equity investment affects the rate of creation of new firms. Applying cross-country cross-industry analysis, we find that private equity investment in general benefits new business incorporation, especially in industries with naturally higher entry rates and R&D intensity. A two standard deviation increase in private equity explains as much as 5.5% of the variation in entry between high-entry and low-entry industries. We also find that the stage distribution of private equity investment and the type of private equity investor matter: there is significantly higher entry in countries where more investment is allocated to early stage financing, and where a higher share of the investment comes from independent private equity investors. We address endogeneity by employing data on laws that regulate the private equity investments of insurance companies and pension funds as instruments. Our results are robust to endogeneity problems and private equity remains an important determinant of new business entry after controlling for the effects of the regulatory and business environment, such as the requirements that must be met to start a limited liability company, intellectual property protection, and labor regulations.