Abstract
This study examines the relationship between firm-level political connections and stock price crash risk in Indonesia. It employs the difference-in-difference design to deal with the self-selection bias issue regarding the choice of the firms to become a politically connected firm. We use the sudden resignation of the former President of Indonesia, Suharto, to show that politically connected firms are associated with lower stock price crash risk and that the risk for these politically connected firms increased after Suharto resigned. Furthermore, we found evidence that these negative associations are more pronounced in firms with more complex firm structures.
Highlights
Previous studies have found that firms with political connections receive preferential treatment to finance, enjoy lower debt and equity costs, and have more procurement contracts (Claessens et al 2008; Boubakri et al 2012; Houston et al 2014; Goldman et al 2013; Harymawan 2018)
This study provides useful information about the changes of stock price crash risk of politically connected firms between pre and post political power. These findings provide an insight that political activities disclosure might help the investor to reduce the information asymmetry between firms and stakeholders to reduce the likelihood of stock price crash risk for politically connected firms in the period post to political power resignation
The coefficient for political connection (PCON) was negative and significant at the 1% level for all three risk models for complex firms after controlling the firm-specific control variables. This result was consistent with our prediction, which is that the negative relationship between political connection and stock price crash risk is more pronounced for firms with complex firm structures
Summary
Previous studies have found that firms with political connections receive preferential treatment to finance, enjoy lower debt and equity costs, and have more procurement contracts (Claessens et al 2008; Boubakri et al 2012; Houston et al 2014; Goldman et al 2013; Harymawan 2018). Grier et al (1994) have examined the benefit–cost model across industries and the contributions of political action committees in each industry, finding that industries with higher potential benefits from government connections contribute more to their connections This study extends these prior findings in the political connections literature by investigating the effect of political connections on firms’ stock price crash risk. Using the unexpected resignation of former Indonesian President, Suharto, this study was able to investigate the stock price crash risk of connected firms in the period before and after his resignation. Investigating the relationship between political connections and stock price crash risk in the preand post-Suharto era provides us with a better research setting for several reasons. The remainder of this article discusses the institutional setting of political connections in Indonesia and presents the hypotheses, data, methods, results, discussion, and conclusion
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