Political Corruption and Corporate Risk-Taking

Abstract

We use variation in corruption convictions across judicial districts in the US to examine the relationship between political corruption and risk-taking of public firms. Firms headquartered in regions with high levels of political corruption have lower total risk and lower idiosyncratic risk on average. Further analysis shows that corruption tends to encourage firms to pursue risk-decreasing investments, lower the riskiness of their operations, and decrease asset liquidity. While managerial ownership is intended to align the interests of managers and shareholders, the presence of corruption appears to encourage undiversified managers to decrease risk-taking. Our evidence is consistent with agency theory and the asset-shielding argument that political corruption discourages managers from taking risks that expose firms to expropriation by politicians, resulting in suboptimal corporate policies.