Working Paper: CEPR ID: DP5764
Authors: Wendy Carlin; Andrew Charlton; Colin Mayer
Abstract: This paper uses a new data-set to examine how internal capital markets and foreign ownership affect investment. Our data allow us to compare investment behaviour of listed subsidiaries with stand-alone firms while controlling for investment opportunities of parent and subsidiary firms. We evaluate how the size of ownership and the geographical proximity of majority owners to their subsidiaries affect firm investment efficiency. We find that the investment of subsidiaries is more sensitive to investment opportunities than that of stand-alone firms and falls when investment opportunities of parent firms improve. This suggests that there are internal capital markets that reallocate funds towards units with better investment opportunities. We find that investment allocation is most efficient where parents have modest ownership stakes and are distant from their subsidiaries and when subsidiaries operate in well developed financial markets. These results indicate that influence costs imposed by dominant parents may outweigh their potential informational benefits, especially when subsidiaries are located in countries with weaker financial development.
Keywords: Foreign Ownership; Internal Capital Markets; Investment
JEL Codes: F21; G31
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| subsidiaries' investment opportunities (F23) | subsidiaries' investment sensitivity (G32) |
| parent investment opportunities (G31) | subsidiary investment (F23) |
| ownership stakes and distance (R21) | investment allocation efficiency (G11) |
| financial development (O16) | subsidiaries' response to investment opportunities (F23) |
| foreign ownership and distance from parents (F23) | capital investment during downturns (G31) |