Corruption and Composition of Foreign Direct Investment: Firm-Level Evidence

24 Pages Posted: 26 Apr 2000

See all articles by Beata Smarzynska Javorcik

Beata Smarzynska Javorcik

University of Oxford - Department of Economics; World Bank - Development Research Group (DECRG); Centre for Economic Policy Research (CEPR)

Shang-Jin Wei

Columbia University - Columbia Business School, Finance; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

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Date Written: April 2000

Abstract

This paper studies the impact of corruption in a host country on foreign investor's preference for a joint venture versus a wholly-owned subsidiary. A simple model highlights a basic trade-off in using local partners. On the one hand, corruption makes local bureaucracy less transparent and increases the value of using a local partner to cut through the bureaucratic maze. On the other hand, corruption decreases the effective protection of investor's intangible assets and lowers the probability that disputes between foreign and domestic partners will be adjudicated fairly, which reduces the value of having a local partner. The importance of protecting intangible assets increases with investor's technological sophistication, which tilts the preference away from joint ventures in a corrupt country. Empirical tests of the hypothesis on a firm-level data set show that corruption reduces inward FDI and shifts the ownership structure towards joint ventures. Conditional on FDI taking place, an increase in corruption from the Hungarian level to that of Azerbaijan decreases the probability of a wholly-owned subsidiary by 10-20%. Technologically more advanced firms are found to be less likely to engage in joint ventures. On the other hand, US firms are found to be more averse to joint ventures in corrupt countries than investors of other nationalities. This may be due to the U.S. Foreign Corrupt Practices Act.

JEL Classification: O17

Suggested Citation

Javorcik, Beata Smarzynska and Wei, Shang-Jin, Corruption and Composition of Foreign Direct Investment: Firm-Level Evidence (April 2000). Available at SSRN: https://ssrn.com/abstract=223594 or http://dx.doi.org/10.2139/ssrn.223594

Beata Smarzynska Javorcik (Contact Author)

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Centre for Economic Policy Research (CEPR)

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Shang-Jin Wei

Columbia University - Columbia Business School, Finance ( email )

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National Bureau of Economic Research (NBER)

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Centre for Economic Policy Research (CEPR)

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United Kingdom

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