Do Institutional Investors Mitigate Social Costs of Privatization? Evidence from Prisons

Abstract

This paper examines whether institutional investors mitigate social costs that arise when government services are outsourced to private enterprises. Using hand-collected data on U.S. prisons, I find that privatization is associated with an increase in prisoner suicides by up to 39%. However, institutional investors of public companies managing private prisons decrease suicide rates by one third. These effects are stronger for long-term institutional investors since failing to internalize social externalities negatively impacts the long-term success of portfolio firms. Evidence from a tax reform that exogenously increases institutional ownership of prison management companies suggests that the relationship between ownership and social outcomes is causal. To explain these results, I show that institutional investors have incentives to be socially responsible due to litigation and reputation risks.

Keywords: Institutional Investors, Corporate Social Responsibility, Social Welfare

JEL Classification: A13, G23, G32, H11, L33