How Does Political Connection Affect Corporate Financing

Project: Research

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Corporate political connection becomes a widespread phenomenon in the business world. For instance, Faccio (2006) finds corporate political connections in 35 out of the 47 countries in her sample. Fan et al. (2007) report that 27% of the CEOs in China’s listed firms are former or current government officials. Goldman et al. (2009) find politically connected boards in more than 30% of the S&P 500 firms. According to recent literature, political connections are believed to be a valuable resource for firms in both developing (e.g. Fisman, 2001, Classens et al. 2008) and developed countries (e.g. Cooper et al., 2009; Goldman et al., 2009).An important question left under-researched by prior studies relates to the specific channels and mechanisms through which political connections lead to higher shareholder value. Existing studies find that political connections increase the likelihood of government bailouts of firms in financial distress (Faccio et al. 2006) and help firms get preferential access to bank finance (Khwaja and Mian, 2005; Classens et al., 2008). To our best knowledge, no study examines the impacts of political connections on cost of financing.The objective of this project is to use a hand-collected international panel dataset to determine whether and to what extent a borrower’s political connection affects the costs of bank financing. For each firm in the connection dataset, we will also collect detailed (contract-level) information from their private credit agreements. These matched data allow us to quantify the effects of political connection on external financing costs and covenant restrictions. Specifically, our first question will examine whether loans provided to politically connected firms tend to contain more favorable terms than those provided to non-connected borrowers. We will investigate the preferential treatment by using multi-dimensional measurements of the costs of debt, which includes loan spread (direct cost) and loan maturity, collateral requirements and covenant restrictions (indirect cost). Our second question will assess whether political connection affects the syndicate structure of bank loans. In addition, we will examine whether firms with “stronger” politicians obtain even greater preferential access to bank loans. We also plan to assess how the undergoing financial crisis influences political connected firms compared to non-connected companies in their bank loan financing.The findings of the study will contribute to both political connection and loan contracting literature. The study should also be of interest to financial regulators who wish to enhance the soundness and efficiency of financial regulation.


Project number9041609
Grant typeGRF
Effective start/end date1/01/111/01/11