1 The Internationalization of State Owned Enterprises: The Impact of Political Economy and Institutions Saul Estrin Department of Management, London School of Economics Klaus E. Meyer Department of Management, China Europe International Business School Bo B. Nielsen Department of Strategic Management and Globalization Copenhagen Business School Sabina Nielsen Department of International Economics and Management Copenhagen Business School This version October 31, 2012 Acknowledgements: This paper was written while Saul Estrin was on leave at the Department of Strategy and Entrepreneurship at London Business School. The authors would like to thank Harry Barkema, Sumon Bhaumik, Mike Peng and Daniel Shapiro for useful discussions around these issues. Any remaining errors are their own.
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The Internationalization of State Owned Enterprises:
The Impact of Political Economy and Institutions
Saul Estrin
Department of Management,
London School of Economics
Klaus E. Meyer
Department of Management,
China Europe International Business School
Bo B. Nielsen
Department of Strategic Management and Globalization
Copenhagen Business School
Sabina Nielsen
Department of International Economics and Management
Copenhagen Business School
This version October 31, 2012
Acknowledgements: This paper was written while Saul Estrin was on leave at the Department of
Strategy and Entrepreneurship at London Business School. The authors would like to thank Harry
Barkema, Sumon Bhaumik, Mike Peng and Daniel Shapiro for useful discussions around these issues.
Any remaining errors are their own.
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The Internationalization of State Owned Enterprises:
The impact of Political Economy and Institutions
Abstract
State owned enterprises (SOEs) play different roles in different societies. Integrating political
economy and institutional perspectives, we argue that the globalization of SOEs is driven by
each country’s political economy that shapes economic institutions, which, in turn,
influences the strategies of SOEs. Specifically, we suggest that state ownership reduces a
firm’s degree of internationalization, but this effect is moderated by the configuration of
political and institutional factors of the home country. We find evidence for our theoretical
model in our empirical analysis over a unique dataset of 3087 of the largest companies of
the world, representing 47 countries.
Keywords: state-owned enterprises, internationalization, institutions, political economy,
Tobit regression.
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Introduction
Globalization has greatly increased the diversity of corporate players in the global economy.
In 1970, over 65% of worldwide FDI flows originated from the USA and the UK, with most of
the remainder originating from other countries with similar free market economies. Hence,
most theorizing on multi-national enterprises (MNEs) has been based on a profit-maximizing
and market based logic. However, over the past decades, the share of the USA and the UK in
global FDI flows declined to 23% in 2010, while new players increased their share, including
Japan in the 1980s, France in the 1990s and emerging economies such as China from about
2005 onwards.1 This diversification of origins of MNEs has increased the heterogeneity of
institutional arrangements and economic systems from which these MNEs originate.
This heterogeneity has a number of consequences for the types of firms that
emerge. First, in a free market economy, private ownership of business is the norm, and
state ownership is rare, especially after the global privatization wave of the 1980s and 1990s
(Vickers & Yarrow, 1992, Estrin, Hanousek, Kocenda, & Svejnar, 2009). Even so, state-owned
enterprises (SOEs) continue to play an important role in many countries, either to
complement the market in social democratic economies (Hall & Soskice, 2001, Redding
2005) or as a guiding agent for economic development, as in for example Singapore and
Moreover, as capital markets become more liquid, they can more easily support the market
for corporate control that represents one of the key governance mechanisms for privately
owned enterprises, as well as for publicly listed SOEs. Moreover, governance arrangements
are likely to be more effective when capital markets are more developed, because there will
be more external agents evaluating company performance and there will be more
competition in the market for the shares of SOEs. This resolution of certain aspects of the
agency problems of SOEs is strengthened since well-developed stock markets also imply
that managers may be incentivized through the use of share ownership or stock options.
Hence, scale and liquidity of the capital market influence the balance of enterprise
objectives between profits and social ones.
Thus, the governance problems of SOEs relative to private ones will be increasingly
addressed as the capital market becomes more developed. This implies that SOEs are under
higher pressures to improve efficiency and to develop resources that enable competition in
competitive markets, which also provide a foundation for international growth. Hence,
barriers to internationalization deriving from agency differences to private firms will be
reduced. Moreover, with the increased transparency provided by capital markets SOEs are
increasingly likely to be assessed against private firms, which provide strong incentives to
emulate their strategies. Hence, capital market development is likely to reduce the negative
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effect of SOE on internationalization:
H3: The more developed the domestic capital markets, the less negative is the relationship
between state ownership and internationalization.
Institutions governing resources access
Williamson’s (2000) lowest tier of institutions is resources available to firms, and we now
consider how state-ownership might facilitate or constrain the access to resources. It has
frequently been argued that SOEs may enjoy an (unfair) advantage over private firms,
because they enjoy preferential access to certain critical resources (Nee, 1992). These
resources may also be important when developing operations internationally.
The extent to which a government actually provides such benefits depends on both
the political ideology and the government’s ability to provide resources. In the European
Union, which follows free market principles in this respect, government support conflicts
with the principles of competition policy. This explicitly rules out national government
providing subsidies to firms, including SOEs (Morgan, 2009). Although in practice there are
exceptions and disputes as to what constitutes an unfair protection, it is fair to assume that
subsidies are more limited in some countries than in others. On the other hand, in state
capitalist economies, such supports can be very important. They can include for example (1)
explicit or implicit state guarantees that facilitate access to financial resources, including
both direct subsidies and indirect benefits such as bank loans from state-controlled banks
(Buckley at al., 2007; Luo et al., 2010; Zhang et al., 2010), (2) preferential access to
protected domestic markets that allow SOEs to generate cash flow, and/or (3) preferential
access to information and research provided by government-associated agencies and
research institutes (Kotabe, Jiang & Murray, 2011). In free market and social democratic
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economies such support tends to be more subtle and indirect, including for example
support through diplomatic services that help opening doors and gaining access to key
decision makers (Knutsen et al., 2011).2 These political economy factors determine to what
extent a government will use its resources to assist in the internationalization of its firms.
The government’s ability to provide resources depends on the resources that it has
at its disposal. The most liquid such resources that can also be invested overseas, and are
under control of the state are the accumulated currency reserves of the country, themselves
an outcome of past economic policies. A government which has high reserves is in a much
stronger position to use SOEs to reinvest its funds. In the fact, the large currency reserves
create pressure to identify suitable overseas investment targets to avoid sharp currency
appreciation.3 Moreover states that have accumulated reserves as result of past trade
surpluses and a strong currency are in a better position to use their domestic resources to
acquire assets abroad, because acquisition targets appear relatively ‘cheap’. Hence:
H4: The higher the country’s accumulated currency reserves, the less negative the
relationship between state ownership and internationalization.
Methodology
Sample and Data
The initial sample for this study was drawn from the Worldscope database and included the
world’s 5000 largest firms based on sales in 2010. This sampling was purposeful as we
sought to include all large publicly listed enterprises (regardless of ownership) in order to
ensure a comprehensive but representative population of firms from a variety of countries
2 This claim of SOEs having preferential access to resources is particularly advanced by opponents of Chinese
MNEs operating in North America (for critical reviews see Globerman & Shapiro, 2009; Peng, 2012). 3 Sovereign wealth funds are a special case of this form of SOE, but they are not listed SOEs and therefore not
part of this study.
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and industries with both private and public ownership structures in order to maximize
variability in our data. Thomson One Banker was the source for firm level data, except for
the ownership data, which came from the Orbis database. Country level data was obtained
from the Heritage Foundation and the World Bank. Due to missing data on some variables,
our sample size was reduced to 3087 firms based in 47 countries, of which 143 were SOEs.
Variables and Measures
The dependent variable, firm degree of internationalization was measured as foreign sales
to total sales ratio (FSTS). As we are primarily concerned with entities where the state has a
majority ownership stake, state-owned enterprise (SOE) was operationalized as enterprises
with more than 50% state ownership as indicated in the Orbis database.
Market capitalization or market value was measured as the share price times the
number of shares outstanding as a percentage of GDP (World Bank, 2010). Freedom from
corruption is an index composite of rule of law, limited government, regulatory efficiency,
and open markets based on the 2010 Index of Economic Freedom published by the Heritage
Foundation. Currency reserves is the total reserves held by a country, including holdings of
monetary gold, special drawing rights, reserves of IMF members held by the IMF, and
holdings of foreign exchange under the control of monetary authorities (World Bank, 2010).
Finally, we controlled for the development of the domestic economy via GDP per capita.
Industry variables were measured based on 3-digit SIC codes. Industry concentration
is an indication of the number and relative power of firms in an industry. It was measured as
the percentage of sales accounted for by the top four firms within an industry. Industry
growth was measured as the annual compound growth rate, calculated by taking the nth
root of the total percentage growth rate, where n is the number of years in the period being
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considered (Dean & Meyer, 1996). We also controlled for resource-based industries,
operationalized as a dummy variable for industries with SIC codes smaller than 1500.
Following prior studies, product diversification was measured using the entropy
measure of firm diversification (Hoskisson et al., 1993; Palepu 1985). The entropy values
were calculated with the formula Σ pi ln(1/pi) where P is the percentage of segment sales of
the total firm sales and (1/P) is used as a weight to account for the importance of each
business segment. The literature suggests that differences exist in the way
internationalization affects performance of large vs. small firms (Lu & Beamish, 2001). We
therefore controlled for firm size measured as the logarithm of employees. As the firm’s
own resources and capabilities constitutes a key driver of internationalization (Kirca et al.,
2012), we included R&D expenditures in the analysis. However, since this variable was
missing for a relatively large proportion of the sample, we followed prior research (e.g.
Greene, 2003; Singh, 2008)and recoded all missing values of R&D with 0 and added a
dummy variable indicating whether data on R&D was available or not.
Table 1 provides descriptive statistics (means and standard deviations) and
correlations between the variables in our regression analysis. Freedom from corruption and
GDP per capita appear highly correlated (0.88). Therefore, we conducted a variance inflation
factor (VIF) analysis to assess multicollinearity. The analysis generated as a highest value
5.58, which is well below the recommended benchmark of 10 (Hair et al., 1995).
Table 1 about here
Analysis
Given the nature of our dependent variable, degree of internationalization, which is subject
to left-censoring (firms that decide not to internationalize abroad may have only domestic
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activities; the degree of internationalization has a limit value of zero), we used a Tobit
(Tobin, 1958) model to estimate our equations. Conventional regression techniques, like
OLS, can provide inconsistent parameter estimates when applied to data that include a large
proportion of limit observations; it may yield a downwards-biased estimate of the slope
coefficient and an upwards-biased estimate of the intercept (Greene, 2003: 764). A Tobit
model is specified as follows:
Y*
i = Xi β +Ɛi
where Ɛi ~ N(0,σ 2). Y* is a latent variable that is observed for values greater than 0 and
censored otherwise. The observed Y is defined by the following measurement equation:
Y* if Y* > 0
Yi =
0 if Y* ≤ 0
Results
Table 2 provides our main results of the Tobit estimations. Model 1 shows the base
equation with only the control variables included. Model 2 shows the partial analysis
including all direct effects and model 3 is the full model with all interactions.
Table 2 about here
With respect to Hypothesis 1 we find that the direct effect of state ownership on firm
internationalization is negative and significant at P<0.001 level (Model 2). Even after
including the moderating effect (Model 3), the result is still negative but significant only at
P<0.05 level. Hence, we find support for the hypotheses but also indications that this effect
is critically moderated.
We use the full model (Model 3) to assess our hypotheses regarding the moderating
effects. In accordance with Hypothesis 2 we find that freedom from corruption has a strong
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positive moderating effect on the SOEs-internationalization relationship (β=0.01, p<0.001).
This supports our argument that under conditions of low corruption (informal institutions),
SOEs are more likely to internationalize (or less unlikely to internationalize compared to
POEs). Hypothesis 3, which proposed a positive moderation of market capitalization on the
focal relationship, also received support (β=0.00, p<0.05), suggesting that formal
institutional governance mechanisms increase the likelihood of SOEs internationalization.
Finally, hypothesis 4 predicted a positive moderation of institutional access to resources on
the SOE-internationalization relationship. This hypothesis also obtained strong support
(β=1.17-7, p<0.001) in support of our theory. Together, the results provide strong evidence
in support of our theoretical framework as outlined in figure 1; while SOEs internationalize
significantly less than POEs, on balance, this relationship is conditioned in important ways by
the unique configurations of political and institutional environments of the home countries
from which these SOEs originate.
As robustness test we also ran these regressions including the moderating effects
one at a time. These regressions resulted in moderating effects signed in the same direction
as in the full model, and at equal or higher levels of significance. As further robustness tests,
we substituted some of the moderating effects with other measures for the same
theoretical construct. For example, in accordance with our theory we used the protection of
intellectual property rights in place of freedom from corruption to gauge the role of formal
institutions, and we found the results to be substantially identical. However, as these two
variables are highly correlated (r=0.94), we were unable to include them simultaneously in
the full model of our analysis. These results are available from the authors upon request.
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With respect to control variables, we note in particular positive and highly significant
effects of R&D intensity (β=0.02, p<0.001) and resource-based industries (β=0.18, p<0.001).
These results may be interpreted as testimony of the importance of access to valuable
resources in order to create transferable ownership advantages when investing abroad
(Dunning, 1993, Kirca et al., 2012), irrespective of ownership. R&D intensity indicates that
on balance, firms that invest in building innovative capabilities may be better positioned to
reap the benefits of international competition. Moreover, resource-based industry sectors,
such as mining, oil and gas, also emerge as highly internationalized.
Discussion
Our results shed novel insights on the phenomenon of globalization of SOEs. We
started from the observation that SOEs play different roles in different societies, which are
driven by the political economy shaping the institutional framework under which SOEs work.
Following Williamson (2000), we distinguished between different hierarchies of institutions.
This approach led us to distinguish between informal institutions (e.g. corruption levels),
governance institutions (e.g. stock market development), and state access to resources (e.g.
currency reserves). Our empirical tests not only show support for the individual hypotheses,
but demonstrate that the effects of these three levels are complementary in explaining how
the degree of SOE internationalization is conditioned by the political and institutional
context of the home country.
Implications for theory
The integration of political economy and institutional perspectives pushes forward our
understanding of how MNEs are embedded in their home country, and why it matters for
international business. Traditional work on the MNE makes an implicit assumption that the
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home context has a neutral effect, and that internationalization is driven by firm-specific
resources (Kirca et al., 2012), though resources of the home country have recently been
recognized as a source of such firm-specific resources (Nielsen & Nielsen, 2010; Wan, 2005;
Wan & Hoskisson, 2003). Some scholars of specific contexts have also pointed to
government policy as a means to help firms mobilize resources, for example in Japan in the
1960s/1970s (Ozawa, 1985) and China in the 2000s (Buckley et al., 2007, Wang et al.,
2012b). Yet, there is little theorizing on how specific home country political institutions
interact with MNEs of different ownership types in driving internationalization.
The actual relationship of home governments and MNEs outward investment is
considerably more complex, as has been recognized by some scholars (Stopford & Strange,
1991), but rarely analyzed systematically. To this end, our political economy perspective
proposes that the role of home governments may indeed be varying across different types
of home economies, in particular with respect to state-owned MNEs. The political economy
of a country shapes the institutions under which SOEs operate, and thus both the resource
they may potentially exploit and explore abroad, and the incentives to do so. This political
economy perspective thus provides an important indication of the linkage between home
country political and institutional influences on the globalization of domestic SOEs.
Our study is among the first to systematically investigate these influences. Based on
3000 listed firms across 47 different economies, of which 143 had majority state ownership,
we provide the first large-scale, multi-country test of the Williamson (2000) multi-level
hierarchy of institutions. Our results provide strong evidence for the moderating effects of
home country political institutions on the propensity of listed SOEs to internationalize. This
focus on a specific breed of SOEs that are subject to potentially conflicting motives and
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drivers by virtue of their dual ownership structure, with the state as majority owner and
private investors as minority owners, provides new insights into SOE strategic behavior and
extends our understanding of the conditions under which such complex enterprises operate
in the global economy.
We have focused on these hybrid types of organizations that blend elements of
private and public, and which offer new avenues for internationalization and competition if
they can resolve the potential conflict and reap the benefits of being backed by the state yet
operating under efficiency constraints more similar to private companies. This combination
of characteristics of traditional SOEs and private firms, may make listed SOEs very potent in
political games abroad and thus enable them to become formidable global competitors.
Traditionally, business research on SOEs has primarily drawn on agency theory and
variations thereof (Estrin & Perotin, 1991; Vickers and Yarrow, 1991; Estrin et al, 2009), and
established that, due to the prevalence of agency conflict, SOEs typically are less efficient.
An extension of this approach suggests that, due to the lesser efficiency, SOEs are less likely
to develop resources that would enable them to compete abroad, and hence are less likely
to internationalize. This we proposed in Hypothesis 1 and found empirically supported.
However, this agency perspective needs to be extended to capture the broader
environment in which the SOE is operating. We suggest that political economy provides an
appropriate approach to do so because the political economy shapes the institutions under
which an SOE is operating. Future research may further extend this approach by modeling
the interdependence between the political economy, perhaps in terms of electoral systems,
the specific economic institutions that we included in our analysis, and corporate strategy.
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Economic institutions likely are at least in part mediating the effect of political institutions,
and it would be theoretically interesting to explore how such mediation may takes place.
Limitation and future research
The first set of limitations of our empirical study arises from the nature of the dataset. We
aimed to study the most important firms and to cover companies from a wide variety of
home countries with different political and institutional configurations; a precondition for
studying home country effects. However, this focus on large firms implies that we have little
specific to say about smaller SOEs. One might argue that smaller SOEs can draw on fewer
state resources and are subject to local rather than national politics, which would moderate
their internationalization behavior. Comparing large and small SOEs thus would be one road
for future research.
Second, our dataset is of a cross-sectional nature, relating the current
internationalization to current ownership and institutional frameworks. This type of study
always leaves open the possibility of reverse causality, though we believe this to be a limited
problem in our study because our explanatory variables are at a higher level than our
dependent variable, and individual SOEs are unlikely to influence their political and
institutional context (at least in the short-to-medium term) – though all SOEs in a country
together may well influence their institutional context. This issue could be addressed in
future research by analyzing changes over time on the basis of panel data. Such a study may
also be able to accommodate a larger set of country-level variables simultaneously,
including notably the formal institutions level as represented by property rights protection.
Third, our political economy approach suggests that firms in specific countries are
indeed subject to specific influences that emerge in one country but not in others. Such an
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argument has been made in particular for China, where the involvement of the state and
the party is particularly intensive, and where mechanisms of governance have developed
specific forms such as state asset holding companies (Wang et al., 2012a) and career paths
taking managers back and forth between governmental entities and SOEs (Brødsgaard,
2012; Lin, 2011). Our study might thus suffer from an aggregation bias, which suggests
complementing our cross-country study with country-specific studies that enrich our
framework with locally relevant variables. Another possibility would be a multi-level
modeling approach, but such techniques cannot easily handle non-normally distributed
dependent variables.
Fourth, future research may incorporate the analysis of performance impact of
internationalization of SOEs and their private counterparts. Considering financial
performance, we have noted in our theoretical discussion that SOE strategic decisions are
less likely to be efficiency and profitability oriented, which suggests that we would expect a
less positive effect of internationalization on performance for SOEs compared to POEs –
independent of the theoretically unclear relationship of internationalization on performance
in general (Kirca, et al., 2012).
Implications for management
Our study points to some behaviors of listed SOEs that are of potential interest to both
policy makers and competing businesses. First, our theoretical discussion outlined the
institutionally moderated agency conflicts to which SOEs are likely to be exposed. In
focusing on listed SOEs, we inferred them to be less subject to social objectives and more
profit oriented due to the presence of private shareholders. The listing of SOEs thus
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represents an institutional change that likely contributes to aligning the behavior of SOEs
and private firms, enabling SOEs to become players in the global economy.
Second, we observed that improvements of institutions along the dimensions of
corruption and capital market developments also create positive moderating effects that
reduce the negative impact of state-ownership on internationalization, and hence bring
SOEs closer to the strategies of private firms. This finding may be extended to suggest that
improvement along these aspects of informal and governance institutions would reduce the
scope of agency conflicts in SOEs, and thus improve the economic performance of SOEs.
Finally, in terms of the broad question of this special issue, how will the presence of
SOEs change the global economy, our findings suggest that if the institutions under which
these SOEs operate are increasingly aligned with the institutions faced by private firms, then
the presence of SOEs in the global economy is unlikely to have a major impact. If on the
other hand, SOEs operate under different sets of institutions that for example allow for
higher levels of corruption or less transparent capital markets, then their role in the global
economy is likely to be different. While our study suggests that their degree of
internationalization is lower, those that are operating internationally blend economic and
political objectives and are therefore embedded in the political economy and the
intergovernmental relationships between the two countries.
Conclusion
SOEs have emerged as major players in the global economy, and if the long term trend
toward more heterogeneity of countries of origin continues, they are here to stay. Our study
demonstrates that the different roles SOEs play in different economic and political systems
translate into different propensity to engage in international business. In particular, we
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found that SOEs are less likely to internationalize, but the lesser international business
activity is moderated by the political and institutional development of the country of origin.
Our study thus suggests that the political economy of the home country plays an important
role in explaining international business patterns across countries. Hence, future studies of
the MNE should incorporate such country of origin effects to a greater extent than has
hitherto been done.
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References
Acemoglu, D. & Johnson, S. 2005. Unbundling institutions, Journal of Political Economy