Is Democracy Good for Corporate Investment?

Abstract

Using corporate data in 19 countries that experienced democracy status transitions between 1983 and 2017, we find that firm investment decreases by over 30% following democratization. This negative democracy-investment relationship is driven by higher employee welfare and regulatory costs and is stronger for politically connected firms, financially unconstrained firms and in less corrupted countries. The firm investment drop is also due primarily to the reduced investment inefficiency that accompanies higher post-democratization firm profitability, valuation, and stock return. The initial drop has a duration of only two years, and firm investment eventually increases in the fifth year after democratization. Several robustness tests and IV regressions further confirm our main results.