The recent scandal surrounding the Italian defence company Finmeccanica’s bribery of Indian officials shows that government corruption can have serious repercussions. Not only does it hurt companies by damaging their reputation, but it also deters foreign investors and undermines democracy. Corruption leads to distrust in politicians, which in turn makes voters less likely to participate in public life or trust in the media and courts that oversee the law.
Corruption, like other forms of mismanagement, is often a result of an underlying institutional weakness. In a political economy where corruption is pervasive, it can be difficult to correct institutional problems. The problem is compounded in emerging markets, which often have different business cultures and high state involvement in the economy. In these markets, corruption can be particularly damaging because companies are forced to pay bribes in exchange for import and export licenses, tax assessments, police protection or loans. This is particularly harmful for the defence industry, which sells to governments around the world.
In this paper, we examine the impact of corruption on stock market returns (SR) in the presence of institutional factors. We use monthly data for 1995 to 2014 and employ a dynamic panel data estimation approach and Extreme Bound analysis. We find that corruption has a negative effect on SR, which is largely due to its negative effects on production and demand. Interaction effects reveal that bureaucratic quality can mitigate the ill effects of corruption by improving the investment slot pulsa tanpa potongan environment and reducing red tape.
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