By Ashrafee Tanvir Hossain & Lawrence Kryzanowski
Political corruption harms individual trust in society. It harms the economic production of all sectors of the economy (government, business, and individuals). This harm is reflected in your salary, cost of living, lodging costs, the taxes you pay, and the value of your pension plan. Political corruption is one in which public officials receive lavish in-kind benefits (e.g., Rolex watches and luxury vacations) or money kickbacks for granting contracts or permits or licenses or other benefits to private parties (e.g., Kusnetz, USA Today, November 9, 2015; Barnes 2016).
Most of us are led to believe by governments that political corruption is not a problem in developed economies such as the U.S. To illustrate, the recent Whitehouse briefing, on countering corruption as a prelude to the upcoming Summit for Democracy, essentially views corruption as being imported into the U.S. This common perception is detached from reality. According to Transparency International’s rankings, the U.S. over the past decade had its top ranking of 16th in both 2015 and 2016 and its worst ranking of 25th best in 2020. Corruption convictions per capita vary considerably across the U.S. states, irrespective of whether governed by Red (Republican) or Blue (Democratic) administrations.
Our coauthored paper provides strong evidence that firms pay more for their shareholder or equity capital if firms are headquartered in U.S. states with higher levels of political corruption. We use various measures of political corruption from convictions by the U.S. Department of Justice to the ethical standards of states to perception rankings of each state. Our initial results using multivariate regression analyses hold when we conduct numerous vigorous tests of robustness to disprove these results. The cost of equity (COE) is important because, along with the higher cost of debt associated with corruption, it determines the returns on the funds invested that public and private businesses require to grow. This required return needs to be met when making investment decisions in employee training and number, property, plant, equipment, and R&D that directly affect the level of employment and innovation in an economy.
We also show that various Supreme Court (SCOTUS) decisions in the U.S. increased the burden to prosecute political corruption and led to a material increase in the effect of political corruption on a firm’s COE. One influential decision was the McDonnell case (Docket no. 15-474, SCOTUS), in which the SCOTUS vacated (overturned) a previous conviction of Robert F. McDonnell, a former Governor of Virginia, under federal statutes that made it a felony to take “official action” in exchange for $175,000 in loans, gifts, and other benefits. The conviction was vacated based on a very narrow definition of what constitutes an “official action”. Another influential decision was in 2010 for the Citizen United v. Federal Election Commission case, which significantly altered the regulation of corporate political activity by permitting unlimited corporate expenditures (so-called soft money) by independent politically active groups such as Political Action Committees (PACs).
The unfavorable effects of corruption also lead firms to make sub-optimal decisions to protect or shield themselves from the corruption demands of political actors. These include too much debt and too little cash holdings, investment in suboptimal acquisition deals, and less investment in CSR activities, which hurts the reputation of firms.
Our findings have many real-world implications. The findings suggest the need to rethink what are the root causes of corruption in the U.S. Based on our findings and the belief of U.S. citizens that political corruption in the U.S. is widespread, corruption enacted between consenting parties regardless of whether one is located outside of the U.S. harms Corporate America. It follows that ordinary consumers, savers, and investors end up paying for the associated higher costs through lower employment and pension plan values, and higher costs of living, lodging costs, and taxes. Our findings also contribute to the more philosophical debate about money in politics as a motivator for political corruption in the period after the Citizen United v. Federal Election Commission decision.