Egalitarianism, Cultural Distance, and Foreign Direct Investment… · 2012-09-21 ·...

OrganizationScienceArticles in Advance, pp. 1–21ISSN 1047-7039 (print) � ISSN 1526-5455 (online) http://dx.doi.org/10.1287/orsc.1120.0776

© 2012 INFORMS

Egalitarianism, Cultural Distance, andForeign Direct Investment: A New Approach

Jordan I. SiegelHarvard Business School, Boston, Massachusetts 02163, [email protected]

Amir N. LichtRadzyner School of Law, Interdisciplinary Center Herzliya, Herzliya 46150, Israel, [email protected]

Shalom H. SchwartzThe Hebrew University of Jerusalem, Jerusalem 91905, Israel; and National Research University–Higher School of Economics,

Moscow 10100, Russia, [email protected]

This study addresses an apparent impasse in the research on organizations’ responses to cultural distance. We posit thatcross-country differences in egalitarianism—a cultural orientation manifested in intolerance for abuses of market and

political power and support for protection of less powerful actors—affect multinational firms’ choices of destinations forforeign direct investment (FDI). Using historically motivated instrumental variables, we observe that egalitarianism distancehas a negative causal impact on FDI flows. This effect is robust to a broad set of competing accounts, including the effects ofother cultural dimensions, various features of the prevailing legal and regulatory regimes, other features of the institutionalenvironment, economic development, and time-invariant unobserved characteristics of origin and host countries. We furthershow that egalitarianism correlates in a conceptually compatible way with an array of organizational practices pertinentto firms’ interactions with nonfinancial stakeholders, such that national differences in these egalitarianism-related featuresmay affect firms’ international expansion decisions.

Key words : foreign direct investment (FDI); neoinstitutionalism; global strategy; multinational firm; culture;cultural distance; egalitarianism; regulatory arbitrage; Pollution Haven Hypothesis; entrepreneurship

History : Published online in Articles in Advance.

IntroductionFor decades, notions such as the liability of foreignness,cultural distance, and psychic distance have been partof the organization theorist’s vocabulary. Nevertheless,cultural distance remains more of a myth—a cherishedstory—than a well-established reality. Notwithstandingscores of studies, mostly reliant on a composite indexbased on Hofstede (1980), several surveys have largelyconcluded that the literature faces an impasse.1 Debatestill rages over how to theorize and operationalizeculture, how stable culture is, which cultural factorsinfluence organizational decisions, and whether culturaleffects are dominated by other institutional factors.2 Thismurky state of affairs may hinder organizational schol-ars from recognizing the importance of culture, and ofcultural distance, for organizations.

Seeking to address these issues, we advance a newintegrative approach to cultural distance and organi-zations. We conceptualize culture as a fundamentalsocial institution tightly linked to historical and eco-logical conditions that render cross-cultural differencesquite stable. We focus in particular on egalitarianism,a cultural orientation that induces people to recognizeone another as moral equals (S. H. Schwartz 1994,1999; N. L. Schwartz 2001). Egalitarianism is mani-fested in intolerance of abuses of market and political

power and support for protecting less powerful actors.Prior research has linked egalitarianism and internationalinvestment to key societal institutions, including antitrustlaw and policy; legal protections for employees, the sick,and the elderly; curbs on corruption; and accountingtransparency (Siegel et al. 2011). This research, how-ever, like the literature more generally, fails to specifyorganizational features that may be affected by egalitar-ianism. This study is the first to probe beneath the levelof such broad institutional factors, examining the organi-zational level and linking egalitarianism to organizationsvia a new theoretical account and consistent findings.

Mastering socially appropriate ways of exerting poweris of crucial importance for firms. Virtually every inter-action between an organization and its stakeholders,broadly defined (Freeman 1984), takes place within acertain power relationship. As an organization emergesin its home institutional environment, it responds to iso-morphic pressures (DiMaggio and Powell 1983) andadopts values, norms, and structural features compatiblewith this environment. Such isomorphic adaptation alsocharacterizes its relations with stakeholders. Organiza-tional theory, however, lacks an agreed-upon model ofthe factors that distinguish different organizational cul-tures (Hartnell et al. 2011). Because we are dealing herewith organizations’ interactions with their institutional

1

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Siegel, Licht, and Schwartz: Egalitarianism, Cultural Distance, and FDI: A New Approach2 Organization Science, Articles in Advance, pp. 1–21, © 2012 INFORMS

environments—first at home and later abroad—we uti-lize the Schwartz dimensional framework of cultural ori-entations with a focus on its egalitarianism orientation(S. H. Schwartz 2004). To motivate the analysis, we firstpresent evidence that egalitarianism correlates in a con-ceptually compatible way with an array of organizationalfeatures. In particular, we consider compensation of bothtop executives and ordinary workers and various inter-actions with the community. These organizational-levelfactors do not emanate from legal prescriptions and thuscapture informal social norms that organizations adoptand follow. That these norms are linked with egalitari-anism anchors the key notion of isomorphism in organi-zations in culture.

We develop a content-rich account of the link betweencultural distance and firms’ strategic decisions to enterforeign markets via foreign direct investment (FDI), ora strategic investment that involves control. FDI is amomentous step for an organization: it subjects organi-cally developed organizational features to a “stress test”of sorts in the host market. Specifically, the greater thedifference in terms of cultural egalitarianism betweenthe home and host markets, the greater the adjustmentsthe firm will have to make in order to engage effec-tively with its stakeholders. Our theory thus points toegalitarianism in particular as a theoretically defined andempirically measurable factor that causes organizationsto expand to destinations where their interaction withstakeholders is more likely to resemble such interactionat home. This thesis allows us to link prevailing levelsof egalitarianism to largely exogenous factors that canserve as instruments to buttress an argument on culture’scausal role and to link levels of egalitarianism to spe-cific organizational features. Our theory thus yields afuller account than has previously been advanced in theliterature.

We also consider, more briefly, how egalitarian-ism fares as an explanatory variable compared withthe other cultural dimensions of the Schwartz theoryof cultural dimensions, embeddedness/autonomy andharmony/mastery (S. H. Schwartz 1994, 1999, 2004).We find that egalitarianism distance has a strong nega-tive impact on FDI flows in a broad sample of nationsusing data from different sources and time periods. Priorresearch failed to relate international investment to theother two cultural dimensions in the Schwartz model, butwe find that FDI tends to flow from high-embeddednessto low-embeddedness countries. We link this finding inpart to international regulatory arbitrage on environmen-tal protection regimes. We also connect cultural harmonyto countries’ proclivity for entrepreneurship, such thatharmony distance may particularly encourage multina-tional enterprises (MNEs) to enter less entrepreneurialcountries. Taken together, our theory and evidence showthat cultural distance is not a myth, when considered inan organizational context, but that the mythology mayneed to be reconceived.

Background and Research HypothesisCulture, Cultural Dimensions, and EgalitarianismThe social sciences conceptualize culture as a society’ssystem of shared values, beliefs, norms, and symbols.This framework traces its intellectual roots to iconicfigures like Weber (1904–1905) and Durkheim (1915),and it permeates contemporary institutional and organi-zational theory (e.g., DiMaggio 1994; Meyer and Rowan1977; Guillén 1994, 2001; Holburn and Zelner 2010).A broad research program in the social sciences sug-gests how to identify and measure national cultures.The central postulate of this approach is that all soci-eties confront similar basic problems or challenges whenthey come to regulate human activity (Kluckhohn andStrodtbeck 1961). Societies’ responses to these basicchallenges constitute their fundamental institutions, andanalysis of these challenges points to dimensions onwhich cultures can be compared.

Dimensional theories of culture identify these keychallenges, and we leverage the theory advanced byS. H. Schwartz (1994, 1999, 2004) to derive and testspecific hypotheses. Though earlier frameworks remainuseful,3 the Schwartz framework is currently consideredthe more advanced in cross-cultural psychology (Smithet al. 2006), because it affords a variety of advances:(a) It derives cultural orientations from a priori theo-rizing. (b) It designates a priori the value items thatserve as markers for each orientation. (c) It uses onlyitems tested for cross-cultural equivalence of meaning asmeasures. (d) It includes a set of items demonstrated tocover the range of values recognized cross-culturally—a step toward ensuring relative comprehensiveness ofcultural value dimensions. (e) It specifies how differ-ent cultural orientations are organized in a system ofrelated dimensions and has verified this organization.And (f) it demonstrates empirically that the order ofnational cultures on each of the orientations is robustacross different types of samples from each of a largenumber of nations (S. H. Schwartz 2004).

Our focal cultural orientation is egalitarianism,defined as “the belief that all people are of equal worthand should be treated equally in society” (N. L. Schwartz2001, p. 65). Egalitarianism is a polar position in theegalitarianism/hierarchy dimension of S. H. Schwartz(2004), which specifies a society’s orientation withrespect to legitimate modes of exerting power. A cul-ture’s relative emphasis on egalitarianism is expressedin numerous aspects of life that involve the use (andabuse) of power and authority in the political arena,the marketplace, and organizations. More generally, thisdimension addresses the basic societal challenge of guar-anteeing that people behave in a responsible mannerthat preserves the social fabric, performs the productivework necessary to maintain society, and manages theirunavoidable interdependencies. Egalitarianism seeks to

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Siegel, Licht, and Schwartz: Egalitarianism, Cultural Distance, and FDI: A New ApproachOrganization Science, Articles in Advance, pp. 1–21, © 2012 INFORMS 3

induce people to recognize one another as moral equalswho share basic interests as human beings: people aresocialized to internalize a commitment to cooperate andto feel concern for everyone’s welfare. Important valuesin such cultures include equality, social justice, respon-sibility, help, and honesty. The polar alternative, hier-archy, relies on hierarchical systems of ascribed roles;it defines the unequal distribution of power, roles, andresources as legitimate and even desirable. Social power,authority, humility, and wealth are important values inhierarchical cultures.

Power processes stand at the core of our theory. Poweris ubiquitous in social interactions, and the exercise ofpower is thus a key issue in numerous contexts (e.g.,Bourdieu 1973). Neoinstitutionalists thus care about how“legitimate coercion,” or the use of an actor’s authority,leads others to adopt a practice or behavior (Scott 1987,p. 502; 2001). Informal norms about exercising powerare likely to apply to the full gamut of a firm’s stake-holders (Freeman 1984). Social actors—both organiza-tions and individuals—draw on these norms for guidanceon acceptable modes of behavior vis-à-vis weaker coun-terparts, including employees, customers, suppliers, andsmaller competitors, and vis-à-vis powerful counterpartssuch as government officials. The ubiquity and, indeed,the diffuse nature of the concept of power led March(1988, p. 6) to assert that power is “a disappointing con-cept. It tends to become a tautological label for the unex-plained variance.” Utilizing the theoretically driven andempirically validated concept of egalitarianism allows usto avoid this trap and to deal in a disciplined way withdifferences in the ways organizations wield power andsocieties regulate its use.

A few points about operationalizing egalitarianismdeserve notice. First, evidence suggests that cross-national differences in cultural orientation dominatedifferences at subnational levels, e.g., between reli-gious groups within a country (Inglehart and Baker2000) and between geographically distant regions inlarge countries such as the United States and China(S. H. Schwartz 2004). Legal institutions also relate tothe national level. This evidence points to countries asthe appropriate level of analysis, as well as to popu-lations of MNEs as actors whose FDI patterns shouldbe studied (e.g., Schneper and Guillén 2004). Second,emphasis on egalitarianism may vary among societalsubgroups. For instance, members of the corporate elitein a given society might endorse hierarchical valuesmore than, say, minimum-wage earners. Using matchedsamples to assess cross-cultural differences may thushave an advantage over heterogeneous (including rep-resentative) samples. As noted, S. H. Schwartz (2004)further confirmed that such differences hold across sam-ple types. Third, the hierarchy pole of the egalitari-anism/hierarchy dimension exhibits some overlap withHofstede’s concept of power distance, in that both

dimensions deal with social inequality. However, fun-damental differences between the two concepts makepower distance unsuitable for our analysis. Power dis-tance refers to acceptance of inequality on the partof less powerful actors. Fear of authority is pivotal topower distance. According to Hofstede (2001, p. 53),“The question ‘How frequently are employees afraid toexpress disagreement with their managers?’ was chosenas a central question measuring power distance.” Thisitem—and two related questions—constituted the power-distance index. In contrast, the egalitarian/hierarchydimension addresses a different issue. Hierarchy doesnot imply fear of authority on the part of ordinarypeople. Hierarchical systems of ascribed roles derivetheir legitimacy from their capacity to ensure respon-sible behavior; egalitarianism emphasizes individuals’willingness to internalize commitments to the welfare ofothers and to cooperate voluntarily with them. These keyelements of egalitarianism are absent from low powerdistance.4

Furthermore, both antecedents and consequences ofegalitarianism are conceptually remote from powerdistance. At least two of the exogenous factors that pre-dict egalitarianism levels—namely, national war experi-ence that may foster an ethos of “equality of sacrifice”(Wilensky 1975, p. 71) and societal fractionalizationthat may weaken the view of all societal members asmoral equals—are conceptually unrelated to power dis-tance. At the organizational level, power distance hasbeen shown to relate to centralized decision making inorganizations (Bloom et al. 2012). Egalitarianism, how-ever, does not express a societal aversion to central-ized decision making; instead, it calls for mitigating anyinequities that centralized or decentralized organizationsmay engender. Siegel et al. (2011) thus show that higheregalitarianism correlates with the existence of laws pro-viding greater benefits to weaker members of society.As we will show, we consistently find that organizationsdistribute their product more equally in more egalitariancountries. Moreover, we found egalitarianism—possiblybecause of its better measurement and its reflection of asocietal attitude toward market power—to be economi-cally and statistically significant in explaining FDI flows,whereas power distance is not.

Causes and Consequences of EgalitarianismCultural stances on egalitarianism are largely determinedby historical factors dating back a century or more.In our sample of countries, we found approximatelyhalf of the variance in egalitarianism to be predictedby exogenous factors. Societal fractionalization, whetherconsequent to historical divisions in ethnicity, language,or religion, is an ecological variable inimical to culturalegalitarianism. Members of fractionalized societies areless likely to promote others’ welfare voluntarily, lead-ing to lower expenditures on public goods (Alesina and

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La Ferrara 2005). Among the world’s large religiousdenominations, Catholicism and Protestantism have beenassociated with political movements that promoted egal-itarian values at least since the late 19th century (Irving1979, Hanley 1994). Christian Democratic parties inboth Europe and Latin America endorsed social person-alism (Fogarty 1957), whereby the community sharesan obligation to protect the individual from the abusesof capitalism. Today, countries whose dominant religionhas historically been Catholicism or Protestantism scoresignificantly higher on egalitarianism.

Countries’ war histories also influence the develop-ment of egalitarianism. Wars, especially those foughtduring the era of state formation in the 19th century,often required the expansion of rights that promotednational solidarity (e.g., Holsti 1991, Tilly 1993). Whenthe very formation or survival of the state required sac-rifice from the lower classes, elites have been persuadedto broaden social and political rights to build a so-calledequality of sacrifice (Wilensky 1975). Higher levels ofegalitarianism today are associated with the number ofwars a country fought during the 19th century, the num-ber of days it spent at war during that century, and thenumber of military deaths it sustained in wars (Siegelet al. 2011).

Finally, we instrument egalitarianism with a variablefor a history of communist rule. Experienced in mostcountries as an exogenous shock, the adjustment to liv-ing conditions under communist totalitarian rule wasanalogized by Kohak (1992) to long-term prisoners’adaptation to jail: people develop a set of skills andattitudes that enable them to live reasonably under thecircumstances. One prominent feature of life under com-munist regimes is a ubiquitous close surveillance ofwords and deeds. Compliance is often enforced by infor-mants, diminishing the prevailing level of interpersonaltrust (Marody 1988, Nowak 1988). This scenario may inturn undermine egalitarian values that call for voluntarycommitment to the welfare of others (S. H. Schwartzet al. 2000). If others cannot be trusted, a commitment totheir welfare is foolhardy at best and self-destructive atworst—in direct contradiction to communist principles.

Egalitarianism relates to a broad set of conceptuallycompatible policy outcomes at the institutional level thatcurb abuses of economic and political power. Thus egal-itarianism is correlated with higher levels of social redis-tribution to the weak, the unemployed, and the elderly,and with greater legal protections for workers; it alsocorrelates with lower levels of corruption, regulation pre-scribing greater financial transparency, and more effec-tive anti-monopoly regulation and enforcement (Siegelet al. 2011). At the individual level of analysis, researchshows that managers in hierarchical societies tend tobelieve that status or power differences justify differ-ent rules for different people. Such managers more fre-quently invoke their status, power, or authority as a

means to force concessions from negotiation partners(Brett 2001, Tinsley 2001).

Organizations and Cultural EgalitarianismThe relationship between cultural egalitarianism andorganizational features is more complex. As yet, thereis no agreed-upon theory of cultural dimensions forcomparing organizations’ values. Cameron and Quinn(1999) developed a “competing values framework” todescribe four types of organizational cultures, but theydid not consider the impacts of the surrounding cul-ture; a meta-analysis has called this theory into ques-tion (Hartnell et al. 2011).5 Organizational practices—e.g., the use of uniforms (Trice and Beyer 1993, seealso Kirkland and Shapiro 1997)—have thus been linkedto national culture, but in the absence of an underly-ing theory of cultural dimensions, such practices cansupport different interpretations. In accordance with theneoinstitutional view of organizations as entities nestedwithin societies—and hence within the institutionalenvironment—cross-cultural psychologists advance sim-ilar accounts (e.g., Hofstede and Peterson 2000, Sagivand Schwartz 2007). Here, we advance an integratedaccount that theorizes concretely about issues at theorganizational level but also looks beyond idiosyncraticexamples to address a general strategic challenge thatall organizations face—namely, handling their relationswith stakeholders.

It stands to reason that organizations in more egal-itarian cultures practice greater sharing of resources;doing so reflects a view of all corporate constituenciesas moral equals. Resources may be material, such ascompensation or benefits; they may be notional, suchas information about the firm. In either case, posses-sion of and control over resources makes individualsor organizations more powerful. Of particular interestare organizational practices that result from managerialdiscretion rather than legal compliance, notably interac-tions with nonfinancial stakeholders such as labor andthe community that are less regulated and thus moreamenable to social pressure. For instance, less egalitar-ian compensation structures are characterized by morepayment levels and greater differentials between levels(Grol and Schoch 1998, Milkovich and Newman 2011).Siegel and Larson (2009) showed that Lincoln Electric,the famous Ohio-based maker of arc-welding equipment,faced greater difficulty implementing its successful payscheme, which relied heavily on piecework and discre-tionary bonuses, in more egalitarian countries. Regula-tions in more egalitarian countries directly limit the useof such pay practices, as well as guarantee uniform enti-tlement to leaves and other benefits regardless of work-ers’ productivity.

To motivate our hypothesis on cultural distance,we first illustrate the relations between home-country

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Table

1Egalitarianism

andAss

ociated

Organ

izational

Fea

tures

Pane

lA:P

airw

ise

corr

elat

ions

Varia

ble

labe

lD

escr

iptio

n[1

]

[1]

Egal

itaria

nism

(cou

ntrie

s’sc

ores

onth

eSc

hwar

tzcu

ltura

lega

litar

iani

smor

ient

atio

n).S

ourc

e:

2005

rele

ase

ofSc

hwar

tzcu

ltura

lval

ues

data

set(

S.H

.Sch

war

tz20

04).

1[2

]Th

era

tioof

4CEO

hour

lyw

age/

Ave

rage

prod

uctio

nw

orke

rho

urly

wag

e5(n

atio

nala

vera

gefo

r20

06(2

1co

untri

es).

Sour

ce:

Fern

ande

set

al.(

2011

)fo

rC

EOco

mpe

nsat

ion;

U.S

.Bur

eau

ofLa

bor

Stat

istic

sfo

rw

orke

rw

age.

−00

63∗∗∗

[3]

The

ratio

of4C

EOho

urly

wag

e/A

vera

gepr

oduc

tion

wor

ker

hour

lyw

age5

(Nat

iona

lave

rage

sfo

r19

97–2

007

(23

coun

tries

)).S

ourc

e:

Boa

rdex

data

base

for

CEO

com

pens

atio

n;U

.S.B

urea

uof

Labo

rSt

atis

tics

for

wor

ker

wag

e.−

0037

∗∗∗

[4]

Seve

rity

ofco

ntro

vers

ies

rela

ted

toa

firm

’sex

ecut

ive

com

pens

atio

nan

dgo

vern

ance

prac

tices

,in

clud

ing

invo

lvem

ent

inco

mpe

nsat

ion-

rela

ted

lega

lcas

es,

intra

firm

obje

ctio

ns,

and

extra

firm

criti

cism

byN

GO

sor

othe

rob

serv

ers

(nat

iona

lave

rage

for

2010

–201

1(3

7co

untri

es))

.Sou

rce

:KLD

(Soc

rate

s).

0040

∗∗

[5]

Com

pany

clai

ms

topr

ovid

efle

xibl

ew

orki

ngho

urs

orw

orki

ngho

urs

that

prom

ote

wor

k-lif

eba

lanc

e(n

atio

nala

vera

ges

for

2002

–201

0(4

3co

untri

es))

.Sou

rce

:Dat

astre

am(A

SSET

4da

taba

se).

0027

∗∗∗

[6]

ASS

ET4’

sso

cial

perf

orm

ance

scor

e(m

easu

reof

aco

mpa

ny’s

capa

city

toge

nera

tetru

stan

dlo

yalty

with

itsw

orkf

orce

,cu

stom

ers,

and

soci

ety

thro

ugh

best

man

agem

ent

prac

tices

)(n

atio

nala

vera

ges

for

2002

–201

0(4

3co

untri

es))

.Sou

rce

:Dat

astre

am(A

SSET

4da

taba

se).

0036

∗∗∗

[7]

Num

ber

ofC

SRre

port

sdi

vide

dby

the

mea

nto

talp

opul

atio

nin

mill

ions

(nat

iona

lave

rage

sfo

r19

95–2

007

(31

coun

tries

)).S

ourc

e:D

haliw

alet

al.(

2011

).00

39∗∗

[8]

Com

pany

repo

rts

usin

gor

has

been

show

nto

use

hum

anrig

hts

crite

riain

the

sele

ctio

nor

mon

itorin

gpr

oces

sof

itssu

pplie

rsor

sour

cing

part

ners

(nat

iona

lave

rage

sfo

r20

02–2

010

(43

coun

tries

)).S

ourc

e:D

atas

tream

(ASS

ET4

data

base

).00

29∗∗∗

[9]

Com

pany

repo

rts

orha

sbe

ensh

own

tobe

read

yto

end

apa

rtne

rshi

pw

itha

sour

cing

part

ner

ifhu

man

right

scr

iteria

are

not

met

(nat

iona

lave

rage

sfo

r20

02–2

010

(43

coun

tries

)).

Sour

ce:D

atas

tream

(ASS

ET4

data

base

).00

34∗∗∗

[10]

Impa

ctM

onito

r’sH

uman

Rig

hts

Man

agem

ent

scor

eco

nsid

ers

man

agem

ent

polic

ies

ona

com

pany

’sim

pact

onlo

calc

omm

uniti

esan

dfre

edom

ofex

pres

sion

(nat

iona

lave

rage

sfo

r20

10–2

011

(26

coun

tries

)).S

ourc

e:I

mpa

ctM

onito

rda

taba

se.

0058

∗∗∗

Pane

lB:R

egre

ssio

nan

alys

es

Dep

ende

ntva

riabl

e:D

V:Lo

g(pr

oduc

tion

wor

ker

com

pens

atio

n/su

bsid

iary

valu

e-ad

ded

)

Inde

pend

entv

aria

ble:

[1]

[2]

[3]

[4]

[5]

[6]

[7]

[8]

[9]

[10]

Hos

tcou

ntry

egal

itaria

nism

leve

lEx

clud

edou

tlier

s24p

rodu

ctio

nw

orke

rco

mpe

nsat

ion/

0020

8∗∗∗

0023

9∗∗∗

0017

0∗∗

0019

2∗∗

subs

idia

ryva

lue-

adde

d)>

0025

;<2

prod

uctio

nw

orke

rs6000

687

6000

717

6000

827

6000

837

Excl

uded

outli

ers2

4pro

duct

ion

wor

ker

com

pens

atio

n/00

189∗

∗∗

0023

2∗∗∗

subs

idia

ryva

lue-

adde

d)>

005;

<2

prod

uctio

nw

orke

rs6000

577

6000

597

Excl

uded

outli

ers:

(pro

duct

ion

wor

ker

com

pens

atio

n/00

214∗

∗∗

0025

9∗∗∗

subs

idia

ryva

lue-

adde

d)>

0075

;<2

prod

uctio

nw

orke

rs6000

567

6000

587

Excl

uded

outli

ers:

(pro

duct

ion

wor

ker

com

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cultural egalitarianism and firm-level practices vis-à-vis nonfinancial stakeholders. Panel A of Table 1 firstexplores these relations via a novel set of correlationsbetween egalitarianism and employment practices. Thedata, described more fully in the Data section, consist offirm-level observations that we aggregated and averagedto create measures of social norms. We find that firms inmore egalitarian countries pay their CEOs a lower mul-tiple of the average worker’s pay. Such firms are alsomore likely to face objections and outside criticism onemployment issues and to adopt employee-favoring poli-cies, suggesting the existence of mechanisms throughwhich the informal social environment influences orga-nizations to comply with cultural values. Panel A alsopresents a positive correlation between home-countryegalitarianism and the scope of firms’ nonfinancial(CSR) disclosure. To isolate the social norm componentof disclosure, we separately confirmed that this correla-tion is robust to an index of social disclosure laws drawnfrom Dhaliwal et al. (2011). We also present positivecorrelations between egalitarianism and organizationalpractices that consider human rights in the process ofselecting or terminating suppliers or sourcing partnersand that take the general community into considerationmore generally, indicating culturally consistent relationswith broader stakeholders.

Panel B of Table 1 provides a more in-depth anal-ysis of the link between egalitarianism and organiza-tional pay practices, with examples from an extensive setof regressions of firm-level data on U.S. MNEs’ inter-national subsidiaries. Using stringent specifications thatcontrol for multiple variables, we find that these sub-sidiaries pay production workers a greater share of theirvalue-added the more egalitarian the host country.6 Nocountry to our knowledge regulates the share of firmvalue-added paid to employees, but legal protections forunionized labor might enable workers to extract a largershare of the value-added. We therefore control for suchlegal protections and find that the coefficient for egalitar-ianism only becomes more pronounced. The exploratoryfindings in panels A and B of Table 1 reinforce oneanother in supporting the intuition that organizationsrespond to the surrounding culture in a conceptually con-sistent way. In tandem, these findings set the stage forour hypotheses by highlighting the question of whetherfirms that make a strategic expansion abroad can adjustfully to the culture of any destination country.

HypothesisOur hypothesis focuses on differences in cultural egali-tarianism as an impediment to a firm’s entry into inter-national markets via FDI. To fully leverage its relativeadvantage in a foreign market, a firm must decipherlocal institutions and norms pertinent to power relationswith stakeholders, many of which are informal. It isunlikely to be enough for the firm to acquaint itself with

local laws and adhere to them. Given their prior culturalembeddedness in their home-country institutional envi-ronment, MNEs may find it difficult to adjust to a hostcountry’s unwritten, unspoken rules of the game.

Our research hypothesis on egalitarianism distancefocuses on sheer distance, whatever the direction ofentry on the egalitarianism/hierarchy dimension. Thishypothesis is motivated by the view that implement-ing organizational practices in several national institu-tional environments is likely to be costly (Kogut 2004,Kostova 1999). Certain costs will stem from the needto adjust firm practices to local regulations, which mayentail legal expenses and the like. Such costs becomemore worrisome, however, to the extent that they restrictthe firm’s ability to leverage its relative advantage inthe destination market. Holburn and Zelner (2010) showthat MNEs do not necessarily prefer destination mar-kets characterized by lower policy risk—that is, the riskof unchecked exercise of political power to expropriatevalue from MNEs. Instead, they prefer markets insti-tutionally similar to those of the firm’s home country.Such institutional proximity enables firms to leveragepolitical capabilities developed at home to handle simi-lar challenges abroad (see Habib and Zurawicki 2002).Interestingly, Holburn and Zelner (2010) show thatMNEs’ ability to capitalize on their homegrown politicalcapabilities to cope with policy risk associates positivelywith the level of home-country ethnic fractionalization—a finding largely in line with our theory and evidence onsocietal fractionalization and egalitarianism.7

Stated more generally, organizational practices thathave been optimized in a home market subject to iso-morphic pressures (Zucker 1977, DiMaggio and Powell1983, Wuthnow et al. 1984) may not be fully trans-ferrable to interactions with firm stakeholders abroad,thus blunting the firm’s competitive edge. Incompatibil-ity with prevailing institutions may entail vulnerabilityto the vagaries of the market (Meyer and Rowan 1977)and may lessen the organization’s probability of survivalbecause of reduced legitimacy (Zucker 1987, Ingram andYue 2008). Because institutions are value-laden, orga-nizations may refuse, on principled grounds, to complywith foreign institutions that reflect extremely differentvalues (cf. Simons and Ingram 2003, Freeman and Audia2006). Since egalitarianism is linked to a broad arrayof institutions that govern the exercise of power in rela-tions with corporate stakeholders—including employees,financial stakeholders, competitors, and governments—distance on this dimension is likely to be especially bur-densome for foreign entry. Hence,

Hypothesis 1. Egalitarianism distance relates nega-tively to FDI flows.

Within the vast scholarship on cultural distance, moststudies have examined sheer distance; few have lookedat institutional settings in home or host countries or at

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directional cultural distance (Shenkar 2001, Datta et al.2002, Harzing 2004). Erramilli (1996) thus argues thatfirms whose home countries exhibit high power distanceprefer foreign-entry modes characterized by higher lev-els of ownership. Egalitarianism’s pervasive effect onnumerous aspects of life suggests several theoretical pre-dictions that appear to be equally plausible but may bepractically opposite. On the one hand, roots in a morehierarchical culture may equip an entrant with the inter-nal mechanisms and motivation to wield power moreboldly and thus to attain a competitive advantage over,if not to overwhelm, its stakeholders. By focusing lesson social justice—a central value in egalitarianism—such organizations may be able to gain more econom-ically. On the other hand, roots in a more hierarchicalcountry may make the entrant ill-equipped to play ona more level playing field. More stringent transparencyrequirements, greater resource sharing with more con-stituencies, and generally higher expectations for fair-ness and equality may be cumbersome for entrantsaccustomed to unquestioning obedience and deference.Thus, though prior commentators have stressed theimportance of directional distance, theoretical reason-ing can cut both ways. We therefore conduct directionalanalyses of cultural distance without proposing formalhypotheses.

DataDependent VariablesWe examine the choices of organizational populations(Ingram and Simons 2000, Simons and Ingram 2003)about the scope of their expansion to different inter-national destination markets by looking at their aggre-gate foreign direct investment decisions. To assess theirchoices of host countries for FDI, we employ, as adependent variable, the natural logarithm of FDI flows.Data on FDI flows come from the United Nations Con-ference on Trade and Development (UNCTAD) and theOrganization for Economic Co-operation and Develop-ment (OECD); the data cover the years 1970–2004,although the majority of observations originate after1990. Because UNCTAD and OECD both capture datafrom governments, their data for the years 1985–2004are consistent. For the years prior to 1985, our source isUNCTAD. We found cases during 1985–2004 in whichone organization collected data from a government whilethe other did not, and vice versa; we therefore com-bined the data sources.8 Because the data are sharplyskewed, we rely principally on the natural logarithm of(FDI flows + 1).

Cultural DistanceCultural distance on the Schwartz dimensions is com-puted using country scores from the Schwartz valuesurvey, which was conducted largely during the 1990s(for a detailed description, see S. H. Schwartz 2004;

for data, see the online appendix tables at http://dx.doi.org/10.1287/orsc.1120.0776). For every pair ofcountries, we constructed a measure of sheer distanceas being the square of the difference between the coun-tries’ scores on an orientation.9 We also constructed ameasure of signed distance as being the algebraic differ-ence between the score for the investing firm’s countryof origin minus the score for the host country.

To control for potential endogeneity of egalitarian-ism, we use social fractionalization, dominant religion,19th-century war experience, and communist-rule his-tory as instrumental variables. We separately confirmedthe validity of the instruments and the robustness ofour results. We expand the scope of the cultural dis-tance analysis by running robustness tests with culturaldata drawn from Hofstede (2001) and Project GLOBE(House et al. 2004), whose dimensions draw on Hof-stede’s work. We also use a more recent measure ofpower distance derived from the World Values Surveyby Berry et al. (2010).

Controlling for Legal DifferencesIn light of evidence that legal family affiliation is a pow-erful predictor of financial development—and other pol-icy outcomes (La Porta et al. 2008)—we control for legalfamily. A dummy is set equal to 1 when home and hostcountries belong to different legal families. FollowingSiegel et al. (2011), we began with the data on legal ori-gin reported in La Porta et al. (1999) and then surveyedchanges in civil and commercial codes in former social-ist countries. We also take into account national differ-ences in the rule of law, which encompasses legality,law and order, protection of property rights, and otherdimensions. There are many overlapping measures onthe rule of law. We use the index from the World Bank’s1998 governance indicators data set to construct distancemeasures for this institution (see Kaufmann et al. 2003,Globerman and Shapiro 2005, Antrás et al. 2007).

Among the many laws and regulations that MNEsneed to comply with, we focus on environmentalregulation—a major bone of contention in policy debatesover FDI. MNEs are often accused of engaging inregulatory arbitrage on environmental regulations, thusenriching home-country investors while depleting hostcountries’ resources. Although environmental regulationis not applicable to all industries, substantial FDI is con-centrated in potentially Polluting manufacturing indus-tries. The “Pollution Haven Hypothesis” postulates thatMNEs will flock to jurisdictions whose environmentalprotection regimes are less stringent and therefore lesscostly to comply with. The “race to the bottom” the-sis refers to the fear that jurisdictions will vie for FDIinflows by weakening their environmental protection tosocially suboptimal levels. The evidence on this subjectis decidedly mixed (see Jeppessen et al. 2002 for a sum-mary and meta-analysis).

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We operationalize differences between countries’environmental regulation regimes using Esty andPorter’s (2001) Environmental Regulatory Regime Index(ERRI). The ERRI reflects the stringency of nationalenvironmental regulation as perceived by experts. Thistime-invariant index encompasses the stringency of stan-dards, strictness of enforcement, and the quality ofenvironmental institutions. We also use the 2010 Envi-ronmental Performance Index (EPI), a measure of theperformance of countries’ environmental policies com-piled by the Yale Center for Environmental Law andPolicy and the Center for International Earth ScienceInformation Network at Columbia University. Its titlenotwithstanding, this index too is time invariant; it aggre-gates data from different time points during the 2000s.

Additional VariablesTo demonstrate the relations between egalitarianism andorganizational practices, we use national averages ofseveral firm-level variables pertaining to employees andthe larger community. We use variables that opera-tionalize hard data as well as scores constructed byexperts that cover firms from around the world, such asBoardex, KLD (Socrates), Datastream (ASSET4), andImpact Monitor. From the U.S. Bureau of Labor Statis-tics, we obtain data on worker wage; from Fernandeset al. (2011), we obtain data on CEO compensation.From the U.S. Bureau of Economic Analysis, we obtaindata on production worker compensation and value-added, which conceptually can be viewed as sales minusthe cost of purchased inputs, in foreign subsidiaries ofU.S.-based MNEs in 1994 and 1999.10 We use data onCSR reporting from Dhaliwal et al. (2011) and dataon statutory protections to unionized labor from Boteroet al. (2004).

For the analysis of cultural harmony and entrepreneur-ship, we control for differences in entrepreneurshipbetween countries using several measures. Alfaro andCharlton (2006) have pointed out the difficulty of start-ing a business in a country dominated by older andlarger firms. Skewness in the firm-age distribution andskewness in the firm-level employment-size distributionare therefore also useful measures, because a countrywith a higher skewness in firm age or employmentsize is more heavily dominated by older and/or largerfirms. Our main data are based on Alfaro and Charlton(2006), who used the WorldBase data set for 1999.For robustness tests, we use data from the World BankGroup Entrepreneurship survey (Klapper et al. 2010) andfrom the New Business Activity Index of the GlobalEntrepreneurship Monitor (GEM) (Minniti et al. 2005).The latter, a survey-based index, reflects the populationshare of “new owners”—those reporting that they areowner-managers of new firms that have paid wages orsalaries for more than 3 months but less than 42 months.To maximize country coverage, we use 2005 data.

We also consider a range of economic, geographic,and institutional variables. To take economic variablesinto account, we use the log product of origin countrygross domestic product (GDP) and host country GDP,as well as the log product of both countries’ per-capitaGDP. We control for wealth distance and signed wealthdistance by taking the squared difference of log GDPper capita for each country-pair-year. Then we take thesigned wealth distance by subtracting the log GDP percapita for the host country from the log GDP per capitafor the origin country in the same year. Data on GDPand GDP per capita are in 2000 constant U.S. dollars,drawn from the World Development Indicators.

We control for the role of corporate tax rate differ-ences (see Hines 1999, Desai et al. 2007) with data fromthe World Tax Database of the University of MichiganOffice of Tax Policy Research (OTPR). We take the ori-gin country’s top corporate statutory tax rate and sub-tract from it the host country’s top corporate statutorytax rate. Because these corporate tax data are availableonly through 2002, we augment them with corporate taxdata for 2003–2004 from the original source of the data,the Center for International Trade and Economics at theHeritage Foundation.

To control for the effect of bilateral treaties designedto avoid double taxation (see Davies 2004), we createa dummy for the existence of a bilateral tax treaty forevery country-pair-year observation. We obtain data onbilateral tax treaties from the University of MichiganOTPR. We control for the effect of bilateral investmenttreaties (BITs) using data from UNCTAD (see UNCTAD2009). A dummy variable is set to 1 if a BIT was signedor enforced for every country-pair-year observation or 0otherwise.

To control for instability, we use Henisz’s politicalconstraints index (POLCONIII; see Henisz 2000, 2006).This measure estimates the feasibility of policy changeas the extent to which a change in the preferencesof any single political actor may lead to a change ingovernment policy. Specifically, we take the squareddistance between origin-country-year and host-country-year observations. We also test for competing effects ofgovernment intervention in the economy using Visser’s(2009) measure, which follows Hall and Soskice (2001),and for democracy distance using the distance betweeneach pair of countries on their polity score (Marshall andJaggers 2009). Finally, we control for countries’ heritagewith indicator variables for whether two countries sharea common colonizer or a common language and for therole of geographic distance by taking the log of mini-mum geographic distance between all pairs of countries.

ModelTo test our hypotheses, we harness a gravity equa-tion model, which has long been the workhorse ininternational trade studies; over the last decade, it has

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made inroads into FDI studies too. The gravity equa-tion reflects the intuition that bilateral economic flowsrelate positively to the size of the economies in questionand negatively to the distance between them (Kleinertand Toubal 2010). More recent applications of the grav-ity equation add social measures of distance—language,politics, corruption, and the like—to basic geographicaldistance, on the assumption that such distance hindersFDI flows (see Zwinkels and Beugelsdijk 2010 for ref-erences). In our primary specification, we estimate thefollowing ordinary least squares (OLS) regression forcountry-pair-years during 1970–2004:

Log4FDI flows + 15ijt

= �0 +�1 ∗ Egalitarianism distanceijt

+�2 ∗ Signed egalitarianism distanceijt

+�3 ∗ Harmony distance

+�4 ∗ Signed harmony distance

+�5 ∗ Embeddedness distance

+�6 ∗ Signed embeddedness distance

+�7 ∗ Log product of origin–host GDPijt

+�8 ∗Log product of origin–host GDP per capitaijt

+�9 ∗ Signed corporate taxation distanceijt

+�10 ∗ POLCONIII distanceijt

+�11 ∗ Common languageijt

+�12 ∗ Common colonizerijt

+�13 ∗ Geographic distanceijt

+�14 ∗ Different legal familyijt

+�15 ∗ Rule of law distanceijt + �ijt1

Table 2 Summary Statistics

Descriptive statistics

Variable Mean Std. dev. Min Max No. of obs.

[1] Log(FDI flows + 1) 10152 20105 00000 110595 421783[2] Egalitarianism distance 00171 00212 00000 10297 421783[3] Signed egalitarianism distance −00008 00413 −10139 10139 421783[4] Harmony distance 00272 00343 00000 20411 421783[5] Signed harmony distance −00004 00521 −10553 10553 421783[6] Embeddedness distance 00295 00383 00000 20720 421783[7] Signed embeddedness distance 00006 00543 −10649 10649 421783[8] Log product of origin–host GDP 510338 20368 430708 590234 421783

[9] Log product of origin–host GDP per capita 170636 10754 110078 210133 421783[10] Signed corporate taxation distance 00099 110497 −530000 530000 421783[11] POLCONIII distance 00060 00086 00000 00476 421783[12] Common language 00080 00271 00000 10000 421783[13] Common colonizer 00120 00325 00000 10000 421783[14] Geographic distance 80637 00960 40127 90895 421783[15] Different legal family 00720 00449 00000 10000 421783[16] Rule of law distance 20099 20380 00000 90710 421783

where the log of origin–host pair ij’s log of (FDIflows + 1) in year t is determined by egalitarianismdistance, signed egalitarianism distance, harmony dis-tance, signed harmony distance, embeddedness dis-tance, signed embeddedness distance, the log product oforigin–host GDP, the log product of origin–host GDPper capita, corporate taxation distance, POLCONIII dis-tance, common language, common colonizer, geographicdistance, different legal family, and rule of law distance.For all models we cluster the standard errors at theorigin–host country pair level.

ResultsAfter a discussion of some preliminary tests, the firstsubsection presents the results for egalitarianism dis-tance and FDI flows and discusses the robustness ofegalitarianism distance to possible effects from a varietyof other institutions, including legal and cultural dimen-sions. The second subsection then discusses in detail theimpact of distance along the cultural dimensions.

Egalitarianism DistanceSummary statistics and a correlation matrix appear inTables 2 and 3. There is little likelihood that collinearityis a problem for our primary variable of interest, egal-itarianism distance. There is more collinearity betweenother control variables (e.g., common language and com-mon colonizer) and other cultural distance measures.In any event, we confirm that the results for egalitarian-ism distance are substantively similar with and withoutthe inclusion of all of these control variables.

Table 4 presents the main egalitarianism results. Egal-itarianism distance is negatively associated with FDIflows, in line with Hypothesis 1. This variable is highlysignificant statistically across a wide range of specifica-tions. Predicted egalitarianism distance (that is, based on

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Table

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[6]

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[9]

[10]

[11]

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∗∗

0000

9∗00

326∗

∗∗

−00

022∗

∗∗

−00

048∗

∗∗

−00

194∗

∗∗

−00

010∗

∗00

194∗

∗∗

0001

5∗∗∗

−00

056∗

∗∗

0018

4∗∗∗

0011

3∗∗∗

∗∗∗Si

gnifi

cant

atth

e0.

01le

vel;

∗∗si

gnifi

cant

atth

e0.

05le

vel;

∗si

gnifi

cant

atth

e0.

10le

vel.

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Table

4Egalitarianism

andFDIFlows

Inde

pend

entv

aria

ble

Mod

el1

Mod

el2

Mod

el3

Mod

el4

Mod

el5

Mod

el6

Mod

el7

Mod

el8

Egal

itaria

nism

dist

ance

−00

611∗

∗∗

−00

402∗

∗∗

−00

112∗

∗∗

−00

216∗

∗∗

−20

222∗

∗∗

−20

111∗

∗∗

6001

117

6001

157

6000

277

6000

487

6008

277

6007

897

Sign

edeg

alita

riani

smdi

stan

ce00

162∗

∗−

0007

0∗−

0011

8∗∗

0062

600

347

6000

747

6000

387

6000

567

6004

097

6004

127

Pred

icte

deg

alita

riani

smdi

stan

ce−

0093

1∗∗∗

−10

175∗

∗∗

6001

887

6004

237

Boa

rdex

CEO

-to-a

vera

ge-w

orke

r-−

2.93

e-06

pay

dist

ance

[3.5

3e-0

6]Si

gned

boar

dex

CEO

-to-a

vera

ge-

−00

005∗

∗∗

wor

ker-p

aydi

stan

ce6000

017

Har

mon

ydi

stan

ce00

161∗

∗00

130∗

0011

2−

0046

1∗00

078∗

∗00

141∗

∗−

0041

6∗∗∗

−00

425∗

∗∗

6000

697

6000

767

6000

757

6002

676000

337

6000

647

6001

587

6001

607

Sign

edha

rmon

ydi

stan

ce−

0037

6∗∗∗

−00

159∗

∗∗

−00

041

−00

757∗

∗∗

−00

640∗

∗∗

6000

567

6000

357

6000

617

6001

787

6001

817

Embe

dded

ness

dist

ance

−00

052

−00

409∗

∗∗

−00

358∗

∗∗

0008

800

010

0033

7∗∗∗

1066

5∗∗∗

1069

0∗∗∗

6000

607

6000

697

6000

717

6002

287

6000

257

6000

937

6003

987

6003

947

Sign

edem

bedd

edne

ssdi

stan

ce−

0068

8∗∗∗

−00

155∗

∗∗

−00

225∗

∗−

0095

9∗∗∗

−00

786∗

∗∗

6000

527

6000

437

6000

937

6002

397

6002

497

Log

prod

ucto

forig

in–h

ostG

DP

0038

9∗∗∗

−10

962∗

∗∗

−20

011∗

∗∗

0069

510

157∗

∗∗

1061

9∗∗∗

1012

1∗∗∗

1012

3∗∗∗

6000

157

6001

747

6001

737

6006

507

6000

467

6000

807

6000

467

6000

467

Log

prod

ucto

forig

in–h

ostG

DP

0014

7∗∗∗

2055

7∗∗∗

2056

6∗∗∗

0078

600

319∗

∗∗

0035

7∗∗∗

−00

070

−00

099

per

capi

ta6000

167

6001

687

6001

687

6006

557

6000

427

6001

367

6001

887

6001

997

Sign

edco

rpor

ate

taxa

tion

3.35

9E-0

400

003∗

∗00

003∗

∗00

008∗

∗∗

0002

7−

0008

3∗−

0003

7∗∗∗

−00

034∗

∗∗

dist

ance

6000

027

6000

017

6000

017

6000

037

6000

257

6000

437

6000

107

6000

107

POLC

ON

IIIdi

stan

ce00

397∗

0009

000

120

−10

532∗

∗00

047∗

0011

420

303

2027

56002

327

6002

447

6002

387

6007

487

6000

247

6001

057

6107

507

6107

497

Com

mon

lang

uage

0024

9∗00

257∗

∗00

253∗

∗00

307

0003

000

052

−00

192

−00

176

6001

367

6001

137

6001

127

6003

637

6000

367

6000

927

6004

507

6004

487

Com

mon

colo

nize

r00

298∗

∗∗

0006

500

069

−00

154

0012

9∗∗∗

0034

1∗∗∗

1015

7∗∗

1017

0∗∗∗

6001

097

6000

907

6000

907

6003

227

6000

367

6000

927

6004

517

6004

527

Geo

grap

hic

dist

ance

−00

526∗

∗∗

−00

570∗

∗∗

−00

565∗

∗∗

−00

891∗

∗∗

−00

542∗

∗∗

−00

700∗

∗∗

−00

971∗

∗∗

−00

978∗

∗∗

6000

297

6000

367

6000

357

6000

767

6000

327

6000

437

6000

847

6000

847

Diff

eren

tleg

alfa

mily

−00

141∗

∗−

0015

2∗∗∗

−00

133∗

∗∗

−00

275∗

∗∗

−00

089∗

∗∗

−00

053

0002

000

033

6000

627

6000

477

6000

487

6000

967

6000

307

6000

577

6002

827

6002

837

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Table

4(cont’d

)

Inde

pend

entv

aria

ble

Mod

el1

Mod

el2

Mod

el3

Mod

el4

Mod

el5

Mod

el6

Mod

el7

Mod

el8

Rul

eof

law

dist

ance

−00

017

−00

034∗

∗∗

−00

038∗

∗∗

−00

141∗

∗∗

0010

5∗∗∗

0026

1−

0044

6∗∗∗

−00

448∗

∗∗

6000

107

6000

107

6000

107

6000

477

6000

387

6002

227

6001

457

6001

437

Viss

ergo

vern

men

tint

erve

ntio

n−

0002

3∗∗∗

−00

264∗

∗∗

dist

ance

6000

097

6000

347

Bila

tera

linv

estm

entt

reat

y−

0001

19−

0003

2in

effe

ct6000

197

6000

387

Bila

tera

ltax

treat

yin

effe

ct00

071∗

∗∗

0005

16000

257

6000

397

Log

GD

Ppe

r-cap

itadi

stan

ce−

0009

4∗∗

−00

095

6000

457

6002

597

Sign

edlo

gG

DP

per-

0019

9∗∗∗

0070

3∗∗∗

capi

tadi

stan

ce6000

627

6001

467

Envi

ronm

enta

lReg

ulat

ory

Reg

ime

−00

115∗

∗∗

−00

273∗

∗∗

Inde

xdi

stan

ce6000

387

6000

817

Sign

edEn

viro

nmen

talR

egul

ator

y00

256∗

∗∗

0019

8∗∗

Reg

ime

Inde

xdi

stan

ce6000

417

6000

817

No.

ofob

serv

atio

ns42

,783

42,7

8342

,783

13,2

1033

,786

12,4

901,

690

1,69

0P

-val

ue00

000

0000

0000

000

0000

000

000

0000

000

000

0000

0R

-squ

ared

0037

100

532

0053

300

548

0040

600

438

0044

100

446

Not

es.P

rese

nted

are

the

resu

ltsof

OLS

regr

essi

ons

inw

hich

Log(

FDIfl

ows

+1)

serv

esas

the

depe

nden

tvar

iabl

e.M

odel

1is

the

base

line

mod

el.M

odel

2in

clud

esa

robu

stne

ssch

eck

that

intro

duce

sfix

edef

fect

sfo

rorig

inan

dho

stco

untri

esas

wel

las

year

dum

mie

s.M

odel

3in

clud

esa

robu

stne

ssch

eck

with

pred

icte

deg

alita

riani

smdi

stan

cean

dfix

edef

fect

sfo

rorig

inal

and

host

coun

tries

asw

ella

sye

ardu

mm

ies.

Mod

el4

isth

esa

me

asM

odel

3,bu

tit

incl

udes

the

use

offix

edef

fect

sfo

ror

igin

and

host

coun

tries

,w

ithVi

sser

gove

rnm

ent

inte

rven

tion

dist

ance

adde

d.M

odel

5in

clud

esa

robu

stne

ssch

eck

that

stan

dard

izes

allv

aria

bles

and

adds

embe

dded

ness

mec

hani

ms.

Mod

el6

incl

udes

aro

bust

ness

chec

kth

atco

ntro

lsfo

rVi

sser

gove

rnm

ent

inte

rvne

tion

dist

ance

.M

odel

7is

whe

reth

esa

mpl

eis

rest

ricte

dto

coun

try-

year

obse

rvat

ions

with

Boa

rdex

CEO

-to-a

vera

ge-w

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r-pay

dist

ance

data

avai

labl

e.M

odel

8is

the

sam

eas

Mod

el7,

but

itin

clud

esB

oard

exda

ta–b

ased

dist

ance

mea

sure

s.R

obus

tst

anda

rder

rors

corr

ecte

dfo

rcl

uste

ring

atth

eor

igin

–hos

tco

untr

ypa

irle

vel

appe

arbe

low

the

coef

ficie

nts

inbr

acke

ts.

∗∗∗Si

gnifi

cant

atth

e1%

leve

l;∗∗si

gnifi

cant

atth

e5%

leve

l;∗si

gnifi

cant

atth

e10

%le

vel.

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our instrumental variables) similarly exhibits a signifi-cant negative sign (Models 3 and 4) and thus confirmsthe causal role of egalitarianism distance in channel-ing FDI. This central finding is robust to a set of vari-ables that control for additional mechanisms as detailedin the tables. Whereas the results for egalitarianismdistance are robust (even in specifications with fixedeffects),11 the results for signed egalitarianism distanceare not. This finding is noteworthy because of the impor-tance ascribed to directional distance (Shenkar 2001)and because of the significant relations between FDI andother directional distances, as detailed below.

Egalitarianism distance is also economically mean-ingful in affecting FDI flows. In a stringent speci-fication that utilizes instrumental variables to predictegalitarianism and that incorporates origin and hostcountry fixed effects along with year dummies(Model 3), we compared the economic impact ofdistance on several institutional factors. Specifically,we looked at the percentage change in the dependentvariable (DV) for a one-standard-deviation increase inegalitarianism distance and other institutional variables.We thus find that a one-standard-deviation increase inpredicted egalitarianism distance is associated with ameaningful, but also realistic, −11.76% change in meanlog FDI flows when converted to millions of dollars.At the level of (mean DV + one standard deviation inDV), this effect reflects a decrease from $194.54 mil-lion to $171.67 million.12 The economic significanceis naturally greater when looking at egalitarianism dis-tance without fixed effects. In comparison, one-standard-deviation increases in rule of law distance, commonlanguage, and different legal family are associated withchanges in log FDI flows of −8.71%, 7.11%, and−5.78%, respectively.

Among the legal distance factors, a different legalfamily affiliation is a negative factor for FDI. This vari-able may be capturing a broad effect of multiple facetsof difference between the legal systems of the home andhost countries, above and beyond the costs of comply-ing with particular rules. In contrast, bilateral investmenttreaties fail to show a significant link. This result maybe surprising in that these treaties are designed to fosterFDI, but it is not out of line with the current literature,which is indeed in flux (see UNCTAD 2009). Bilateraltreaties on double taxation do show an expected posi-tive (though not always stable) sign. Corporate taxationdistance does not have a robust effect, perhaps becausebilateral tax treaties serve to reduce the effect of taxationdistance.

There are interesting effects for environmental regu-lation distance. Both sheer and signed distances showa negative sign, but the latter is far more economicallyimportant. Sheer differences in environmental regula-tion may hinder FDI because firms’ technologies andorganizational structures may be calibrated to certain

modes of regulation. More importantly, however, FDIflows from countries with strict environmental controlsto countries with lax environmental controls even afteraccounting for country wealth and rule of law effects.Similar results are obtained with environmental regula-tion variables from the Global Competitiveness Reportsfor 2000–2005 and the 2010 Environmental PerformanceIndex. Indeed, this is strong evidence in support of thePollution Haven Hypothesis.

Finally, the size of the economies, economic devel-opment, and geographic distance all exhibit signs asexpected in a standard gravity equation setting. Similar-ity of colonial heritage and a common language tend tobe positive factors but are not significant in all models.In terms of the political environment, the distance onpolitical stability is not a stable factor, and the variablefor government intervention distance shows a negativesign (albeit in a reduced sample). In any event, the focalegalitarianism distance factor retains its robustness tothese factors.13

The findings in Table 1 motivate an inquiry intowhether the effect of egalitarianism distance on FDIflows is robust to differences in pay practices. Onemay also wonder whether differences in pay practicesare absorbed by egalitarianism distance in the regres-sions. We report sample results of this inquiry in Mod-els 7 and 8 of Table 4, where we enter distance andsigned distance measures of CEO-to-average-worker-payratios, respectively, using Boardex data. Strikingly, notonly do we confirm that egalitarianism distance remainsrobust, we also find that signed pay ratio distance isnegatively and significantly related to FDI flows. (In aseparate set of tests, we confirmed that egalitarianismdistance is robust to distance measures of other fac-tors mentioned in panel A of Table 1.) Narrowly inter-preted, this finding supports the view that top executivesin MNEs may prefer to expand to destinations wheretheir counterparts would earn a higher multiple of ordi-nary workers’ pay. More broadly, this result is consistentwith the notion that the degree of egalitarianism in theorganizational compensation schemes prevailing in dif-ferent countries may channel FDI flows to countries withless egalitarian schemes. Taken together, these findingspoint to the all-encompassing nature of egalitarianism asa fundamental social institution and to the multifacetedeffect it may exert on organizations via specific norms.

Cultural Distance on Additional DimensionsIn addition to the egalitarianism/hierarchy dimension,on which we have focused thus far, the model ofS. H. Schwartz (1994, 1999, 2004) distinguishes twocultural dimensions: embeddedness/autonomy and mas-tery/harmony. The antecedents of egalitarianism that wehave identified enable us to hypothesize about the conse-quences of egalitarianism for FDI based on a full chainof factors, from exogenous antecedents, to culture, to

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norms, and to firms’ strategic decisions. The literaturedoes not yet offer a similar theory that would ground acausal analysis of how cultural distance on the other twodimensions might affect FDI. Nonetheless, several argu-ments support the consideration of cultural distance onthese dimensions in this study. These two dimensions areon an equal footing with egalitarianism in the theoreticalmodel, but they differ in the substantive societal issuesthey address. Such differences in content meaning implythat cultural dimensions affect different societal featuresthan organizations may deem important for internationalexpansion. We should therefore determine (1) that egal-itarianism distance is robust to the effect of distance onthese cultural dimensions, (2) how such compatible, spe-cific factors relate to FDI, and (3) whether such factorsexhaust the effect of distance in the general dimension.

The embeddedness/autonomy dimension concerns thedesirable relationship between the individual and thegroup. Embeddedness signifies cultural expectations torestrain actions or inclinations that might disrupt thetraditional order or the solidary group in which peo-ple are embedded. The opposite pole, autonomy, char-acterizes cultures in which the person is viewed as anautonomous, bounded entity who is expected to cul-tivate and find meaning in his or her own unique-ness. We separately found that embeddedness associatesmore closely with the ERRI measure of environmen-tal regulation, its components, and other environmentalregulation variables than with any other cultural dimen-sion. One explanation may be that in-groups in high-embeddedness societies pay relatively less attention, inthe course of pursuing their own economic and othergoals, to encroachments on the integrity of others’ prop-erty or on the physical environment.

The mastery/harmony dimension refers to the relationof humankind to the natural and social world. Masterysignifies an emphasis on venturing and getting aheadvia active self-assertion to master, change, and exploitthe natural and social environment. Harmony representsan emphasis on fitting pacifically into the environment.Prior literature has noted cultural harmony’s inverse con-ceptual link to entrepreneurship as a socially sensitiveactivity (Sørensen 2007). Cultural harmony is also asso-ciated with a societal deemphasis of such entrepreneurialvalues as daring, ambition, success, and choosing one’sown goals (S. H. Schwartz and Ros 1995). These val-ues are compatible with an entrepreneurial spirit thatreflects creative destruction and new combinations à laSchumpeter (1934) and Kirzner (1973), among others,and are thus less compatible with cultural harmony (seeLicht and Siegel 2006 for a survey).

Table 4 confirms that the effect of egalitarianism dis-tance on FDI flows is robust to controlling for distanceon the other two cultural dimensions of the Schwartzmodel. Thus, countries’ cultural profiles are repre-sented by entering one orientation from each dimension.

(Recall that these dimensions are operationalized usingthe same methodology.14) Having established causal-ity in connection with egalitarianism distance, we mayfeel more confident that observed correlations with dis-tance on other dimensions probably reflect causal effectsas well.

Table 5 shows (as do other tables) that sheer embed-dedness distance is not a significant factor in FDI flows,and directional embeddedness distance exhibits a neg-ative sign. The latter result indicates a broad pref-erence for lower-embeddedness cultural environments.Although embeddedness has been linked to a lower ruleof law (Licht et al. 2007), it is important to note thatwe control specifically for rule of law distance as wellas wealth differences. As Model 3 in Table 5 shows,the effects of both distance and directional distance onERRI are significant while the coefficient for signedembeddedness distance weakens. This finding suggestsone important channel through which cultural distanceexerts its influence on FDI. That is, because the envi-ronmental regulation measures capture more than legalcompliance, this finding may reflect regulatory arbitrageon substantive environmental policy.

Table 6 reports that, though sheer harmony distanceis not significant, signed harmony distance is negativelyand significantly associated with FDI flows, indicatingthat MNEs prefer to expand to markets where the cul-ture is higher on harmony. We examine whether signedharmony distance is robust to differences in countries’proclivity toward entrepreneurship and find that it is.Concurrently, entrepreneurial activity distance is itself apositive and statistically significant determinant of FDIflows. We also note a decrease in signed harmony dis-tance, possibly as a result of this relation. The resultsare consistent regardless of whether we use the skew-ness measures for firm age or the firm-level employmentsize. These measures have the advantage of being factbased, yet we find largely similar results with survey-based measures.15 To our knowledge, this is the firstempirical evidence that distance in societal proclivitytoward entrepreneurship is actually positive in influenc-ing the direction of FDI flows. Further research is neededto test the limits of this finding, but we are encouragedthat it is robust to the inclusion of entrepreneurial activ-ity measures from different sources and using differentmethodologies.

Discussion and ConclusionsThis study advances the literature on the multinationalfirm on two fronts, substantive and methodological.First, we provide robust evidence for the hypothesisthat cultural distance affects FDI decisions. We iden-tify and theorize about the importance of egalitari-anism distance in channeling the direction of foreign

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Table 5 Embeddedness Distance and Associated Mechanisms

Model 1 Model 2 Model 3

Egalitarianism distance −00119∗∗∗ −00098∗∗∗ −00112∗∗∗

6000277 6000267 6000277Signed egalitarianism distance 00016 −00100∗∗∗ −00070∗

6000367 6000377 6000387Harmony distance 00074∗∗ 00077∗∗ 00078∗∗

6000337 6000337 6000337Signed harmony distance −00209∗∗∗ −00175∗∗∗ −00159∗∗∗

6000377 6000367 6000357Embeddedness distance −00006 00009 00010

6000267 6000257 6000257Signed embeddedness distance −00425∗∗∗ −00201∗∗∗ −00155∗∗∗

6000367 6000437 6000437Log product of origin–host GDP 10150∗∗∗ 10173∗∗∗ 10157∗∗∗

6000497 6000477 6000467Log product of origin–host GDP per capita 00325∗∗∗ 00288∗∗∗ 00319∗∗∗

6000407 6000417 6000427Signed corporate taxation distance 00004 00010 00027

6000257 6000257 6000257POLCONIII distance 00051∗ 00053∗∗ 00047∗

6000267 6000247 6000247Common language 00033 00036 00030

6000387 6000367 6000367Common colonizer 00116∗∗∗ 00131∗∗∗ 00129∗∗∗

6000387 6000377 6000367Geographic distance −00533∗∗∗ −00541∗∗∗ −00542∗∗∗

6000337 6000327 6000327Different legal family −00101∗∗∗ −00088∗∗∗ −00089∗∗∗

6000327 6000317 6000307Rule of law distance −00022 00027 00105∗∗∗

6000267 6000287 6000387Bilateral investment treaty in effect −00016 −00017 −00012

6000207 6000197 6000197Bilateral tax treaty in effect 00062∗∗ 00065∗∗∗ 00071∗∗∗

6000267 6000257 6000257Log GDP per-capita distance −00124∗∗∗ −00094∗∗

6000447 6000457Signed log GDP per-capita distance 00422∗∗∗ 00199∗∗∗

6000497 6000627Environmental Regulatory Regime Index distance −00115∗∗∗

6000387Signed Environmental Regulatory Regime Index distance 00256∗∗∗

6000417No. of observations 33,786 33,786 33,786P -value 00000 00000 00000R-squared 00386 00400 00406

Notes. Presented are the results of OLS regressions in which Log(FDI flows + 1) serves as the dependent variable. Model 1: without GDPper-capita distance or Environmental Regulatory Regime Index distance. Model 2 adds in GDP per-capita distance, and Model 3 addsin GDP per-capita distance and Environmental Regulatory Regime Index distance. All variables are standardized for each model. Robuststandard errors corrected for clustering at the origin–host country pair level appear below the coefficients in brackets.

∗∗∗Significant at the 1% level; ∗∗significant at the 5% level; ∗significant at the 10% level.

direct-investment activity. We find that egalitarianismdistance exerts a negative and economically signifi-cant influence on foreign direct-investment flows bymultinationals. Second, we advance first evidence onconsistent relations between cultural egalitarianism andorganizational features, and we suggest organizationalchannels through which egalitarianism may exert its

influence. Third, we observe that FDI is also more likelyto travel from low-embeddedness to high-embeddednesscountries. The related finding that FDI tends to flowto jurisdictions with more lax environmental protectionregulation supports the Pollution Haven Hypothesis.Fourth, we present novel evidence that sheer differencesin countries’ proclivity to entrepreneurship may affect

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Table 6 Harmony Distance and Associated Mechanisms

Model 1 Model 2 Model 3 Model 4

Egalitarianism distance −00149∗∗∗ −00148∗∗∗ −00147∗∗∗ −00147∗∗∗

6000287 6000287 6000287 6000287Signed egalitarianism distance −00055 −00082∗∗ −00056 −00122∗∗∗

6000397 6000407 6000387 6000387Harmony distance 00017 00010 00014 00025

6000347 6000337 6000357 6000347Signed harmony distance −00131∗∗∗ −00077∗ −00128∗∗∗ −00065∗

6000367 6000417 6000367 6000377Skewness in firm-age distance 00134∗∗∗

6000287Signed skewness in firm-age −00148∗∗∗

distance 6000337Skewness in firm-level employment- 00164∗∗∗

size distance 6000307Signed skewness in firm-level 00198∗∗∗

employment-size distance 6000367Embeddedness distance 00021 00027 00021 00014

6000277 6000267 6000277 6000277Signed embeddedness distance −00124∗∗∗ −00119∗∗∗ −00128∗∗∗ −00074∗

6000447 6000447 6000457 6000447Log product of origin–host GDP 10240∗∗∗ 10280∗∗∗ 10247∗∗∗ 10222∗∗∗

6000497 6000517 6000497 6000507Log product of origin–host GDP 00317∗∗∗ 00316∗∗∗ 00326∗∗∗ 00295∗∗∗

per capita 6000457 6000457 6000457 6000457Signed corporate taxation 00017 00010 00005 −00033

distance 6000257 6000257 6000257 6000257POLCONIII distance 00048∗ 00053∗∗ 00045∗ 00052∗∗

6000277 6000267 6000277 6000267Common language 00021 00022 00020 00024

6000377 6000377 6000387 6000377Common colonizer 00123∗∗∗ 00131∗∗∗ 00131∗∗∗ 00135∗∗∗

6000377 6000377 6000407 6000397Geographic distance −00549∗∗∗ −00542∗∗∗ −00538∗∗∗ −00528∗∗∗

6000337 6000327 6000327 6000327Different legal family −00102∗∗∗ −00107∗∗∗ −00100∗∗∗ −00087∗∗∗

6000317 6000317 6000327 6000307Rule of law distance 00130∗∗∗ 00129∗∗∗ 00132∗∗∗ 00137∗∗∗

6000417 6000417 6000417 6000407Bilateral investment treaty −00001 −00008 00005 −00009

in effect 6000197 6000197 6000207 6000197

FDI flows positively, although FDI tends to flow to coun-tries higher on cultural harmony.

This study also makes methodological advances.We heed calls to distinguish among cultural dimensionsand between sheer and directional cultural distance,and we show that their roles may indeed be differ-ent. In tandem with the cultural account, we consideradditional institutional accounts including differences inlegal and political institutions, and we make first stepstoward accounting for organizational features. Further-more, we do not simply assume cultural stability butimplement an instrumental variable approach to egalitar-ianism that allows us to make causal inferences about itsrole as based solely on exogenous factors in channeling

FDI. The analyses utilize an advanced cultural dimen-sional framework drawn from S. H. Schwartz (2004)that provides a different vantage point than Hofstede’s.Finally, we perform an especially extensive set of robust-ness checks, including showing that our results arerobust to the use of origin and host country fixed effects.

Managers who have followed the literature on culturaldistance might have concluded that this concept is use-less for guiding business strategy, in light of the mixedfindings about its impact on FDI. Corporate leaders thusmight concentrate on the operational aspects of FDIprojects and at most team up with local partners to gainfamiliarity with the destination market. This study showsthat such an approach may be wrongheaded. Cultural

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Table 6 (cont’d)

Model 1 Model 2 Model 3 Model 4

Bilateral tax treaty in effect 00074∗∗∗ 00077∗∗∗ 00077∗∗∗ 00071∗∗∗

6000267 6000267 6000257 6000257Log GDP per-capita distance −00106∗∗ −00112∗∗ −00092∗ −00104∗∗

6000487 6000477 6000487 6000467Signed log GDP per-capita 00242∗∗∗ 00201∗∗∗ 00251∗∗∗ 00289∗∗∗

distance 6000647 6000637 6000647 6000617Environmental Regulatory Regime −00135∗∗∗ −00123∗∗∗ −00139∗∗∗ −00161∗∗∗

Index distance 6000407 6000407 6000407 6000387Signed Environmental Regulatory 00258∗∗∗ 00312∗∗∗ 00251∗∗∗ 00166∗∗∗

Regime Index distance 6000427 6000437 6000427 6000427No. of observations 31,687 31,687 31,835 31,835P -value 00000 00000 00000 00000R-squared 00412 00416 00408 00418

Notes. Presented are the results of OLS regressions in which Log(FDI flows + 1) serves as the dependent variable. Model 1: Sample tem-porarily restricted to countries with skewness in firm-age data; Model 2 adds skewness in firm-age distance. Model 3: Sample temporarilyrestricted to countries with skewness in firm-level employment-size data; Model 4 adds skewness in firm-level employment-size distance.All variables are standardized for each model. Robust standard errors corrected for clustering at the origin–host country pair level appearbelow the coefficients in brackets.

∗∗∗Significant at the 1% level; ∗∗significant at the 5% level; ∗significant at the 10% level.

distance is pervasive and ubiquitous; it manifests itselfin fundamental, societal structure and in innumerablespecific contexts. Distance on egalitarianism in partic-ular could hinder effective implementation of strategiesvis-à-vis all of the firm’s stakeholders. Worse yet, thereis probably no quick fix for cultural distance. The find-ings on egalitarianism and organizational social normssuggest that foreign entrants may find it particularly dif-ficult to identify and adjust to such informal norms.At the same time, corporate leaders who are aware ofthese issues may be able to exploit cultural distance totheir benefit once it ceases to be a nebulous idea andcan be given concrete and practical meanings. Firms thatcontemplate foreign entry might thus be well advisedto assess the effect of cultural distance on each culturaldimension for the country and the project in question.

Nearly two decades have passed since researchersbegan to harness Hofstede’s (1980) pioneering frame-work to improve our understanding of cultural dis-tance. Following Ghoshal and Westney’s (2005) call forintegrating organization theory and international man-agement, this study shows that egalitarianism distance isindeed a fundamental factor in determining FDI flows.The present analyses are inevitably limited and suggestdirections for further research. One avenue of researchis to seek appropriate instrumental variables for othercultural dimensions, comparable to what we have donehere for egalitarianism versus hierarchy. Another is toexamine more closely the role of directional distance.Progress in this direction will improve researchers’ abil-ity to identify the causal mechanisms linking cultureand policy outcomes. Another avenue of inquiry is toidentify more specifically the social institutions throughwhich cultural orientations exert their influence on orga-nizations. In-depth inquiries into the causal role of

organizational practices and other features appear tobe a fruitful field for further research. The more suchmechanisms are identified, the richer both organizationaltheory and our understanding of the multinational orga-nization will become.

AcknowledgmentsThe statistical analysis of firm-level data on U.S. multina-tional companies was conducted at the Bureau of EconomicAnalysis, U.S. Department of Commerce, under arrangementsthat maintain legal confidentiality requirements. The viewsexpressed are those of the authors and do not reflect offi-cial positions of the U.S. Department of Commerce. Theauthors thank Jim Hines for providing data on international taxtreaties, Anthony Kim for providing recent data on corporatetax rates, Heather Berry for sending data on power distancebased on the WVS, and Linda Petkova for research assis-tance. Funding from the Harvard Business School Division ofResearch and Israel Science Foundation [Grant 921/02-1] isgratefully acknowledged.

Electronic CompanionAn electronic companion to this paper is available as part ofthe online version at http://dx.doi.org/10.1287/orsc.1120.0776.

Endnotes1See Shenkar (2001), Datta et al. (2002), Harzing (2004), Tihanyiet al. (2005), Kirkman et al. (2006), and Berry et al. (2010).2Ghoshal and Westney (2005, p. 1) thus call for “build[ing] abridge between two fields that had not developed a particularlyclose relationship:organization theoryand internationalmanage-ment.” Numerous authors have called for additional research onhow multinational firms are challenged by multiple, potentiallyconflicting institutional pressures across the markets in whichthey operate (Rosenzweig and Singh 1991, Ghoshal and Westney1993/2005, Zaheer 1995, Westney 2005).

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3Hofstede’s (1980) theory may retain its vitality in several con-texts, but operationalizing cultural distance with Kogut andSingh’s (1988) aggregated construct, based on Hofstede’s dimen-sions, has reached an impasse. See S. H. Schwartz (2004) for acomparative analysis of the Hofstede and Schwartz models.4Empirically, S. H. Schwartz (2004) shows that across 57 nations,power distance correlated 0.30 with hierarchy, −0.46 with egal-itarianism, and −0.40 with the egalitarianism/hierarchy dimen-sion. Thus the dimensions are related as expected but still distinct.For example, China is very high on power distance (ninth) andvery low on egalitarianism/hierarchy (last).5SeeSchein (1985–2005) foranotherorganizational-level theory.House et al. (2004) (a report on the GLOBE project) and Brickson(2005) adapt societal-level value dimensions to organizational-level features.6Weconsider the ratioofproductionworkercompensation tosub-sidiary value-added as defined by the U.S. Bureau of EconomicAnalysis (BEA), and to obtain meaningful results, we restrict theanalysis to instances of positive value-added. Note that the gen-eral thrust of this paper suggests a potential selection issue in thatU.S. MNEs may prefer to hold subsidiaries in markets closer onegalitarianism to the United States. Such a potential bias wouldstack the deck, however, against finding significant signs in ourregressions. We are grateful to an anonymous referee for pointingthis out.7In line with studies in economics, Holburn and Zelner (2010)also link such political capabilities to the prevailing level ofeconomic inequality. Empirically, however, we do not observea significant correlation between egalitarianism and economicinequality using Gini coefficient data for the year 2000 or closeto it. This may be the case, inter alia, because cultures vary inthe legitimacy they ascribe to unequal distribution of economicresources.8Our background research indicates that the data captured fromthe inward host government is likely to be the most comprehen-sive. There are cases, however, in which only the outward origingovernment has reported data. Thus we rely on inward FDI obser-vations but incorporate outward observations if the former aremissing. Because governments tended to take several years torelease final comprehensive data to these two organizations, thesample ends in 2004. A tiny percentage of observations repre-sent the selling off of foreign direct investments rather than newinvestments; we treat those cases as zeroes but also confirm, viaa robustness check that temporarily excludes them, that they arenot influential.9Taking the absolute value of the difference between countries’egalitarianism scores yields similar results.10Specifically, using data collected in its surveys of foreign sub-sidiary operations, BEA computes the value-added of foreignsubsidiaries from the factor income side as the sum of costsincurred (except inputs) and profits in production. The two post-1990 benchmark survey years are 1994 and 1999, when therelevant questions were put to a comprehensive set of U.S.-headquartered multinationals.11Fixed effects models may seem to provide powerful robustnesstests, but here, they raise thorny issues. As Table 3 shows, egali-tarianism distance variables are robust to origin and host countryfixed effects with time dummies. However, such models do notcontrol for unobserved time-varying heterogeneity. As a time-invariant linear combination of countries’ cultures, furthermore,a fixed effects model cannot identify the role of signed cultural

distance, as the latter are linear combinations of country terms,and thus it gets absorbed into the fixed effects.12We observe a similar role for egalitarianism distance when weexperiment with a dependent variable constructed by subtractingmerger and acquisition flows from FDI flows for every country-pair-year (see Online Appendix Table 7). Although this measureis not based on disaggregated data, which are necessary for suchan analysis, one may consider this finding a first glimpse of egal-itarianism’s effect on greenfield and joint-venture FDI flows.13We confirmed the robustness of the egalitarianism distanceresult in several additional checks. These tests include Tobit esti-mation (though the postestimation diagnostic “tobcm” in STATAshowed that not all Tobit conditions are met, indicating that itshould not be relied on), quadratic assignment procedure, andCochrane–Orcutt instead of OLS regression. Using the Levin–Lin–ChuandHarris–Tzavalisunit rootandBreitung tests,wefindstrong evidence that the panels do not contain unit roots. Thisresult is also robust in alternative samples, including an exclusivefocus on the 1990s (when many of the cultural measurementswere taken), the use of OECD FDI data alone, and the use oflog product of origin–host national population instead of, or inaddition to, the size of the economies. These tests are available inonline appendices and from the authors upon request.14We have also confirmed that the results are robust to the inclu-sion of cultural data from Hofstede (2001) and of cultural datafrom Project GLOBE (House et al. 2004), whose dimensionsdraw on Hofstede (1980). In addition, we have confirmed that theresults are robust to the inclusion of power distance as measuredby Berry et al. (2010) using World Values Survey (WVS) data.See Online Appendix Tables 5 and 6.15In robustness checks not reported in the tables, we find consis-tent results using the GEM measure. Because this measure comesfrom the end of our sample period, we experimented with limit-ing the analysis to post-1979, post-1989, and post-1994. We alsofind similar results using alternative measures of entrepreneurialactivity distance based on data from the World Bank GroupEntrepreneurship Survey.

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Jordan I. Siegel is an associate professor of business admin-istration at the Harvard Business School. His research focuseson how companies can best manage institutional differencesacross countries. He has written on how firms can rent foreigninstitutions as a means of substituting for weak governanceinstitutions at home, how labor market institutions impact thedesign and success of global business strategies, and how cul-ture impacts the decision of where to locate foreign directinvestments.

Amir N. Licht is a professor of law at the Radzyner Schoolof Law at the Interdisciplinary Center Herzliya. He earned hisLL.M. and S.J.D. from Harvard Law School and undergradu-ate degrees in law and economics from Tel Aviv University.His research currently focuses on comparative corporate gov-ernance, psychological dimensions of governance, and inter-national securities regulation. He teaches corporate law andsecurities regulation at the IDC Herzliya, where he was alsoDean of the Law School.

Shalom H. Schwartz holds the post of Leon and ClaraSznajderman Professor Emeritus of Psychology at HebrewUniversity of Jerusalem and Scientific Supervisor of the Socio-Cultural Psychology Laboratory at the National ResearchUniversity–Higher School of Economics in Moscow. Duringthe 1970s and 1980s, he was one of the pioneers in researchon pro-social and altruistic behavior and has since publishedwidely on the nature and consequences of basic human valuesand cultural value differences.

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Egalitarianism, Cultural Distance, and Foreign Direct Investment… · 2012-09-21 ·...

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