Formal Institution Deficiencies and Informal Institution Substitution: MNC Foreign Ownership Choice in Emerging Economy

Abstract

This study suggests that multinational corporations (MNCs) use foreign ownership choice as a strategic response to formal institutional deficiencies in emerging economy. We argue that although MNCs choose lower ownership level in foreign subsidiaries when economic and political institutional deficiencies are high, informal institutions can substitute for deficient formal institutions. A longitudinal analysis of 9,377 foreign entries in China shows that social institutions serve as substitutes for deficient economic institutions but not for deficient political institutions in shaping foreign ownership choice; and the substitutive effect of social institutions is especially important for foreign subsidiaries with lower levels of slack resources or do not have SOEs as the local partner.