Accessibility to external finance and entrepreneurship: A cross-country analysis from the informal institutional perspective

ABSTRACT

By using individual-level survey data from 97 countries, we investigate the effect of informal institutions on external financing and its impact on entrepreneurship. We find that a culturally driven entrepreneurial environment allows entrepreneurs to obtain more debt, equity, and venture capital financing, and this, in turn, increases entrepreneurial activities. We further find that culturally driven entrepreneurial environment is more critical in determining entrepreneurship than formal institutional arrangements (such as investor protection). Our results provide evidence that cross-country variations in entrepreneurship can be explained by differences in cultural support to new venture financing across countries.

KEYWORDS:

• Entrepreneurial culture
• external finance
• entrepreneurship

Notes

¹ For instance, Eberhart et al. (2017) argue that, in some societies, failed entrepreneurs are often shunned, and this creates heightened uncertainties for potential entrepreneurs. Therefore, the risk for entrepreneurs is not only limited to financial loss: the risk also includes the perceived stigma associated with the failed businesses.

² Scott (1995) considers three distinct forms of institutional frameworks, including regulative, normative, and cognitive structures.

³ For instance, it has often been suggested that European countries, compared to the United States, generally suffer from “entrepreneurial deficit” (see Henrekson & Sanandaji, 2017, for details).

⁴ Baumol (2002) indeed suggests that entrepreneurs sometimes seek power and prestige by starting new businesses.

⁵ A number of articles in several well-regarded journals, including Journal of Business Venturing, Entrepreneurship Theory and Practice, Strategic Entrepreneurship Journal, Journal of International Business Studies, and Journal of Management Studies, have conducted empirical analyses using the GEM database. For further details, see Álvarez, Urbano, and Amorós (2014).

⁶ After matching GEM data with the World Bank’s two other sources of country-level data, we find a complete set of sample data for 97 countries. These countries are: Algeria, Angola, Argentina, Australia, Austria, Bangladesh, Barbados, Belgium, Bolivia, Bosnia, Botswana, Brazil, Canada, Chile, China, Colombia, Costa Rica, Croatia, Czech Republic, Denmark, Dominican Republic, Ecuador, Egypt, El Salvador, Estonia, Ethiopia, Finland, France, Germany, Ghana, Greece, Guatemala, Hong Kong, Hungary, Iceland, India, Indonesia, Iran, Ireland, Israel, Italy, Jamaica, Japan, Jordan, Kazakhstan, Kosovo, Latvia, Libya, Lithuania, Luxembourg, Macedonia, Malawi, Malaysia, Mexico, Montenegro, Namibia, Netherlands, New Zealand, Nigeria, Norway, Pakistan, Palestine, Panama, Peru, Philippines, Poland, Portugal, Puerto Rico, Romania, Russia, Saudi Arabia, Serbia, Singapore, Slovak Republic, Slovenia, South Africa, South Korea, Spain, Suriname, Sweden, Switzerland, Syria, Taiwan, Thailand, Tonga Island, Trinidad, Tunisia, Turkey, Uganda, United Arab Emirates, United Kingdom, United States, Uruguay, Vanuatu, Venezuela, Vietnam, and Zambia.

⁷ To examine our second research question, we create two subsamples of countries with high versus low entrepreneurial cultures. Categorizing CUL into a binary form (0, 1) allows us to create such samples conveniently (for example, countries that belong to CUL0 represents countries with low entrepreneurial culture). To remain consistent with CUL, we assign binary values for other key variables, including external sources of financing and entrepreneurship. We, however, estimate models using Likert scale data of our main variables and find qualitatively similar evidence. To conserve space, we report some of our estimated results using Likert scale data in Panel A of Table 9.

⁸ The effect of culture is stronger for equity than it is for debt. This is not surprising given that equity holders bear the residual risk of the firm, but reap the upside rewards. Hence, an entrepreneurial culture that tolerates risk might be more willing to provide equity capital to the businesses in exchange for higher potential rewards. Equity investment is riskier compared to debt, and this is especially true in the case of small businesses. For many small businesses, business loans are often guaranteed by the assets of inside owners (Berger & Udell, 1998), thereby mitigating some of the risks associated with debt.

⁹ In case of EQUITY, the marginal effects of CUL1 (CUL2) and INVPR are 0.067 versus 0.002 (0.093 versus 0.002), significant at the 1 percent level. While using VC as a dependent variable, the marginal effects of CUL1 (CUL2) and INVPR become 0.078 versus 0.002 (0.388 versus 0.006), significant at the 1 percent level.

¹⁰ It can be argued that the presence of entrepreneurs may result in subsequent demand for external financing. Furthermore, the entrepreneurial culture may create an environment of more entrepreneurial activities and the subsequent need for financing. We, therefore, estimate the coefficients of Model 1 after controlling for previous year’s entrepreneurial activities (ENTR_it-1). We find that while CUL still has a significant and positive impact on FIN_it, there is an insignificant effect of ENTR_it-1 on FIN_it. Hence, the existence of entrepreneurial culture in a country seems to play a more critical role in facilitating financing than the mere presence of entrepreneurial activities. Furthermore, the marginal effect of CUL always remains stronger than that of INVPRO. As an example, we find that the marginal effect of CUL1 on DEBT is 0.055, significant at the 1 percent level, in this extended Model 1. In contrast, the marginal effect of INVPRO is 0.001, significant at the 10 percent level. Therefore, an entrepreneurial culture is more important than a formal institution in shaping entrepreneurial financing even after controlling for country-level entrepreneurial activities. We thank an anonymous reviewer for pointing this out.

¹¹ In exogeneity tests corresponding to different regression models, we always find CUL1 as an exogenous variable.

¹² Using a sample of 5,000 firms from Kauffman Firm Survey, Robb and Robinson (2014) also find that the debt (Owner Debt + Insider Debt + Outside Debt) and equity (Owner Equity + Insider Equity + Outsider Equity) usages of newly founded firms are also not much different ($59,246 versus $49,771). In general, small businesses’ usage of debt and equity appears rather balanced.

¹³ We thank two anonymous reviewers for their suggestions of robustness checks.

¹⁴ Countries with high (low) entrepreneurial culture are those with CUL = 1 (CUL = 0).

¹⁵ We create samples of two cluster of countries based on the following definitions. According to the World Bank classification, high-income economies are those countries with per capita gross national income of $12,056 or more. As per definition of the International Monetary Fund (IMF), countries that possess a “human development index (HDI)” of more than 0.80 are classified as advanced economies.

¹⁶ Results are qualitatively the same in case of both equity and venture capital financing.

¹⁷ Muralidharan & Pathak (2017, p. 298) mention that “for example, National Science Foundation in the United States has invested in the iCorps program, which seeks to encourage entrepreneurs to start viable businesses.”

¹⁸ Using our current dataset, we do not find any evidence that the presence of entrepreneurial activities creates a demand for financing in the following year. Furthermore, our model estimations (not reported) do not exhibit that the availability of financing results in more entrepreneurial activities in the coming year. Therefore, we do not have any evidence of a virtuous cycle between entrepreneurial activities and the availability of external financing.