The Role of Country Governance in Firm Responses to Economic Protectionism

Many countries have recently enacted investment-related national security screening laws and regulations (“national security screening laws” for short) that protect domestic firms from foreign ownership. Agency theory prescribes that these laws will dissuade managers from risky, long-term research and development (R&D) investments because these laws can dilute the disciplining role of the market for corporate control. Yet, agency theory’s prescription undermines the importance of country governance that firms are also subject to. We propose that firms subject to different country governance exhibit differential responses to the enactment of national security laws because country governance can shape the type of governance issues faced by firms. In addition, the role of country governance in shaping firms’ differential responses is stronger when managers have a lower level of decision discretion prior to the enactment of these laws. Using 40,843 firms from 61 countries, we find support for our arguments. Findings from this study advance comparative corporate governance research by highlighting that the influence of foreign acquisitions on R&D investment is contingent on country governance that firms are embedded in.