Relationship between national culture and economic performance, relevant institutions, and corporate finance

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Objective of cross-cultural psychology

Many sciences study culture, with each focusing on a slightly different aspect aiming to understand culture and its place in science through its own set of tools and epistemological lenses. The field with particular relevance to our research question is cross-cultural psychology. Berry et al. (1992) defines cross-cultural psychology as “the scientific study of human behavior and its transmission, taking into account the ways in which behaviors are shaped and influenced by social and cultural forces” (Berry et al., 1992, p.1), and later adding that it is “the study of similarities and differences in individual psychological functioning in various cultural and ethnic groups; of the relationships between psychological variables and sociocultural, ecological, and biological variables; and of current changes in these variables” (Berry et al., 1992, p.2).
Cross-cultural psychology is related to, and has its roots in, several other disciplines, such as ecology, anthropology, sociology, linguistics, biology, and psychology. The subject of cross-cultural psychology is how “social context” influences certain characteristics and the behavior of the “population”, which, according to Berry et al. 1992, positions it between psychology studying the individual and anthropology studying the “social context” (Berry et al., 1992, p. 191).
At the center of the discipline of cross-culture psychology, and illustrated as the square shape to the extreme right in Figure 2.1., is the notion that culture influences social behavior. Berry et al. (1992) states that “the field of cross-cultural psychology has established fairly solid linkages between how individuals act (including thoughts, feelings, and motives) and the culture that nurtured them” (Berry et al., 1992, p. 281). This assertion translates to the proposition that a better understanding of the influence of culture on behavior could lead to a better explanation of human behavior in many areas. Understanding which cultural aspects influence what type of behavior through which mechanisms are areas of interests in cross-cultural psychology. Our dissertation corresponds to this line of inquiry as we attempt to address whether national culture influences management’s tendency to make decisions leading to overinvestment in capital expenditures. Hofstede (2001) places culture between human nature, which is common to all people to one extreme, and personality, which is unique to the individual on the other. Kluckhohn and Murray (1948) remarked that “Every man is in certain respects: (a) like all other men; (b) like some other men; (c) like no other man” (Kluckhohn and Murray, 1948, p. 35). Positioning cross-cultural psychology in this sentence, Berry et al. (1992) point out that the discipline studies shared characteristics of members of a culture differentiating them from other groups of people (point b from the quote), while attempting to uncover “cultural universals” (Berry et al., 1992, p. 170), characteristics and/or behaviors that are shared across cultures (point a). The very assumption of the existence of such “universals”, along with a focus on empirical testing, places the discipline epistemologically towards positivism. At the same time, it explicitly recognizes that most facets of life, and indeed of social science, are culture bound; that is its validity or its applicability is influenced by the cultural environment. Echoing this argument, House et al. (2004) also differentiates “culturally generalizable” and “culture specific” elements of culture (House et al., 2004, p. 19), with the former referring to the “universals” of Berry et al. (1992), and the latter to those unique to some cultures.

Relationship between culture and management

Examining the relationship between culture and management is important to address our research question. If culture can be accepted to influence managerial decision making, it provides reasonable grounds to presume such a relationship extends to other if not all, areas of economic behavior and organizational life. Moreover, corporate financial policy, of which investment in capital expenditures is a part of, is itself a form of managerial decision making. Theories differ in their views as to the impact of national culture on management, and how this relationship is likely to change in the future. An influential theory is the Universality Hypothesis, which is based on the work of Mintzberg (1973), who observed the work of managers in private and public organizations in the US, and integrated his findings with other studies carried out on the work of managers in some Western European countries. His analysis led him to conclude that all managerial work can be classified into three categories (interpersonal, informational, decisional) indifferent of the context (Mintzberg, 1973). Accordingly, the Universality hypothesis states that management theories are generally valid, and neither industry, sector, nor culture influences practice. Such an approach is termed “Culture Free” approach to management (House et al., 2004). Al-Yahya (2009) describes two empirical studies sponsored by international organizations carried out in ten African countries to assess management work with the ultimate aim to aid training and development. These studies largely confirmed the Universality Hypothesis. Lubatkin et al. (1997) analyzed the work of managers in Hungary and Senegal and compared their results with data from the above mentioned African studies. Similarly, they find evidence supporting the Universality hypothesis. Part of the Universality research strand, Convergence Theory argues that the impact of culture on the nature of managerial work is a function of economic development. As economic development occurs, culture’s impact diminishes; thus, the nature of managerial work converges (Al-Yahya, 2009; Lubatkin et al., 1997). Ronen (1986) posits that optimal management practices are related to the economic, technological, and political environment of the organization. According to him, adaptation of a given technology will have the same structural consequences in all national settings. With regards to convergence, Berry et al. (1992) expresses a view that “while convergence may occur at the organizational structure and technology (macro-level variables), individual attitudes and values (micro-level variables) will remain culturally distinct.” (Berry et al., 1992, p. 320) Related to the notion of convergence is another sub-theory of the Universality Hypothesis called the Situational Theory. It argues that in addition to the differing level of economic development between countries, the nature of managerial work within a given country is influenced by other factors such as the sector, size, technology, resources, and the position of the manager within the corporate hierarchy. Different management theories yield optimal behavior in each situation defined by such situational variables (Lubatkin et al., 1997).
Both the Convergence- and Situational theories are compatible with the Universality Hypothesis with regards to culture as in that the former predicts cultural differences to diminish and ultimately vanish in the fullness of time, and the latter believes optimal management theories and practice are determined by the given situation and are applicable across cultures. These theories deny lasting cultural influence.

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Relationship between national culture and economic performance, relevant institutions, and corporate finance

A critical factor in determining overall economic behavior, strategy and other corporate decisions are the goals of the individual making those decisions. Hofstede et al. (2002) surveyed 1,800 MBA students in fifteen different countries collecting data on their perception of the goals successful business people pursue in their own countries. The authors found that students’ scores were more related to their nationality than to the university they attended, indicating the strength of national culture’s influence. Based on the responses, countries could be classified into seven clusters yielding seven types of leaders. For example the US type leader was perceived to believe in values such as getting bigger is getting better, one must focus on bottom line, and that wealth is a prime measure of human worth, while leaders in Continental Europe were characterized more by values such as social responsibility, and focus on continuity. Clusters identified were significantly correlated with country’s value orientations as measured by Hofstede’s dimensions of national culture. The most relevant values related to societal values emphasizing the individual versus the collective, acceptance of power inequality, and focus on the long-term versus the short-term. (Hofstede et al., 2002) Guiso et al. (2006) advises studying culture to advance the explanation of the behavior of economic agents. They point out that culture having an effect on economic outcomes is not a recent concept, as it was already formulated and applied by economists such as Adam Smith and John Stuart Mill.
Franke et al. (1991) argue that economic organization and behavior are fundamentally determined by national culture; thus culture has a significant impact on economic growth. In their opinion culture is a fundamental origin of nations’ competitive advantages. Studying the economic performance and national culture of twenty countries, they find empirical evidence that cultural values are systematically related to economic performance.
Knack and Keefer (1997) find that determinants of social capital such as trust and cooperation are related to economic success. The authors also state that “Economic activities that require some agents to rely on future actions of others are accomplished at lower cost in higher trust environments” (Knack and Keefer, 1997, p. 1252.). Their argument suggests that certain cultural values can lower certain agency costs, most likely such as the costs associated with monitoring and enforcement. Studying regions of Europe, Tabellini (2010) also concludes that aspects of culture such as trust and respect are positively correlated to economic development in the long-term. Johnson and Lenartowicz (1998) also conjuncture that national culture influences a country’s economic system. The authors use the dimensionalist frameworks of both Hofstede and Schwartz to better explain and describe the mechanisms how culture affects economic growth. They found a strong relationship between economic growth and the willingness to assume uncertainty, and values putting the interests of the individual in front of those of the collective (Johnson and Lenartowicz, 1998).

Institutions and culture

In New Institutional Economics, Williamson (2000) in his discussion of social institutions differentiates four social levels with higher levels affecting and constraining lower ones. He identifies level one (highest), as “embeddedness […] where the norms, customs, mores, traditions, etc. are located” (Williamson, 2000, p. 596), and levels two, three and four as the formal institutional environment, governance, and resource allocation respectively. Roland (2004) notes that to be able to serve their purpose, social institutions must have “systemic consistency”, that is they must be “compatible” and “complementary”, emphasizing Williamson’s model. Culture, in level one, influences the structure and functioning of other institutions of society located at lower levels. Williamson’s model is illustrated on Figure 2.3. The direction of the main influence is shown by the large empty arrows, while the thinner black arrow on the right represents the lower levels asserting a significantly smaller influence on the higher ones similar to a feedback loop. While this effect establishes a two-way causal direction between culture and institutions, Williamson (2000) hypothesized that any meaningful cultural change takes centuries or more making the causal direction flowing from culture to institutions for any practical consideration. Combining the insights of New Institutional Economics with those of cross-cultural psychology, researchers found empirical support for culture influencing formal institutions.

Table of contents :

List of tables
List of figures
Chapter I. Introduction 
1.1 Research question
1.2 Theories and hypotheses .
1.2.1 Motivation for overinvestment .
1.2.2 Culture and financial decision making .
1.2.3 Culture’s dual influence on overinvestment .
1.2.4 Quantifying culture .
1.2.5 Hypotheses .
1.3 Data and methodology .
1.3.1 Research philosophy and approach .
1.3.2 Initial sample .
1.3.3 Detecting potential overinvestors .
1.3.4 Base model .
1.3.5 Limitations .
1.4 Results .
National Culture and Overinvestment in CAPEX – Zoltan Horvath .
1.4.1 Descriptive statistics .
1.4.2 Multivariate analysis .
1.5 Implications .
1.6 Structure of dissertation .
Chapter II. Review of culture and overinvestment literature .
2.1 Culture .
2.1.1 Definition of culture .
2.1.2 Objective of Cross-Cultural Psychology .
2.1.3 Relationship between culture and management .
2.1.4 Relationship between national culture and economic performance, relevant institutions, and corporate finance .
2.2 Overinvestment .
2.2.1 Agency conflicts distorting corporate investment .
2.2.2 Agency cost of free cash flow .
2.2.3 Optimism and overconfidence related overinvestment .
Chapter III. Dimensionalism .
3.1 The dimensionalist approach .
3.2 Underlying cultural dimensions: values .
National Culture and Overinvestment in CAPEX – Zoltan Horvath
3.3 Dimensionalist models .
3.3.1 Hofstede’s model .
3.3.2 Schwartz’s model .
3.3.3 The GLOBE project .
3.4 Criticism .
3.4.1 Criticisms of dimensionalism .
3.4.2 Criticisms of Hofstede’s model .
3.4.3 Criticisms of the GLOBE model .
3.4.4 Criticisms – conclusion
Chapter IV. Overinvestment and culture 
4.1 Culture influences opportunity to overinvest – indirect cultural influence of overinvestment
4.2 Culture influences decision leading to overinvestment – direct cultural influence on overinvestment
4.2.1 A gap in extant literature
4.2.2 The mechanism of cultural influence
4.2.3 Culturally bounded Agency Theory
4.2.4 Culture and overconfidence induced overinvestment
National Culture and Overinvestment in CAPEX – Zoltan Horvath
4.3 Hypotheses
4.3.1 Masculinity
4.3.2 Power Distance
4.3.3 Individualism
4.3.4 Uncertainty Avoidance
Chapter V. Methodology 
5.1 Research philosophical orientation .
5.1.1 What is epistemological stance? .
5.1.2 Role of epistemological stance in research .
5.1.3 Main epistemological paradigms .
5.1.4 Research approaches .
5.1.5 Epistemological paradigm and research approach adopted by Dissertation .
5.2 Empirical methodology .
5.2.1 Sample .
5.2.2 Empirical model .
Chapter VI. Results and discussion .
6.1 Descriptive statistics .
6.2 Multivariate results
National Culture and Overinvestment in CAPEX – Zoltan Horvath .
6.2.1 Initial results
6.2.2 Robustness tests .
6.3 Conclusion: results .
Chapter VII. Conclusion .
7.1 Note on ethics
7.2 Advancing theoretical understanding .
7.2.1 More understanding, better models .
7.2.2 Some support for culturally-contingent view of Agency Theory .
7.3 Assisting policy makers to mitigate overinvestment .
7.3.1 Better cross-cultural cooperation .
7.3.2 Better country-level policies .
7.4 Assisting practicing managers and investors
7.5 Future research


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