Capital Markets and Firm Organization: How Financial Development Shapes European Corporate Groups

TLDR

The study examines how financial development influences the formation of European corporate groups. The authors use exogenous industry measures to isolate the effect of financial development on group affiliation via internal capital markets. They find that less developed financial markets are associated with a higher share of group affiliates in capital‑intensive sectors, especially among young, small firms and affiliates of large diversified groups, suggesting internal capital markets can be more efficient than external ones and drive group affiliation even in developed economies. The paper was accepted by Bruno Cassiman, business strategy.

Abstract

We investigate the effect of financial development on the formation of European corporate groups. Because cross-country regressions are hard to interpret in a causal sense, we exploit exogenous industry measures to investigate a specific channel through which financial development may affect group affiliation: internal capital markets. Using a comprehensive firm-level data set on European corporate groups in 15 countries, we find that countries with less developed financial markets have a higher percentage of group affiliates in more capital-intensive industries. This relationship is more pronounced for young and small firms and for affiliates of large and diversified groups. Our findings are consistent with the view that internal capital markets may, under some conditions, be more efficient than prevailing external markets, and that this may drive group affiliation even in developed economies. This paper was accepted by Bruno Cassiman, business strategy.