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Homophily and Finance

Paper Session

Friday, Jan. 5, 2024 10:15 AM - 12:15 PM (CST)

Marriott Rivercenter, Grand Ballroom Salon D
Hosted By: American Finance Association
  • Chair: Tracy Wang, University of Minnesota

Group Identity and Agency Frictions: Evidence Using Big Data

Jitendra Aswani
,
Harvard University

Abstract

Does group identity alleviates agency frictions? Using a novel Indian identity database to perceive the managers' and board members' identities, I provide evidence that the manager with a similar social identity as the board members relatively earns higher compensation. A firm benefits from paying the cost of in-group favoritism as the manager's reciprocation increases the long-run value and reduces agency frictions. A 1% increase in compensation due to group identity increases firm value by 1.8%. Results are robust to alternate definitions of group identity. These findings have comprehensive implementation as it suggests that statistical discrimination can be efficient and Pareto optimal.

Similarity Breeds Trust: Political Homophily and CEO-Board Communication

Sudipto Dasgupta
,
Chinese University of Hong Kong
Ran Guo
,
Stockholm University
Xiao Ren
,
Chinese University of Hong Kong-Shenzhen
Tao Shu
,
Chinese University of Hong Kong

Abstract

We find evidence suggesting that similarity of political views between the CEO and independent directors (“political homophily”) encourages the CEO to share adverse information with the board. Firms with higher political homophily have lower stock price crash risk, are more likely to divest previously acquired assets with poor announcement returns, and write down loss-making assets. Furthermore, the effect of political homophily is complemented by strong shareholder governance which prevents friendly board from insulating the CEO in the case of ex post negative outcomes. Our identification utilizes the exogenous variation in political beliefs associated with the entry of a conservative television network in local markets. Our findings show that a friendly board facilitates CEO-board communication which is crucial for the board to function effectively in its advisory role.

Decomposing Partisan Bias: Evidence from Entrepreneur-Politicians

Deniz Okat
,
Hong Kong University of Science and Technology
Mikael Paaso
,
Erasmus University Rotterdam

Abstract

We study the nature of partisan optimism in economic expectations in Finland, where governments are often formed through coalitions of multiple parties. Consistent with previous research, we find that individuals are more inclined to invest when their preferred political party holds a greater number of seats in the government. However, this effect becomes insignificant once we account for the differences between people’s opinions and the government’s views on social and economic issues. Instead, alignment of economic views appears to be the primary factor that explains investment decisions. Our findings suggest that ideological similarity is a more significant driver of partisan optimism than “blind party loyalty.”

Discussant(s)
Yihui Pan
,
University of Utah
Elena Pikulina
,
University of British Columbia
Jiajie Xu
,
University of Iowa
JEL Classifications
  • G3 - Corporate Finance and Governance