Corruption, digital economy and profitability of foreign subsidiaries

Drawing on more than 14,000 multinational enterprises and their foreign subsidiaries (over 18,000) operating in 14 emerging markets over the period of 2008-2016, we find that there is a reversed J-shaped relationship between profitability of a foreign subsidiary and host country corruption: when the host country corruption is in a middle range, foreign subsidiary profitability is strongly and negatively affected, which we argue is consistent with prospect theory. Yet, when corruption is widespread and becomes a norm, reducing uncertainty, the financial performance becomes relatively stronger, albeit still at a lower level compared to corruption-free environment. Furthermore, business restrictions decrease foreign subsidiary profitability, yet corruption attenuates this negative relationship, which is in line with the (narrowly defined) greasing-the-wheel theory. Foreign companies operating in digital sectors are less affected both by the host country corruption and by the business restrictions, compared to those in non-digital sectors.