Navigating the Financing Constraints: The Role of Social Capital in Developing Countries

Abstract

This article uses data from 111 developing countries to document the effect of social capital on financing constraints faced by private firms. The results show that firms headquartered in countries with high social capital face lower financing constraints than firms headquartered in countries with low social capital. These findings are robust to a comprehensive inclusion of country-level and firm-level controls. We argue that social capital is instrumental in creating an environment in which managers are less likely to act opportunistically, thereby increasing the trust of capital providers in firms. Consequently, capital providers are more likely to grant credit to firms, thereby reducing the financing constraints. The findings also show that the relationship between social capital and financing constraints is moderated by firm-specific and country-specific characteristics. Firms with weaker fundamentals and firms headquartered in countries with weaker institutions are more likely to benefit from improvement in social capital. JEL Codes: A13, G3