Does it cost to be politically connected? An examination of the grabbing hand hypothesis using corporate taxes

Abstract

Extant studies on political connections document both benefits and costs for firms. In this study, we investigate whether politically connected firms pay higher taxes than their non-connected counterparts and thus facilitate politicians to receive political benefits. Using the presidential election in Indonesia as an exogenous event, and analysing a sample of Indonesian listed firms over the period 2007–2016, we show that politicians extract resources from firms to realise their political objectives, for example, increasing tax revenues and gaining votes. We also find that politicians pursue more rent-seeking among firms with transactional political connections. In return for over-payment of corporate taxes, these connected firms enjoy lower cost of borrowing and higher firm value after the election year. These results are robust to the use of different regression techniques (i.e., pooled ordinary least square and probit) and tests (i.e., endogeneity, parallel trend assumption and placebo), and support the grabbing hand hypothesis of political connections. Our study contributes to the scarce literature showing that politically connected firms help politicians by providing higher tax revenues and experience a lower cost of debt and higher firm value in exchange for providing this favour to politicians.