The Impact of Economic Integration on Cross-Border Venture Capital Investments: Evidence from the European Union
Alhorr, Hadi S., Moore, Curt B., Payne, G. Tyge, Entrepreneurship: Theory and Practice
Despite major policies surrounding economic integration among countries (e.g., the European Union [EU], North Atlantic Free Trade Area, and Mercosur), the theoretical and empirical research addressing the impact of such policies on various countries' entrepreneurial activities has yet to fully emerge. To address this issue, this paper draws on institutional, economic, and entrepreneurship literatures to examine if two specific economic integration mechanisms, namely market and currency commonality, increase cross-border venture capital flows made by participating nations in the EU. Findings suggest that broad scale economic integration policies do influence the extent of foreign venture capital investments made into other member countries.
An enduring, underlying thesis in the fields of business and economics is that entrepreneurial activity is central to long-term economic stability, growth, and development (e.g., Hayek, 1945; Kirzner, 1973, 1979). Recently, the relationship between entrepreneurship and economic growth has seen increased interest at the state and national levels (e.g., Henderson, 2002; Reynolds et al., 2005; van Stel, Carree, & Thurik, 2005). Discussion in this area has centered principally on the idea that governments seeking economic renewal can stimulate economies by reducing financial constraints on the entrepreneur, thus creating increased levels of entrepreneurial activity (Bygrave & Minniti, 2000; Mitchell et al., 2002). Indeed, entrepreneurship has proven to be an essential part of economic growth because of its impact on new job creation, increased trade, and heightened levels of competition (Henderson; Minniti, 1999; Mitchell et al.; Reynolds, Hay, & Camp, 1999).
In order to achieve such positive economic effects on a larger scale, a number of national regions have sought to increase economic momentum by creating economically integrated regions across several nations (e.g., the European Union [EU], the North American Free Trade Area, the Southern Common Market, and the Common Market of Eastern and Southern Africa). Economic integration includes such mechanisms as eliminating tariffs, developing common markets, and creating common currencies, which all support market incentives for entrepreneurial strategies (Bosma, Jones, Autio, & Levie, 2008). Generally speaking, economic integration has a positive impact on the overall national economies of the member countries (e.g., Krugman & Obstfeld, 2002) and works to stimulate the reinforcing effects of globalization and entrepreneurship (Jones, 2006). For example, being part of the "Euro zone" makes it possible for the EU members to transfer economic resources from countries with healthy economies to those suffering economic setbacks; such actions work to improve the aggregate economic situation of the integrated area in the long run. Also, such globalization mechanisms tend to vastly increase the integration of financial capital markets among involved countries. Such trends have generally improved the efficiency of financial markets for all participants as capital is now better able to move to areas where it receives the highest reward (Jones).
While economic integration has been utilized extensively throughout the world, it has gained relatively no attention in the field of entrepreneurship, despite a seemingly important relationship. In general, economic integration removes trade barriers and allows goods, services, capital, labor, and technology to move more freely between member countries (e.g., Rose, 2000; Rose & Van Wincoop, 2001). These outcomes, which are empirically and theoretically associated with the integration of economies, tend to promote entrepreneurial activity across regions within nation states (e.g., Bosma et al., 2008; Carree & Thurik, 2003; van Stel et al., 2005). More specifically, integration reduces the uniqueness of institutional structures among countries and increases access to research and educational facilities, sources of financing, and skilled labor pools, which improves the level of entrepreneurial activity (Bartholomew, 1997). Furthermore, an infrastructure that enhances cooperation among entrepreneurs of different countries facilitates problem-solving and cross-border entrepreneurial activity (Casson, 1990). Likewise, since entrepreneurship is typically at the cutting edge of technology, innovation, and new market development, policies restricting trade across markets are generally biased against entrepreneurial activities (Busenitz, Gomez, & Spencer, 2000; Nelson, 1982). Thus, as Kreft and Sobel (2005) argue, entrepreneurship may serve as the "missing link" between the integration of economies across geographic regions and economic growth.
Based on these foundational arguments, this study seeks to take the first step toward understanding how specific government trade policies influence cross-border entrepreneurial activity throughout a multinational region. Specifically, we question whether higher levels of economic integration, through common market and common currency mechanisms, stimulate cross-border venture capital (VC) outflows. VC outflows refer to the aggregated VC investments flowing from traditional private equity/venture firms and corporate venture firms into foreign new ventures, and to the coinvesting by venture firms and corporate venture firms across borders. These investment flows represent primary investments in private ventures and are not secondary public market purchases. We utilize VC investment flows because extant literature has shown VC investments to be an important determinant of entrepreneurial activity (Bruining & Wright, 2002; Henderson, 2002; Kreft & Sobel, 2005) and because research dealing with the crossing of national borders by VC firms has been identified as a "major research gap" in the existing literature (Wright, Pruthi, & Lockett, 2005, p. 135). (1)
This paper proceeds as follows. First, building on more general research linking institutional theory, economics, and entrepreneurship, as well as previous studies that examine the factors (e.g., geographic distance, cultural distance, venture stage, VC firm size, and financial relevance) affecting the level of VC activity in foreign markets (Maula & Makela, 2003; Meyer & Shao, 1995), we develop testable hypotheses regarding our research question. Specifically, our research question asks whether the economic integration mechanisms of common market and common currency increase the level of cross-border VC investments in entrepreneurial ventures. Next, we test these hypotheses by following national changes in cross-border VC investing across time at various levels of EU integration. Finally, we conclude the manuscript with a discussion of the key findings, paying particular attention to governmental policy implications.
The link between entrepreneurship and economic growth has long been theoretically recognized (e.g., Schumpeter, 1934). Empirically, studies based on self-employment rates or on the Global Entrepreneurship Monitor database have begun to establish the key role that entrepreneurship plays in national economic growth (e.g., Blanchflower, 2000; Carree, van Stel, Thurik, & Wennekers, 2002; van Stel et al., 2005; Zacharakis, Bygrave, & Shepherd, 2000). Additionally, research has more specifically demonstrated that, among other ways, entrepreneurs affect national economic growth through the introduction of innovations and new products or processes (Acs & Audretsch, 2003), increasing competition (Nickell, 1996), and the creating of knowledge spillovers (Audretsch & Feldman, 1996; Audretsch & Keilbach, 2004).
Despite these studies validating a relationship between entrepreneurial activity and economic growth, it is still rather unclear how nations, through specific governmental policy, might stimulate entrepreneurial activity. One possible option for policy makers is to involve the country in regional economic integration. Economic integration, largely achieved through regional trade agreements (RTAs), is an increasingly common phenomenon occurring aeross the globe (World Bank, 2005). RTAs are defined as actions taken by governments to liberalize or facilitate trade on a regional basis, oftentimes through the creation of free-trade areas and customs unions (Levy, 2006). Following the theory of comparative advantage among nations (Scharpf, 1996), integration is expected to boost competition, promote growth in certain industries, and positively impact national economies (Krugman & Obstfeld, 2002; Rose, 2000; Rose & Van Wincoop, 2001).
Recent works in the entrepreneurship literature (e.g., Henderson, 2002; Minniti, 1999; Mitchell et al., 2002; Reynolds et al., 1999), have argued that multinational economic integration mechanisms may also promote entrepreneurship in similar ways. In other words, as countries enter greater levels of regional economic integration, entrepreneurs are encouraged, both inside and outside of established firms, to exploit opportunities in the new, broader marketplace (Bygrave & Minniti, 2000). Thus, entrepreneurship may act as a mediator or catalyst between integration policies and economic growth (Minniti). We contribute to this literature by suggesting that the adoption of a common market and a common currency are two key integration mechanisms that are positively associated with the level of cross-border VC investment occurring between involved countries and, therefore, to the entrepreneurial development within those associated countries. This is important because there is evidence that the behavior of venture capitalists is central to the increased levels of entrepreneurial activity occurring within and between nations by encouraging the flows of capital and ideas (Barry, 1994; Bygrave & Timmons, 1999; Kreft & Sobel, 2005; Manigart, 1994).
Venture capitalists have shown increasing interest in crossing borders to gain access to investment opportunities, as shown by the growing level of activity internationally. According to Gompers (2005), for example, half of new VC funds originate from nondomestic sources in Asia and Europe, while less than 10% of VC funds are nondomestic in the United States. Further, the share of VC inflows from nondomestic sources more than doubled in Europe from 1988 to 2003, while outflows almost quadrupled during the same time frame (Wright et al., 2005). Of course, the investment activity of venture capitalists is contingent on a number of institutional factors such as the development of stock markets and legal infrastructures within the target countries (Wright et al., 1993, 2005). …
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Publication information: Article title: The Impact of Economic Integration on Cross-Border Venture Capital Investments: Evidence from the European Union. Contributors: Alhorr, Hadi S. - Author, Moore, Curt B. - Author, Payne, G. Tyge - Author. Journal title: Entrepreneurship: Theory and Practice. Volume: 32. Issue: 5 Publication date: September 2008. Page number: 897+. © 2007 Baylor University. COPYRIGHT 2008 Gale Group.
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