Asymmetry and the moderating effects of formal institutional distance on the relationship between cultural distance and performance of foreign subsidiaries in Latin America

Sammanfattning: This study investigates how Cultural and Formal Institutional distances and their interaction affect the performance of multinational foreign subsidiaries in Latin America. It is shown that using Kogut and Singh (1988) index or attributing the positive and negative signals to distances in opposite directions fail to capture asymmetric effects as it assumes either symmetry or opposing symmetry. To overcome such limitations, I propose an alternative measurement, which allows capturing the asymmetric effects of distances on the performance of foreign subsidiary firms. To test the main research question, I run a panel data model including 1466 subsidiaries, being 1216 from developed and 250 from developing countries, totaling 168 combinations of different home and host countries for a period ranging from 2013 to 2015.Cultural Distance is measured using Hofstede (1980) dimensions and Formal Institutional distances are calculated using the six World Governance Indicator’s variables. Findings show that when the direction of cultural and formal institutional distances is included, the effects on performance are in fact asymmetric. Moreover, not all formal institutional distances affect in a negative manner the performance of developed country subsidiaries operating in less developed countries as these firms seem to know how to interpret and respond to different regulatory quality conditions in the host countries. Latin American firms are in advantage when dealing with formal institutional distances while being affected in the same manner by cultural distances if compared to other emerging market firms from outside Latin America. Emerging market firms are affected in a positive manner while operating in less developed countries and in a negative way when institutions in the host country are superior to its home country. Finally, results show that formal institutional distance positively moderates the relationship between cultural distance and performance particularly when formal institutional distance is towards less developed countries. It can be concluded that despite the fact that cultural values remain fairly stable over time, the contextual changes in terms of formal institutions (and formal institutional distances among countries) will modify the way cultural distance affects the performance and the competitiveness of firms around the world.