Governance Matters and Entrepreneurial Activities

701FEATURE ARTICLE

Published online in Wiley Online Library (wileyonlinelibrary.com)

© 2012 Wiley Periodicals, Inc. • DOI: 10.1002/tie.21494

Correspondence to: Hassan Gholipour Fereidouni, School of Management, Universiti Sains Malaysia (USM), 11800 Penang, Malaysia, 0060 17 480 9810 (phone),

+ 604 657 7748 (fax), [email protected]

Governance Matters

and Entrepreneurial

Activities

Introduction

Entrepreneurship has been recognized as an im-

portant mechanism for economic development

through employment, innovation, and welfare

effects (e.g., Acs & Armington, 2006; Audretsch, 2007;

Baumol, 2002; Schramm, 2006; Schumpeter, 1934; Shane,

2008; Wennekers & Thurik, 1999). Entrepreneurs drive

innovation, they speed up structural changes in the econ-

omy, and they force old firms to shape up, thereby mak-

ing an indirect contribution to productivity (Bosma, Acs,

Autio, Coduras, & Levie, 2008). The following statement is-

sued by the leaders of the world’s largest economies (G20)

on November 15, 2008, highlights the importance of en-

trepreneurship as a force behind economic development:

Our work will be guided by a shared belief that mar-

ket principles, open trade and investment regimes,

and effectively regulated financial markets foster the

dynamism, innovation, and entrepreneurship that are

essential for economic growth, employment, and pov-

erty reduction. (Klapper, Lewin, & Quesada, 2009)

More countries are paying attention to new eco-

nomic models, and one such approach that is getting

more consideration and offering much potential is

entrepreneurship (National Commission on Entrepre-

neurship, 2002). A study of European Union countries

showed that 83% of the annual change in gross national

product (GNP) is related to the growth in sales rev-

enue of smaller firms surpassing the growth of larger

firms (Thurik, 1994). In India, entrepreneurship aids

in reducing poverty and helps to grow the number of

middle-class people within the country (Gupte, 2004).

Moreover, the US Small Business Administration cal-

culates that 53.7% of all employment and 55% of all

This study uses Global Entrepreneurship Monitor (GEM) and World Bank Group Entrepreneurship

Survey data from 40 countries from 2002 to 2008 to examine the linkage between governance matters

and entrepreneurial activities. Based on the conceptual model of GEM and by using fi xed-effects panel

analysis, the results show that political stability and absence of violence, rule of law, and control of

corruption are highly signifi cant determinants of entrepreneurial activities. © 2012 Wiley Periodicals, Inc.

By

Hassan Gholipour Fereidouni

Tajul Ariffin Masron

702 FEATURE ARTICLE

Thunderbird International Business Review Vol. 54, No. 5 September/October 2012 DOI: 10.1002/tie

entrepreneurial activities. In addition, most of the previ-

ous studies have concentrated on very specific indicators

such as institutional uncertainty, political freedom, pro-

tection of property rights, country external conflicts, and

control of corruption (e.g., Anokhin & Schulze, 2009;

Brunetti & Weder, 1998; Desai, Gompers, & Lerner,

2003; Gholipour, Tajul, Nikbin, & Ekhtiari, 2010).

The present study is the first attempt to cover all gov-

ernance indicators and examine their individual effects

on the entrepreneurial activities. Moreover, most of the

previous research on the influence of political variables

on entrepreneurship consisted of cross-country stud-

ies (see, e.g., Brunetti & Weder, 1998; Gholipour et al.,

2010). Despite attempts to distinguish other influences,

the results of these cross-country studies may well reflect

other nonmeasured influences that vary across countries

but not over time. For this reason, the results of such stud-

ies may not apply to relevant changes in policy-related

variables over time (Busse & Hefeker, 2007). In principle,

since the bias in the estimates of such effects could be in

either direction in a time series, it is important to supple-

ment the cross-section studies with time-series estimates

(Busse & Hefeker, 2007).

The present study is the first such attempt to regress

governance indicators based on a number of dimensions

and some control variables on the entrepreneurial activi-

ties (which is provided by GEM). From the point of view

of the policymaker, it would be interesting to know which

governance components matter most for entrepreneur-

ship. In other words, policymakers need to know what

governance and institutional factors promote entrepre-

neurial activities. Therefore, this study can give some

insights to policymakers. Additionally, the results of this

innovations in the United States stem from new or small

businesses (Heriot & Campbell, 2006).

Given the important role of entrepreneurship in

the growth of emerging nations, particularly with re-

gard to providing employment and driving economic

development (Kula & Tatoglu, 2003), many scholars and

policymakers have attempted to understand the factors

influencing the entrepreneurial activities. One of the

categories of determinants of entrepreneurial activities is

governance components, as opposed to business factors.

While it is observed that the business determinants of

entrepreneurial activities have been analyzed to a consid-

erable degree, the governance components have received

limited attention. It has been due mainly to the lack of

reliable and internationally comparable governance in-

dicators and entrepreneurial activities measurement. But

in recent years, the annually published data on entrepre-

neurial activity by the World Bank Entrepreneurship Sur-

vey and Global Entrepreneurship Monitor (GEM)1 and

governance indicators by the World Bank Development

Research Group (Kaufmann, Kraay, & Mastruzzi, 2008a,

2008b, 2009) make such a study possible. Consequently, a

number of empirical studies have recently examined the

importance of governance for entrepreneurial activities

(e.g., Klapper, Amit, Guillén, & Quesada, 2007; Klapper

et al., 2009). However, these studies have focused only on

the average of governance indicators (voice and account-

ability, political stability and lack of violence/terrorism,

government effectiveness, regulatory quality, rule of

law, and control of corruption) and have not examined

the effect of the individual dimension of governance on

More countries are paying attention to new economic models, and one such approach that is getting more consideration and offering much potential is entrepreneurship.

From the point of view of the policymaker, it would be interesting to know which governance components mat-ter most for entrepreneur-ship.

Governance Matters and Entrepreneurial Activities 703

DOI: 10.1002/tie Thunderbird International Business Review Vol. 54, No. 5 September/October 2012

According to the World Trade Organization (WTO,

2004), high-quality institutions lead to reducing informa-

tion asymmetries and channel information about market

conditions, goods, and participants efficiently, which in

turn can encourage people to start a business in the coun-

try. However, institutional deficiencies lead to less competi-

tive, diversified, and developed markets, which can discour-

age entrepreneurial activity (Fogel et al., 2006). Dickinson

(2004) indicated that if property rights are clear and legally

enforceable, then more extensive entrepreneurship and

economic growth will become sustainable within the Rus-

sian federation. Tyson, Petrin, and Halsey (1994) state that

the foundation stone on which entrepreneurial promotion

must rest is a stable system of property rights. Khavand

(2009) argues that favorable political and legal conditions

as well as a pleasant business environment are important in

all economic activities. He emphasizes that government sta-

bility, creditability of the justice system, and the confidence

level of economic players in the government’s institutions/

rules, as well as the quality of a country’s international re-

lationships to create adequate security at the regional and

international levels for the country, are very vital for invest-

ment decisions and business start-ups.

In summary, political stability, low internal and exter-

nal conflicts, well-defined rules and regulations, well-pro-

tected property rights, and an efficient judicial system all

promote entrepreneurship. To illustrate, Figure 1 clearly

depicts the importance of better governance (measured

by the average of six aggregate governance indicators:

voice and accountability, government effectiveness, regu-

latory quality, political stability, rule of law, and control

of corruption) for greater entrepreneurship (measured

by entry rate) (Klapper et al., 2007).

study suggest some implications for transnational corpo-

rations since they may influence host countries’ gover-

nance matters by their magnificent financial resources,

political power, human capability, or even diplomatic

strength (Ordeix-Rigo & Duarte, 2009).

In short, the purpose of this article is to examine gov-

ernance indicators and to identify the relative importance

of these indicators for entrepreneurial activities after

controlling for other relevant determinants of observed

changes in entrepreneurial activities. We examine the in-

fluences of voice and accountability, political stability and

absence of violence, government effectiveness, regulatory

quality, rule of law, and control of corruption. For this pur-

pose, we have selected a set of 40 countries for seven years.

The rest of the article is organized as follows. In the

second section, there is an overview of the importance of

governance for entrepreneurial activities. The third sec-

tion reviews previous studies. In the fourth section, the

Global Entrepreneurship Monitor (GEM) conceptual

model is explained, followed by a section that describes

the data and the variables used in the regression and

a section that presents methodology. Section seven ex-

plains the estimation model and reports the results. Sec-

tion eight concludes.

Importance of Governance for Entrepreneurial Activit ies

Good governance and political stability are the prior

condition to establishing a favorable business environ-

ment (Klapper et al., 2009). In an uncertain environment

characterized by unclear property rights, constant policy

surprises and policy reversals, uncertain contract enforce-

ment, and high corruption, entrepreneurs are reluctant

to commit resources. This reaction of the private sector

would translate into lower aggregate investment and dis-

torts the allocation of resources and reduces economic

growth (Brunetti, Kisunko, & Weder 1998). Busse and

Hefeker (2007) state that changes in government policy

and/or political institutions can affect entrepreneurial

behavior, as the risk premium incorporated in any invest-

ment project is influenced by political risk. Fogel, Hawk,

Morck, & Yeung (2006) argue that rules, regulations, and

property rights and their enforcement facilitate entrepre-

neurship because they affect transactional trust among

business parties. In other words, weak property rights pro-

tection, corruption, and an inefficient judicial system can

impede information flow, raise information costs, and

erode the gains from information and as a result hinder

entrepreneurial activity.

FIGURE 1 Entry Rate and Quality of Governance,

2003–2005

Source: World Bank Group Entrepreneurship Database, 2007

704 FEATURE ARTICLE


African countries must engage in state reconstruction to

provide themselves with governance structures that mini-

mize political opportunism (such as bureaucratic corrup-

tion and rent seeking) and resource allocation systems

that enhance indigenous entrepreneurship and promote

wealth creation. Feng (2001) examined the effects of

politics on aggregate private investment in developing

countries for the period 1978 to 1988. Feng found that

political freedom, political instability, and policy uncer-

tainty all affect the individual’s decision to invest.

By focusing on central and eastern Europe, Rose-

Ackerman (2001) suggested that the control of corruption

and development of institutionalized trust plays an

important role in making an institutional framework in

which innovation and entrepreneurship can grow. In the

statistical work using firm-level data over 1998 to 2000,

Batra, Kaufmann, & Stone (2003) found that a high

frequency of corruption, lack of policy predictability,

financing difficulties, and high taxes each had significant

negative impacts on firms’ investment growth. Desai et al.

(2003), by focusing on European Union members and

central and eastern European countries, reported more

entrepreneurship in less corrupt countries and in coun-

tries that better protect private property rights. Högfeldt

(2005) and Fogel, Morck, and Yeung (2005) argued that

government favoritism toward large established corpora-

tions (because politicians find dealing with the control-

ling owners of a few large corporate groups is simpler

and more predictable than dealing with the managers of

many smaller independent firms) adversely affects entre-

preneurship.

Bitzenis and Nito (2005) evaluated the various ob-

stacles that Albanian entrepreneurs encounter in their

local business environment. Using interview and ques-

tionnaire techniques, their results showed that the most

important obstacles that entrepreneurs encountered in

Albania included unfair competition, changes in taxa-

tion procedures, lack of financial resources, and prob-

lems related to public order. Klapper (2006), by using

a cross-country time-series data set, showed a strong

correlation between entrepreneurship and the quality

of the legal and regulatory environment, ease of access

to finance, and prevalence of informality. Similarly,

Klapper et al. (2007), by using cross-country, time-series

entrepreneurial activity data provided by the World Bank

Group Entrepreneurship Survey and the average of the

six governance indicators provided by the World Bank

Worldwide Governance Indicators, found that there are

significant relationships between entrepreneurial activity

and indicators of economic and financial development,

the quality of the legal and regulatory environment,

Literature Review

There are several studies in the literature regarding the

relationship between political factors and entrepreneur-

ial activities. This section of the article surveys some of

the most relevant studies. Pastor and Hilt (1993), by fo-

cusing on seven Latin American countries from 1973 to

1986, found that democracy is positively and significantly

associated with private investment. In other words, they

argued that since democracy receives broad domestic

support, avoids irregular political changes, and institu-

tionalizes income redistribution, democratic developing

countries have fewer property rights violations and more

private investment.

In their article, Brunetti et al. (1998) proposed an

indicator of the “credibility of rules” based on a private-

sector survey conducted in 58 countries. They tested this

indicator and its components (local entrepreneurs’ views

of the predictability of changes in laws and policies, of

the reliability of law enforcement, of the impact of dis-

cretionary and corrupt bureaucracies, and of the danger

of policy reversals due to changes in governments) in

standard cross-country growth and investment regres-

sions and found that low credibility of rules is associated

with lower rates of investment and growth. Brunetti and

Weder (1998) found that there is a negative link between

institutional uncertainty and private investment.

Mbaku (2000) argued that in order to prepare for

sustainable development and reduce poverty in Africa,

In summary, political stability, low internal and external conflicts, well-defined rules and regula-tions, well-protected prop-erty rights, and an efficient judicial system all promote entrepreneurship.



openness, and access to physical infrastructure ( Reynolds,

Hay, & Camp, 1999).

Mai and Gan (2007) argue that the GEM model

reveals that in social, cultural, and political conditions,

entrepreneurial environments affect entrepreneurial op-

portunities and capacities, which both support each other

to produce entrepreneurial activities. According to Levie

and Autio (2008), the GEM model serves as a vehicle to

interpret both the data collection process and provide a

framework for theory and policy. Levie and Autio (2008)

applied the GEM model and shows that there is a sound

theoretical backing for the GEM conceptual model and

entrepreneurial framework conditions. Therefore, in

this study, similar to previously mentioned studies, the

GEM model will be employed for estimation since the

government policies and programs, institution quality,

and political conditions are important factors influencing

entrepreneurial activities.

Data and Variables

The analysis comprises the period 2002 to 2008 for a

sample of 40 countries (see Appendix). The relatively

small size of our sample is due to the limited availability

of the entrepreneurial activities series. The relationship

between governance indicators and entrepreneurial ac-

tivities is our main concern. Data relating to the entrepre-

neurial activities (measured by early-stage entrepreneur-

ship or TEA rate) is obtained from Global Entrepreneurial

and governance. They showed especially that there is a

strong and significant relationship between higher busi-

ness entry rates and better governance. Klapper et al.

(2009) found that, in a sample of 100 countries over an

eight-year period (2000–2007), greater ease in starting

a business and better governance are associated with

increased entrepreneurial activity. More specifically, they

also showed that there is a negative relationship between

political risk and business creation, with countries with

lower political risk having significantly higher business

entry rates.

Mitchell and Campbell (2009) showed that business

venturing within the United States is caused in part by

corruption. They concluded that venturing in the United

States is an adaptation to overall bad economic condi-

tions—poverty and public corruption. However, since

their result was unusual and inconsistent with interna-

tional literature, they suggested that the relationship

obtained from the states may not generalize to other na-

tions. Using longitudinal data from 64 nations, Anokhin

and Schulze (2009) provided strong and positive support

for the relationship between control of corruption and

entrepreneurship/innovation. They argued that in cor-

rupt environments, agency and transactions costs and

other nonproductive consequences of corruption con-

strain the scale and scope of economic activity and subse-

quently reduce the magnitude of the incentive facing the

prospective entrepreneur or innovator. Gholipour et al.

(2010) focused on the country’s external conflicts and its

effect on entrepreneurial motivation. Using a question-

naire technique, they showed that besides the business

environment, the country’s external conflicts are very

important for potential entrepreneurs to start up a busi-

ness in Iran.

GEM Conceptual Model

The GEM conceptual model is relevant here, as it ad-

dresses the relationship between national-level business

activity and institutional environments (Acs, Desai, &

Hessels, 2008). The general idea of the GEM model is

that the various entrepreneurial framework conditions

affect entrepreneurial activity by enhancing opportunity

recognition and skills perception. In other words, the

conceptual model employed by GEM indicates that op-

portunity recognition and entrepreneurial potential are

influenced by factors of entrepreneurial environments

(Mai & Gan, 2007). These factors are: availability of

finance, government policies, government programs,

education and training, research and development trans-

fer, commercial and legal infrastructure, internal market

The general idea of the GEM model is that the various entrepreneurial framework conditions affect entrepreneurial activity by enhancing opportunity recognition and skills perception.

706 FEATURE ARTICLE


values thus indicate better governance ratings. Clearly,

all six indicators are related to each other by different

degrees (see Table 1), as all assess governance but from a

different point of view. For example, Government Effec-

tiveness and Control of Corruption are closely related, as

the government is more effective and control of corrup-

tion is higher. As can be seen from Table 1, the partial

correlation between PV and RL is 0.71. Similarly, Voice

and Accountability is closely related to Rule of Law, with

a partial correlation of 0.64. Moreover, most of the indi-

cators strongly related to GDP per capita, indicating that

richer countries have better governance.

In general, these indicators are widely recognized

and used as high quality measures of political risk and

institutions (Klapper et al., 2007, 2009; Outreville, 2008).

Moreover, it should be noted that the logarithm for

entrepreneurial activity and the governance variables

(or independent variables) is used. In this study, it is an-

ticipated that all six governance indicators have a positive

relationship with entrepreneurial activities. Although we

expect the positive association between the dependent

variable and independent variables, we do not know

the exact impact of these indicators on entrepreneurial

activities.

Besides the institution and governance variables, we

observe that some variables show a persistent positive

influence on entrepreneurial activities. Above all, eco-

nomic development is probably the most important fac-

tor in explaining entrepreneurial activities (e.g., Klapper

et al., 2007; Reynolds, Bygrave, Autio, Cox, & Hay, 2002;

Reynolds et al., 1999). It is argued that since the primary

“opportunity” in most entrepreneurial efforts is an unmet

demand for goods and services, such unsatisfied demands

are likely to increase with general growth in a national

economy (Reynolds et al., 2002). Klapper et al. (2007)

noted that a greater business opportunity is related to

a more robust private sector. In other words, high eco-

nomic growth rates may signal high investment returns

Monitor (GEM)2 annual executive report. The TEA rate is

defined as a percentage of 18–64 (years of age) popula-

tion who are either a nascent entrepreneur3 or owner-

manager of a new business.4 The GEM research program

was initiated in 1999 to collect cross-national harmonized

data sets on entrepreneurship on an annual basis. One

of the major strengths of the GEM project is the applica-

tion of uniform definitions and data collection across

countries for international comparisons (Acs et al., 2008).

Information on countries’ governance is taken from

the Worldwide Governance Indicators (WGI) research

project provided by the World Bank,5 covering 212 coun-

tries and territories and measuring six dimensions of gov-

ernance between 1996 and 2008.6 Kaufmann et al. (2009)

define governance as “the traditions and institutions by

which authority in a country is exercised.” The six dimen-

sions of governance are: (1) Voice and Accountability,

(2) Political Stability and Lack of Violence/Terrorism,

(3) Government Effectiveness, (4) Regulatory Quality,

(5) Rule of Law, and (6) Control of Corruption.

Kaufmann et al. (2009) define these indicators as

follows:

• Voice and Accountability, called VA in the empirical

analysis—“the extent to which a country’s citizens are

able to participate in selecting their government, as

well as freedom of expression, association, and the

press.”

• Political Stability and Absence of Violence (PV)—“the

likelihood that the government will be destabilized by

unconstitutional or violent means, including terror-

ism.”

• Government Effectiveness (GE)—“the quality of pub-

lic services, the capacity of the civil service and its

independence from political pressures; the quality of

policy formulation.”

• Regulatory Quality (RQ)—“the ability of the govern-

ment to provide sound policies and regulations that

enable and promote private sector development.”

• Rule of Law (RL)—“the extent to which agents have

confidence in and abide by the rules of society, includ-

ing the quality of property rights, the police, and the

courts, as well as the risk of crime.”

• Control of Corruption (CC)—“the extent to which

public power is exercised for private gain, including

both petty and grand forms of corruption, as well as

elite ‘capture’ of the state.”

Each indicator shows the country’s percentile rank.

Percentile ranks indicate the percentage of countries

worldwide that rate below the selected country. Higher

TABLE 1 Correlation Matrix

ln GDP VA PV GE RQ RL CC

ln GDP 1

VA 0.61 1

PV 0.60 0.50 1

GE 0.75 0.62 0.68 1

RQ 0.65 0.61 0.57 0.79 1

RL 0.71 0.64 0.71 0.84 0.86 1

CC 0.74 0.71 0.64 0.84 0.87 0.73 1



and, therefore, may attract further investment (Busse &

Hefeker, 2007). Hence, it is expected that higher eco-

nomic developments attract further people who want to

start a business. In this study, similar to the study by Klap-

per et al. (2007), the log of GDP per capita will be used

as a measure of economic development.

In previous studies, access to finance has been recog-

nized as one of the main determinants of entrepreneurial

activities (e.g. Bosma et al., 2008; Reynolds et al., 1999,

2002). Schumpeter (1934) proposed that a well-devel-

oped financial system is a prerequisite for widespread

entrepreneurship because most potential entrepreneurs

lack extensive personal or family wealth. Klapper et al.

(2007) has found a significant positive impact of financial

development on entrepreneurship. More specifically,

they have shown that domestic credit to the private sec-

tor as a percentage of GDP is positively and significantly

correlated with business entry rates. Perotti and Volpin

(2004) showed that there is a positive association between

financial development and the entry of new, entrepre-

neurial firms. Thus, in this study, one would expect to

see that financial development has a positive relationship

with entrepreneurial activities. In this study, we also use

the log of domestic credit to the private sector (as a per-

centage of GDP) as a measure of financial development.

Another important determinant that is likely to have

an impact on entrepreneurial activities is education (e.g.

Bosma et al., 2008; Reynolds et al., 1999, 2002). According

to Reynolds et al. (1999), developing new products or ser-

vices and creating new businesses need for some degree

of training and education. It is argued that education

equips individuals with the sense of autonomy and inde-

pendence, positions individuals to perceive opportunities

and it also provides a pool of capable employees and

technical competence needed to get a business off the

ground (Reynolds et al., 1999). Therefore, it is reason-

able to expect that the better educated the population

Above all, economic devel-opment is probably the most important factor in explain-ing entrepreneurial activities.

Therefore, it is reasonable to expect that the better educated the population the higher the level of entrepre-neurial activity.

the higher the level of entrepreneurial activity. In this

study, the log of expenditure per student in secondary

education will use as a measurement of education.

With this background, we use the following three

control variables in the regression:

1. The log of GDP per capita (ED) to control for the

economic development (Source: Global Market Infor-

mation Databases)

2. The log of domestic credit to the private sector (as

percentage of GDP) for financial development (FD)

(Source: Global Market Information Databases)

3. The log of expenditure per student in secondary

education (EDU) to control for education (Source:

Global Market Information Databases)

These three control variables are expected to be posi-

tively associated with entrepreneurial activities.

Methodology

This study utilized panel data using the sample of 40

countries during the period 2002 to 2008. The reason

for using panel data is the fact that they usually give the

researcher a large number of data points, increasing the

degrees of freedom and reducing collinearity among

independent variables, therefore improving economet-

ric estimate efficiency. In addition, panel data allow

researchers to test a number of important economic

questions that cannot be addressed using time series or

cross-sectional data sets (Chuang & Wang, 2009).

A general panel data regression model is written as

Yit = a + b Xit + eit. Two important panel models are the

fixed-effects model and the random-effects model. In

order to choose the fixed- or random-effects model for

the equation estimation, this study applied the Hausman

708 FEATURE ARTICLE


denotes the economic development for country i in pe-

riod t, FDit denotes the financial development for country

i in period t, EDUit represents the schooling for country

i in period t, GOVERNANCEit stands for the six indictors

for governance matters for country i and period t, and eit is

an error term. To avoid multicollinearity, the governance

variables are added one by one to the proposed model.

As can be seen from the results of the regression,

reported in column 1 of Table 2, all control variables

(education, economic development, and financial devel-

opment) have the expected sign and are significant at the

5% and 10% levels. The overall fit of the panel model is

reasonable, taking the diversity of the country sample into

account. We then add the six indicators for governance

one by one to see whether they explain any variation in

entrepreneurial activities in addition to the control vari-

ables (see columns two through seven in Table 2). The re-

sults show that Political Stability and Absence of Violence,

Rule of Law, and Control of Corruption are positively

associated with entrepreneurial activity, indicated by an

estimated coefficient that is significant at least at the 10%

level. The coefficient for Voice and Accountability, Gov-

ernment Effectiveness, and Regulatory Quality have posi-

tive signs, meaning that an improvement in these factors

is positively associated with entrepreneurial activity but is

not significant. Control of Corruption is significant at the

5% level, indicating a particularly close positive linkage

with entrepreneurial activities.

The results for Political Stability and Absence of

Violence show that entrepreneurial activities are highly

(1978) test due to the fact that this test determines the

preferred model (Busse & Hefeker, 2007; Chuang &

Wang, 2009). The statistics from the Hausman test sug-

gests applying a fixed-effects instead of a random-effects

model because the chi-square = 23.2 (p = 0.00), that is, the

assumption that a model using random effects is prefer-

able, is rejected. Generally, the fixed-effects estimator is

used to capture unobserved country specific effects and

it also produces consistent estimates (Chuang & Wang,

2009). Hence, Equation 1 is estimated by a country fixed-

effects model. In other words, in this study, the panel

data analysis with country fixed-effects approach allows

us to distinguish more systematically between the effects

of governance indicators and other variables on entrepre-

neurial activity over time as well as across countries.

Estimation Model and Results

We now turn to the empirical relationship between gov-

ernance dimensions and entrepreneurial activities. Based

on the previous discussions, the proposed model for en-

trepreneurial activities is as follows:

ln TEAit = b0 + b1 ln EDit + b2 ln FDit + b3 ln EDUit + b4

GOVERNANCEit + eit (1)

with the following expected signs:

b1 > 0, b2 > 0, b3 > 0, b4 > 0,

where TEAit stands for entrepreneurial activities for coun-

try i in period t, b0 is the country-specific fixed effect, EDit

TABLE 2 Panel Data Regressions, Country Fixed Effects, 2002–2008

Governance Variables Dependent Variable: ln TEA

(Governance) Voice and

Accountability

Political Stability and

Absence of Violence

Government

Effectiveness

Regulatory

Quality

Rule of Law Control of

Corruption

Variable VA PV GE RQ RL CC

Independent Variables

(1) (2) (3) (4) (5) (6) (7)

ln GDP 0.09*(1.3)

0.08*(1.35)

0.09*(1.58)

0.09*(1.62)

0.10*(1.54)

0.09*(1.54)

0.01*(1.42)

ln Credit 0.08*(1.33)

0.08*(1.44)

0.09*(1.28)

0.1*(1.52)

0.08*(1.29)

0.11*(1.81)

0.09*(1.33)

ln Education 0.40**(4.72)

0.41**(4.51)

0.36**(4.03)

0.42**(4.83)

0.39**(4.63)

0.43**(4.96)

0.40**(4.83)

GOVERNANCE 0.035(0.41)

0.08*(1.43)

0.23(0.99)

0.07(0.56)

0.17*(1.50)

0.30**(2.16)

R-squared 0.23 0.24 0.29 0.25 0.23 0.29 0.28

T-values reported in parentheses; **signifi cant at 5% level; *signifi cant at 10% level.



the incentive for the prospective entrepreneurs to start

their business. Our result is in line with the findings by

Desai et al. (2003), who reported that there is more en-

trepreneurship in less corrupt countries and in countries

that better protect private property rights. Similarly, our

result is consistent with Anokhin and Schulze (2009),

who posit that better control of corruption will be associ-

ated with rising levels of entrepreneurship. In fact, con-

trol of corruption increases the possibility that potential

entrepreneurs will be able to capture a larger portion of

the revenues they generate, increase the reliabilities of

those cash flows, and thus motivate higher levels of entre-

preneurial activities (Anokhin & Schulze, 2009).

Finally, entrepreneurs seem to care about Rule of

Law which means that violent crime, fairness of judicial

process, enforceability of contracts, speediness of judicial

processes, and private property and intellectual prop-

erty rights are very vital for entrepreneurs to start any

business. In fact, those countries with better conditions

in terms of property rights protection provide a better

investment climate and higher returns for entrepreneurs

and innovators. This result is consistent with Desai et al.

(2003).

Conclusion

Entrepreneurship has been recognized as an important

mechanism for economic development through employ-

ment, innovation, and welfare effects. The purpose of

this study was to examine the role of governance matters

as determinants of entrepreneurial activities for a panel

of 40 countries from 2002 to 2008. By using fixed-effects

panel analysis (and controlling for economic develop-

ment, financial development, and education expendi-

ture), empirical evidence suggests that, in particular,

control of corruption and, to a lesser degree, rule of law

and political stability and absence of violence are impor-

tant determinants of entrepreneurial activities. Based on

our results, these governance indicators matter the most

when entrepreneurs confront decisions about starting a

business.

The results presented in this article suggest a number

of implications for policymakers and transnational corpora-

tions. Above all, since the control of corruption is the most

significant governance indicator that can improve the level

of entrepreneurial activities, special attention should be

given to the control of corruption by policymakers in order

for innovation and entrepreneurship to flourish. In fact,

different anticorruption programs should be implemented

by the policymakers to reduce the negative influence of

corruption on entrepreneurial activities and consequently

sensitive to changes in government stability, internal

conflicts, and external conflicts, as well as ethnic ten-

sion. In other words, the threat of incidence of civil war,

trade sanctions, cross-border conflicts, or an all-out war

creates higher uncertainty. Thus, entrepreneurs increase

the risk premium of investment projects, which in turn

reduces overall investment. As these events create higher

uncertainty, they reduce entrepreneurial activities. This

result is consistent with Gholipour et al. (2010), who

showed that country’s external conflicts are very impor-

tant for potential entrepreneurs. Moreover, this result is

in accordance with Khavand (2009), who argued that the

quality of countries’ international relationship to create

an adequate security in regional and international level

for the country is very important for investment decisions

and business start-up, particularly for Iranian entrepre-

neurs.

Moreover, Control of Corruption is very significant

for entrepreneurs, even when we control for other fac-

tors that affect entrepreneurial activities. This means that

government efforts to tackle corruption (officials and the

other groups) and the existence of anticorruption agency

are taken into account when entrepreneurs are going to

start a business. In other words, when governments con-

trol corruption, agency and transactions costs, along with

other nonproductive consequences of corruption, will be

limited (Anokhin & Schulze, 2009) and hence increase

The results for Political Stability and Absence of Violence show that entre-preneurial activities are highly sensitive to changes in government stability, inter-nal conflicts, and external conflicts, as well as ethnic tension.

710 FEATURE ARTICLE


economic development of nations. Implementation of

electronic government ( e-government)7 has been sug-

gested by many practitioners, researchers, and interna-

tional development agencies to control corruption, partic-

ularly in developing countries and countries in transition

(Bhuiyan, 2010). For example, Fan, Zhang, and Yue

(2009) concluded that e-government can reduce corrup-

tion effectively in China. Likewise, Shim and Eom (2008)

suggested that e-government has a consistently positive

impact on reducing corruption.

Second, since a country’s political stability and ab-

sence of violence are important for entrepreneurs to

start a business, governments, for example, should cre-

ate favorable political relations with other countries and

try to settle internal conflicts as well as religious tension

(particularly in Middle East countries) to increase oppor-

tunities and lower risks and uncertainty for prospective

entrepreneurs and innovators. If governments do not

regard this governance indicator seriously, they will en-

counter problems similar to the ones Iran has been facing

in recent years. Broad economic sanctions against Iran

from the United Nations Security Council, the United

States, and the European Union due to their nuclear

program, and violation of human rights as well as support

for terrorist groups (which was claimed by the West) have

hindered entrepreneurial activities in Iran.8 In fact, these

external conflicts (and consequent sanctions) raised the

cost of doing business, which in turn resulted in smaller

return on investment for entrepreneurs in the long term.

Third, the rule of law (e.g., fairness of judicial pro-

cess, enforceability of government and private contracts,

private property protection, intellectual property rights

protection, confidence in the police force, protection of

financial assets) should be promoted if governments are

to achieve higher entrepreneurial activities and subse-

quent meaningful economic and social development. In-

deed, policymakers should attempt to prevent mafia and

other outside actors from influencing and distorting the

legal system. Moreover, governments must reduce threats

that businesses face from common or organized crimes,

which can impose costs on business. Finally, transnational

corporations (seen as global institutions that have impres-

sive financial resources, political power, human capability,

or even diplomatic strength; Ordeix-Rigo & Duarte, 2009)

should not only be seen as profit-making entities (par-

ticularly in developing countries) but they may also act

as entities whose power and popularity can influence the

governments’ decision-making processes to improve gov-

ernance matters, which in turn would facilitate more en-

trepreneurial activities. These corporations consequently

may achieve better acceptance among the people within

the developing countries and also create a symbiotic rela-

tionship with their key stakeholders.

Ultimately, the results of the study should be consid-

ered in light of its limitations, which also point to some

issues for future research. The number of countries in

our sample (40) is one of the study’s limitations due to

the unavailability of data from GEM for all countries.

Given the data constraints, results should be viewed with

caution, and hence data from more countries is needed

to fully investigate these relationships and to improve our

understanding.

Ultimately, the results of the study should be considered in light of its limitations, which also point to some issues for future research.

Hassan Gholipour Fereidouni is a doctoral student in the School of Management, Universiti Sains Malaysia (USM). His interests include entrepreneurship and political economics.

Tajul Ariffin Masron is a senior lecturer in the School of Management, Universiti Sains Malaysia (USM). His inter-

ests include international trade, international capital fl ows, and regional economic integration.



Notes

1. The Global Entrepreneurship Monitor (GEM) research program is an annual assessment of the national level of entrepreneurial activity that covers both developed and developing countries. It is based on a harmonized assessment of the level of national entrepreneurial activity for all participating countries and involves exploration of the role of entrepreneurship in national economic growth (Acs et al., 2008).

2. For more information on GEM and all GEM reports, please go to www.gemconsortium.org.

3. The percentage of 18–64 population who are currently nascent entre-preneurs, that is, actively involved in setting up a business they will own or co-own; this business has not paid salaries, wages, or any other payments to the owners for more than three months (Bosma et al., 2008).

4. The percentage of 18–64 population who are currently owner-managers of a new business, that is, owning and managing a running business that has paid salaries, wages, or any other payments to the owners for more than three months but not more than 42 months (Bosma et al., 2008).

5. The percentage of 18–64 population who are currently owner-manag-ers of a new business, that is, owning and managing a running business that has paid salaries, wages, or any other payments to the owners for more than three months but not more than 42 months (Bosma et al., 2008).

6. In their project, Kaufmann et al. (2009) collected these aggregate indicators from hundreds of specific and disaggregated individual vari-ables measuring various dimensions of governance, taken from 35 data sources provided by 33 different organizations from around the world.

7. The United Nations/American Society for Public Administration (2002, p. 1) define e-government as follows: “Broadly defined, e-govern-ment includes the use of all information and communication technolo-gies, from fax machines to wireless palm pilots, to facilitate the daily administration of government. However, like e-commerce, the popular interpretation of e-government is one that defines it exclusively as an In-ternet driven activity … to which it may be added ‘that improves citizen access to government information, services and expertise to ensure citizen participation in, and satisfaction with the government process … it is permanent commitment by government to improving the relation-ship between private citizen and the public through enhanced, cost-effective and efficient delivery of services, information and knowledge. It is the practical realization of the best that government has to offer.’”

8. A GEM current report provided by Bosma et al. (2008) shows that Iran has the lowest rate in the attitudes and perception for starting business and entrepreneurial activity indicators among factor-driven economies.

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APPENDIX Country Sample

Argentina, Australia, Belgium, Brazil, Canada, Chile, China, Colombia, Croatia, Denmark, Finland, France, Germany, Greece, Hong Kong, Hungary, Iceland, India, Ireland, Israel, Italy, Japan, Latvia, Mexico, Netherlands, New Zealand, Norway, Peru, Poland, Russia, Singapore, Slovenia, South Africa, Spain, Sweden, Thailand, Turkey, United Kingdom, United States, Uruguay

Documents

Governance Matters and Entrepreneurial Activities