Boom‐Baby CEOs, Career Experience, and Risk Taking: A Natural Experiment Using Chinese CEOs’ Growth Paths

• Date: 01 June 2019
• Published date: 01 June 2019
• Author: Kuan‐Cheng Ko,Shaofei Wang,Ying Hao,Robin K. Chou
• DOI: http://doi.org/10.1111/irfi.12183

Boom-Baby CEOs, Career

Experience, and Risk Taking: A

Natural Experiment Using Chinese

CEOs’Growth Paths*

YING HAO

†

,SHAOFEI WANG

‡

,ROBIN K. CHOU

§,¶

AND KUAN-CHENG KO

k

†

Business School, Beijing Normal University, Beijing, China

‡

College of Business, Shanghai University of Finance and Economics, Shanghai,

China

§

Department of Finance, National Chengchi University, Taipei, Taiwan

¶

Risk and Insurance Research Center, National Chengchi University, Taipei,

Taiwan and

k

Department of Banking and Finance, National Chi Nan University, Nantou, Taiwan

ABSTRACT

China’s economy represents a unique experimental environment, in that it

has undergone a successful transformation from a planned to a more open

system. Leveraging this natural experimental setting, this study examines

the impacts of CEOs’formative experiences on their risk-taking behavior.

Two events likely constitute formative experiences for CEOs: economic

reforms that commenced in 1978 and their prior career experiences. In turn,

CEOs’risk tolerance attitudes likely reflect the influences of these significant

events. The results show that CEOs who experienced economic reforms in

their early adult life exhibit higher risk-taking likelihood and greater risk tol-

erance than those who grew up during the planned economy era. Further-

more, firm performance achieved by CEOs’risk taking is significantly better

when CEOs originally started working in and then remained within business

sectors.

JEL Codes: G30; G34; J16

Accepted: 28 December 2017

I. INTRODUCTION

The effect of macroeconomic events on individual risk preferences continues to

be debated. For example, studies examine whether and how economic

* Ying Hao (Corresponding Author) gratefully acknowledges financial support from the National

Natural Science Foundation of China (Grant No. 71372137), and from the National Natural Science

Foundation of China (Grant Nos. 71232004 and 71572153).

[Corrections added on 01 February 2018, after first online publication, affiliations of authors Robin

K. Chou and Kuan-Cheng Ko have been corrected.]

© 2018 International Review of Finance Ltd. 2018

International Review of Finance, 19:2, 2019: pp. 347–383

DOI: 10.1111/irfi.12183

recessions affect managers’beliefs, financial decisions, and willingness to take

risk (Graham and Narasimhan 2004; Giuliano and Spilimbergo, 2012; Graham

et al. 2011). According to Malmendier and Nagel (2011), Malmendier

et al. (2011), and Bernile et al. (2017), managers’early-life experiences and

disastrous experiences have long-lasting impacts on their risk attitudes. Dittmar

and Duchin (2015) find that firms run by CEOs who experienced financial diffi-

culties save more cash and have significantly lower net debt ratios. Schoar and

Zuo (2016, 2017) further show recession CEOs manage smaller firms, receive

lower compensation, and display more conservative styles, but market assigns

a positive and economically meaningful value to the selection of a

recession CEO.

Managers who grew up in normal macroeconomic contexts serve as bench-

marks in these studies, but the question of whether extremely positive eco-

nomic conditions might inform managers’risk attitudes remains unanswered.

To address this question, this paper investigates Chinese CEOs who grew up

during that nation’s boom time, or Boom-Baby CEOs. Two events in China

likely represent formative experiences for these sample CEOs, namely, their

early-life experience of the economic reform and their career paths (i.e. whether

they started their careers in and remained within business sectors). Through

these experiences, managers’risk tolerance likely forms, which then informs

their attitudes toward risk taking and risk-related behaviors.

Starting in 1978, China instituted a series of economic reforms and policies

to transform from a planned economy to an open economy. This reform has

been unique in the history of human economic development (Allen et al. 2005;

Whyte 2009), and it has led to substantial changes to the country’s culture,

such that it has grown far more individualistic since the economic reform

(Li et al. 2006). Thus, CEOs who grew up during the early days of this reform,

whom we define as Boom-Baby CEOs, should have been profoundly affected by

the accelerated transition of China’s economy. In particular, the policy uncer-

tainty and changing rules that marked this economic reform may have led

CEOs to believe that risk taking can help firms exploit new opportunities

(McMillan and Woodruff 2002; Zhang and Zhang 2013). In contrast, CEOs

who grew up exposed only to the planned economy may exhibit a lower will-

ingness to take risk (Lewellen 2006).

A critical element of these economic reforms involved the restructuring of

state-owned enterprises (SOEs) in the early 1980s, transforming them into mod-

ern, Western-style corporations that provided channels for promotion and prac-

tical opportunities for autonomy. Ultimately though, these listed SOEs remain

controlled by the government, which retained the right to appoint CEOs. Thus,

two paths arose in terms of managers’career experiences and backgrounds:

CEOs who consistently served SOEs (i.e. Business-Sector CEOs) and CEOs who

also functioned as administrators of the public sector (i.e. Public-Sector CEOs),

prior to being appointed to head the listed firms. Their different career experi-

ences likely prompt distinct risk attitudes and behaviors, and thus varying

outcomes.

© 2018 International Review of Finance Ltd. 2018348

International Review of Finance

In particular, Business-Sector CEOs have moved up the new hierarchy, step

by step, and such experiences likely enriched their practical intelligence,

experience-based skills, and ability to achieve complicated tasks and greater

venture success (Baum and Bird 2010; Baum et al. 2011). Even if they are of the

same generation of Boom-Baby CEOs, Public-Sector CEOs served in public sec-

tors before being appointed by government agencies to head listed SOEs. Thus,

they may be experts in dealing with public entities, but they have scarce experi-

ence managing corporations. Accordingly, among Boom-Baby CEOs whose risk

attitudes reflect their experiences during boom times, we predict that only

Business-Sector CEOs achieve better performance through risk taking for the

firms they lead.

To test these predictions, we identify Boom-Baby CEOs according to birth

years after 1965—that is, starting 13 years prior to the first year of China’s eco-

nomic reform. To assess firms’risk taking, we measure volatility in their corpo-

rate earnings and R&D levels. In turn, we adopt two measures of risk-based

outputs: number of patents and firm value. Using both baseline and difference-

in-difference frameworks, we confirm that corporations with Boom-Baby CEOs

exhibit more risk taking and invest more in R&D activities. That is, CEOs’early-

life experiences with boom times affect their risk attitudes, leading to risk-

taking behavior when managing corporations. Then, conditional on this early-

life experience, we examine how different career experiences might drive the

outcomes of risk taking. Only Business-Sector CEOs increase firm value; they

also exhibit more practical intelligence. Thus, career experiences are important

determinants of firm value, achieved through risk taking.

Because the CEOs of SOEs are not randomly assigned, we cannot rule out

potential endogeneity with regard to differences in firm characteristics. There-

fore, we also apply a difference-in-difference framework, in which we compare

the performance of firms that started with a Public-Sector CEO, then switched

to a Business-Sector CEO, against firms who only ever have been led by Public-

Sector CEOs. The results remain robust.

Economic transitions are not limited to China, yet its economic reform rep-

resents a highly conspicuous macroeconomic event. Our study provides new

insights into the effects of such economic transitions on managers’risk atti-

tudes. In particular, we show that early-life experiences with boom times

enhance Chinese CEOs’attitudes toward risk and risk-taking behaviors. By

investigating this event, we study an exogenous shock that influences man-

agers’beliefs, such that this study partly mitigates potential endogeneity con-

cerns surrounding prior studies that examine how previous formative

experiences affect managerial styles. In addition, beyond noting the significant

impacts of early-life experiences on risk attitudes, we show that managers’

career experiences determine whether their risk-taking decisions lead to success-

ful outcomes. Therefore, we link CEOs’business experiences with their subse-

quent performance.

With these insights, this study also provides complementary evidence of the

effects of firm characteristics, governance conditions, CEO traits, and CEO

© 2018 International Review of Finance Ltd. 2018 349

Boom-Baby CEOs, Career Experience, and Risk Taking