Social capital and stock price crash risk: Evidence from US terrorist attacks

• Published date: 01 January 2024
• Author: Hyejin Mun,Seongjae Mun,Hyeong Joon Kim
• Date: 01 January 2024
• DOI: http://doi.org/10.1111/corg.12515

ORIGINAL ARTICLE

Social capital and stock price crash risk: Evidence from US

terrorist attacks

Hyejin Mun

1

| Seongjae Mun

2

| Hyeong Joon Kim

3

1

School of Business and Technology

Management, College of Business, KAIST,

Daejeon, Republic of Korea

2

Department of Economics and Finance,

Soonchunhyang University, Asan-si,

Chungcheongnam-do, Republic of Korea

3

School of Business, Korea Aerospace

University, Goyang-si, Gyeonggi-do, Republic

of Korea

Correspondence

Hyeong Joon Kim, School of Business, Korea

Aerospace University, Goyang-si, Gyeonggi-

do, Republic of Korea.

Email: creatingnews@kau.ac.kr

Funding information

National Research Foundation (NRF) of Korea,

Grant/Award Number: NRF-

2019H1A2A1076331

Abstract

Research Question/Issue: This study examines whether social capital's monitoring

role intensifies during post-terrorism periods, as terrorism influences citizens' willing-

ness to change society and increases stakeholder participation. Focusing on firms'

stock price crash risk, caused by managers' opportunistic behavior (viz., bad news

hoarding), we hypothesize that social capital under terrorism reduces stock price

crash risk, as it is expected to play an external monitoring governance role.

Research Findings/Insights: Using US public firms, a county-level social capital index,

and terrorist attacks from 1992 to 2014, we find that social capital surrounding cor-

porate headquarters significantly reduces stock price crash risk during post-terrorism

periods. The results are robust to propensity score matching and instrumental vari-

able regressions, and a battery of sensitivity tests. Overall, we suggest that stake-

holders' willingness (that is intensified by terrorism) to monitor firms' bad news

hoarding is channeled through social capital. Furthermore, the monitoring role of

social capital under terrorism is significant for firms with poor internal monitoring,

more institutional investors, less entrenched managers, CEOs preferring bad news

hoarding, and accompanied by improvement of analysts' forecasts, suggesting that

the impact of external governance may differ by firms' governance characteristics.

Theoretical/Academic Implications: We contribute to the corporate governance lit-

erature by investigating the role of social capital as external governance. While ter-

rorism brings serious damage and economic costs, our study shows that it gives rise

to the increased role of social capital, suggesting a novel perspective that terrorism's

unexpected socio-psychological outcome, being non-financial social threats, leads to

positive corporate behaviors by stimulating stakeholders' willingness to monitor

firms. Our study is also consistent with the literature that social capital particularly

matters in certain periods, such as traumatic events. Furthermore, the impact of a

firm's external monitor differs by its governance characteristics, highlighting the

importance of corporate governance.

Practitioner/Policy Implications: We suggest that social capital serves as firms' exter-

nal monitor by restraining managers' bad news hoarding under certain circumstances,

providing implications for policymakers and practitioners. According to our results,

Received: 24 January 2022 Revised: 22 September 2022 Accepted: 27 December 2022

DOI: 10.1111/corg.12515

Corp Govern Int Rev. 2024;32:33–62. wileyonlinelibrary.com/journal/corg © 2023 John Wiley & Sons Ltd. 33

traumatic events, such as terrorism, could be viewed as the moderator for the impact

of social capital on corporates, emphasizing the need for intensifying social capital

(or making it more effective) without tragic incidents. Meanwhile, one might view

social capital as the mediator for the increased willingness of individuals to monitor

during the post-terrorism period, highlighting the need for sufficient social capital in

the local community.

KEYWORDS

corporate governance, monitoring effect, social capital, stock price crash risk, terrorism

1|INTRODUCTION

Social organizations such as social networks, norms, and trusts can be

used for social cooperation and political improvement. The literature

extensively reports that social capital is generated from the cohesion

of individuals, community cooperation, and social solidarity, which

facilitates the representation and realization of people's beliefs and

attitudes (Coleman, 1988; Guiso et al., 2008,2011). Furthermore,

social capital is interpreted as a monitoring system that develops soci-

ety and contributes to the community with a civic aspect of social

capital and, thus, can affect corporate decisions and economic growth

(see, e.g., Fukuyama, 1995; Hasan, He, & Lu, 2020; Hasan, Hoi,

et al., 2020; Knack & Keefer, 1997; Putnam, 1995). Thus, in this paper,

we expect that social capital can serve as a firm's external governance,

more specifically, assume a monitoring role.

However, it is challenging to attribute different corporate behav-

iors to the impact of social capital. Exogenous variation in social capi-

tal might be helpful for empirical identification, as suggested by Lins

et al. (2017). Considering stakeholders' trust and cooperation, the

authors thus focus on the financial crisis period as trust in the capital

market unexpectedly and exogenously declined. Extending this view,

we focus on terrorist attacks (i.e., terrorism), being non-financial social

threats, as exogenous and significant traumatic events that might

affect the existing social capital.

Traumatic events, such as terrorist attacks, can intensify the role

of social capital by triggering behavioral changes among individuals,

whereas it is also clearly evident that they bring significant economic

and social costs.

1

Regarding the social–psychological view, people

tend to experience increased empathy and solidarity with society after

the attacks and are thus more likely to strengthen their bonds and

social trust. In addition, terrorist attacks may raise citizens' willingness

to change society and develop new strategies to cope with the attacks

(see, e.g., Arvanitidis et al., 2016; Fischer-Preßler et al., 2019; Geys &

Qari, 2017; Giordano & Lindström, 2016; Lale & Gitmez, 2020;

McCoy et al., 2020; Páez et al., 2007).

Building on the aforementioned insights, we conjecture that

social capital surrounding corporate headquarters acts as a firm's

external monitoring instrument during the post-terrorism period,

because social capital as a part of community resilience after trau-

matic disasters appears to restrain opportunistic behaviors. Recent

studies also highlight the significant impact of social capital under

terrorism on the costs of bank loans (Cheng et al., 2017) and corpo-

rate misconduct (Bereskin et al., 2020). To the best of our knowledge,

however, we still know little about how effectively geographical social

capital monitors corporations by restraining managers' opportunistic

behaviors in their information management, such as bad news hoard-

ing. Therefore, this paper examines the extent to which geographical

(US county-level) social capital and terrorist attacks influence affected

firms' stock price crash risk, caused by their managers' bad news

hoarding.

Agency problems following the spirit of Jensen and Meckling

(1976) bring several consequences, such as managerial rent extraction,

misallocation of corporate resources, and inappropriate information

disclosure to the stock market. Specifically, we focus on stock price

crash risk in this paper, a phenomenon of managers' bad news hoard-

ing, as suggested by the finance and accounting literature (Habib

et al., 2018; Harper et al., 2020; Jin & Myers, 2006). A stock price

crash indicates a massive drop in a firm's stock price. As managers

have incentives to withhold bad information within a firm, when such

accumulated bad news is ultimately released, the stock market reac-

tion can be dramatic. Thus, stock price crash risk refers to a (reason-

able) measure of managers' opportunistic behavior.

Corporate governance, including informal, external, and internal

governance, is responsible for reporting corporate behaviors and mon-

itoring managers' information management, typically bad news hoard-

ing (e.g., Habib et al., 2018). Studies on social capital pay attention to

the role of social capital as a corporate governance mechanism affect-

ing firms' opportunistic behaviors. For instance, social capital can alle-

viate agency problems by reducing CEOs' opportunistic rent

extraction (Hoi et al., 2019). In this study, extending the view of Lins

et al. (2017), we examine how changes in people's views and behav-

iors during the post-terrorism period consequentially affect firms'

information management. As such, our study considers the role of

social capital as a monitoring system and how corporate governance

corresponds to a firm's stock price crash risk.

Using a comprehensive US sample of our panel dataset obtained

from the Northeast Regional Center for Rural Development (NRCRD)

and Global Terrorism Database (GTD) from 1992 to 2014, this study

analyzes whether stock price crash risk is influenced by social capital

and terrorism. We first find that firms surrounded by relatively high

social capital are likely to have lower stock price crash risk on average;

however, this social capital impact appears to mostly come from the

34 MUN ET AL.