Elsevier

Applied Geography

Volume 134, September 2021, 102503
Applied Geography

The reaction of foreign firms to institutional changes: The case of German direct investment in Turkey

https://doi.org/10.1016/j.apgeog.2021.102503Get rights and content

Highlights

  • Recent developments in Turkey lead to changes in the institutional environment, presenting challenges for foreign firms

  • The Turkish market remains an attractive investment location for those enterprises with substantial investment relations

  • Investment decisions of strongly embedded enterprises are less influenced by institutional risks triggered by shock events

  • When formal institutions are unreliable, the importance of informal institutions increases, and then the combination of both becomes part of the risk mitigation strategy

Abstract

Dynamic institutional changes, and their impact at the actor level, are largely neglected in research on the role of institutional change in foreign direct investment (FDI). To fill this research gap, we analyze to what extent formal and informal institutional factors influence the investment decisions and strategies of managers. Internationally, since the protests in 2013 against the increasingly authoritarian Turkish government, there has been a growing perception of increasing uncertainty for FDI. This uncertainty poses investment risks for foreign firms based on a series of political developments and regional conflicts such as civil protests, an attempted military coup, and the war in Iraq and Syria. From an institutional perspective, we analyze how the perception of risk, based on formal institutional dynamics, influences the strategies of German firms operating in Turkey. We aim to find out how managers of these firms perceive and cope with these institutional risks. The paper is based on a quantitative telephone survey (n = 147), and 30 qualitative interviews with managers and experts in Turkey. We find that embedded German firms with long-term investment relationships in Turkey, rely on both formal and informal institutions to respond to risks arising from shocks at a formal institutional level.

Introduction

Since the turn of the millennium Turkey has developed into an attractive location for foreign direct investment (FDI). This development has increasingly reinforced the economic ties with Germany (Franz & Müller, 2019), which are based on long-standing economic and socio-cultural relations between both countries (Yavan, 2010; Müller, 2017). During the period 2002–2020 more than 7000 new firms with German ownership were established in Turkey (Ekonomi Bakanlığı, 2017; Türkiye Odalar ve Borsalar Birliği [TOBB], 2021), and German enterprises invested more than US$10 billion (Sanayi ve Teknoloji Bakanlığı, 2021); thus, making Germany one of the largest sources of FDI in the country, as well as Turkey's most important foreign trade partner (Turkey Statistical Institute, 2020).

However, since 2013 there have been some shocking events in Turkey (e.g., civil protests, terrorist attacks, and an attempted military coup) that have led to a change in the country's institutional reputation. In terms of formal institutions, Turkey is ranked at 71 in 2019 whereas it was ranked at 64 in 2014 (WEF, 2019). As a result, German Multinational Enterprises (MNEs) predictably consider investments in Turkey as increasingly risky, become increasingly hesitant to invest, and may even close their subsidiaries or withdraw their capital. Nonetheless, the response to risk by enterprises is not only determined through measurable levels of risk but also through the personal risk perception of managers (cf. Schwabe, 2020). We argue that the institutional dynamics since 2013 have led to increased uncertainty and a lack of confidence among German investors regarding the reliability of Turkey's formal institutional environment which, in turn, has an impact on the behavior of managers, and more generally, on German-Turkish investment relations. Reactions of managers, however, also depend on their societal and territorial embeddedness as well as their network relations (cf. Qiu, 2005). Rodríguez-Pose (2020, p. 375), for instance, states that “most analyses of the role of institutions on economic development have tended to put the emphasis on formal institutions often at the expense of informal institutions. […] the interest on informal institutions […] has considerably lagged behind”. Furthermore, little attention has been paid to qualitative case studies that analyze the role of informal institutions within economic and regional development processes (Gertler, 2018; Rodríguez-Pose, 2020). Furthermore, dynamic institutional changes, their perceptions, and the reactions of individual actors are largely neglected (Lenz & Glückler, 2020). Therefore, while significant work in the international business literature focuses on the understanding of risks and how firms try to mitigate them, the link to institution-related risks remains limited (Zhu & Sardana, 2020). In addition, little is currently known about institutional change is perceived as a risk, and how firms with foreign direct investments react to it from an actor-level perspective. Subsequently, this paper contributes to institutional economic geography literature by using a methodological triangulation to provide empirical evidence about the role of formal as well as informal institutions and their functioning in the context of a dynamic institutional risk environment.

The special case presented of German firms1 within a dynamic Turkish environment offers relevant insights to bridge these shortcomings. By drawing on institutional theory, using the concept of embeddedness as described by Hess (2004), and taking the risk perception of the actors into consideration, we aim to answer two research questions: How do managers perceive risk related to dynamic formal institutional change? How do firms mitigate investment risks within the formal institutional framework of Turkey?

We use a mixed-method approach to answer these questions. We collected quantitative data from a telephone survey with German firm managers (n = 147) and qualitative interviews with 17 managers of German firms in Turkey and 13 experts for the Turkish business context. Against the background of the current dynamic developments, and the special relations and ties between Germany and Turkey, this case study contributes to the debate within institutional economic geography by analyzing German firms that react to shocks in host countries.

Overall, our analytical work contributes to an understanding of how strongly embedded foreign firms draw on formal and informal institutions to cope with formal institutional risks within their host countries. We highlight the stabilizing effect of informal institutions in the face of an uncertain formal institutional environment. In the following, we embed the topic of the paper in the literature on firms’ reactions to changes in institutional contexts. This includes literature on institutions, embeddedness, and risk perception (section 2). Secondly, we present our research design and methodology (section 3). Section 4 presents the context of the case study of German direct investment in Turkey. In section 5 we analyze and discuss our case study. Finally, a conclusion is drawn.

Section snippets

Firms embedded in uncertain institutional environments

The role of institutions as important explanatory factors for attracting FDI is stressed by many scholars (e.g. Ascani et al., 2016; Meyer & Revilla Diez, 2015; Rodríguez-Pose & Cols, 2017). Institutions are, therefore, crucial in explaining the decision-making processes of firms as well as their strategic behavior (cf. Bosker & Garretsen, 2009; Lenz & Glückler, 2020; Li et al., 2014; Pike et al., 2014). For example, the results of a study by Busse and Hefeker (2007) indicate that foreign

Institutional environment and German direct investment in Turkey

Since the 1980s the Turkish market has been perceived as an emerging market. After years of strong economic growth, the Turkish economy has been repeatedly shaken by economic crises (1994, 2001, 2009, 2018) and recovered, but the causes of its vulnerability have by no means been eliminated (Franz & Müller, 2019). One of the biggest problems is the chronic current account deficit, which averaged 4,3% of GDP between 2008 and 2019 (World Bank, 2020a). Turkey depends on foreign capital inflows to

Research design and methodology

To analyze the perceptions and reactions of managers to institutional change, we use a mixed-method approach. Our data is generated by Computer Assisted Telephone Interviews (CATI) with managers of firms with German direct investments (n = 147), and thirty qualitative interviews with German firm managers (17), as well as with 13 business experts in Turkey (e.g., consultants, business development organizations, trade federations, economic institutions). The selection of qualitative interviews

The case of German firms in Turkey

This section is divided into two parts. First, presenting the perceptions of the managers regarding the institutional environment and related risks. In the second part, the managers' strategic response to the perceived institutional risks is highlighted, and the results are discussed.

Conclusion

Using the case study of managers of German firms in Turkey, we gained insights into their perception of dynamic formal institutional changes (investment uncertainties due to shocks) and their strategies for dealing with these changes (investment risks). In the case of Turkey, a dynamic found in the formal institutional environment emanates from the dual role (destabilizing and stabilizing) of the Turkish government that, in turn, presents investment risks for foreign firms. The managers, who

Funding

This work was supported by the Ministry for Science and Culture of Lower Saxony (MWK) (Germany) with financial aid from the "Niedersächsischen Vorab" [grant number 76202-14-6/17].

Declaration of competing interest

The authors declared no potential conflicts of interest with respect to the research, authorship, and/or publication of this article.

Acknowledgement

We would like to thank the reviewers, the special issue editors, and Thomas Neise for their helpful comments on previous drafts.

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