Price volatility and corruption: The case of cross-listed stocks

• Home country corruption increases ADR stock price volatility. • Holding market structure constant allows direct analysis of home country corruption. • Robust to macroeconomic, country, and ADR controls. To identify factors that influence volatility in financial markets, prior research has proposed public sector corruption as a potential determinant. While some studies have found a direct association between volatility and corruption, others have found the opposite. The lack of consensus in the literature might be due to the endogeneity between corruption and financial market structure. Using a unique research design, we revisit this research question by examining American Depository Receipts (ADRs) that trade on U.S. markets but represent stock in foreign companies. Doing so allows us to estimate volatility holding structural market differences in foreign countries constant. Our tests provide evidence that corruption in the ADR home country is associated with greater stock price volatility in ADRs. These results hold for different measures of volatility as well as controls for both home-country and ADR-specific characteristics. These findings support the notion that public sector corruption can create instability in financial markets.