When Politics Meets Finance: The Moderating Role of Political Uncertainty on Investment–Cash Flow Sensitivity

ABSTRACT This study investigates how political uncertainty influences the relationship between internal cash flow and corporate investment decisions among US firms. Using a dataset of 5817 firm‐year observations from 1079 publicly listed companies between 2013 and 2021, we analyze the moderating effect of both firm‐level political risk (PRISK) and country‐level economic policy uncertainty (EPU) on investment–cash flow sensitivity (ICFS). The empirical evidence indicates a positive and statistically significant relationship between cash flow and corporate investment. However, when interacted with political uncertainty metrics, both at the macroeconomic level (EPU) and firm‐specific level (PRISK), this relationship experiences a significant reduction in magnitude. This attenuation of ICFS persists regardless of whether political uncertainty is measured as a systematic or idiosyncratic risk factor. This negative moderating effect remains robust across various specifications, including controls for financial constraints, different PRISK components, and alternative estimation methods (GMM and 2SLS) using R&D expenditures as an instrumental variable. These results highlight the complex interplay between political uncertainty and firm investment behavior, particularly for financially constrained firms. The findings have important practical implications for corporate managers, investors, and policymakers, who must consider political uncertainty as a critical factor influencing investment strategies and capital allocation. This research contributes to the literature by integrating multiple dimensions of political uncertainty into the analysis of ICFS, offering new perspectives on how external risk factors alter internal financial decision‐making dynamics.