Familiarity Breeds Investment August 2010 measures of commonality are then interpreted in the constraints imposed by information asymmetries and context of greater familiarity,better information,lower transactions costs.6 barriers to entry,and smaller transactions costs. Before discussing the role of familiarity and informa- Scholars also interpret negative coefficients on the tion asymmetries,we note that migrant networks can (log of)distance in gravity models of international have a direct and observable impact on cross-border investment as a proxy for information asymmetries investment when they,themselves.are the actors.In his The greater the distance from a market,so the argu- study of the Korean diaspora,for example,Choi(2003) ment goes,the greater the information cost and the documents how FDI into Korea-a form of investment lower the level of investment.Arguing that distance that came late to that country-was originally spurred proxies for information costs,however,is theoretically by ethnic Koreans residing in Japan.Migrant-based unsatisfying,and,in a series of articles,Portes and Rey investment also comes from nonwealthy expatriates. (2005;Portes,Rey,and Oh 2001)employ a more direct Schuttler(2007)and Schulte(2008)study,respectively, measure of information asymmetries and transactions the investment behavior of Moroccan and Turkish mi- costs by including a measure of bilateral telephone traf- grants living in Germany.Using ethnographic and sur- fic.They find that telephone traffic is associated with vey research,both scholars conclude that diaspora in- higher levels of bilateral portfolio investment.+ vestors are well-situated investment in their homeland These approaches remain incomplete.Even mod- because of cultural and linguistic familiarity.There are els that include measures of communication flows and larger literatures that make similar points about the communication costs find that investors retain a home ways in which migrant entrepreneurs have used home bias (e.g.,Loungani,Mody,and Razin 2002).Taking country connections to channel human,physical,and this as their point of departure,a growing literature ar- investment capital.9 gues that investment across country may be driven not Cross-national models of home country investment by familiarity,but rather by"cultural affinity,"whereby are difficult to test in the aggregate because even if individuals have more trust in individuals and institu- we surveyed investors it would be surprising if they tions from countries that share common cultural char- would admit to making bad investments or to being acteristics (e.g.,Guiso,Sapienza,and Zingales 2005; privy to private information.Because our interest is in Siegel,Licht,and Schwartz 2008).Cultural similarity, understanding broad patterns of global investment,we viewed within the context of ICAPMs.would constitute embed variables capturing migrant networks in well- a more direct measure of(the lack of)information costs established empirical models;our inferences are then and should be correlated with lower transactions costs conditional on the set of conditioning variables,and and a greater ease of doing business across border. our conclusions are thus statements about average be- This is where we join the literature on cross-border havior across a set of observations investment.Rather than developing empirical proxies At the aggregate level,then,how do migrants chan- for cultural affinity,economic familiarity,and infor- nel investment?We identify two channels:one result- mation asymmetries,we argue that diaspora networks ing from increased familiarity,and another associated help link sources of investment to specific destinations. with a decrease in informational asymmetries.These are discussed in turn. The familiarity effect takes hold when investors in Migrant Networks and Cross-border Capital a source country become familiar with characteristics How do migrant networks fit into an explanation for of the migrant's homeland through their connections cross-national investment?A network can be under- to,and observation of,migrant communities that ex- stood as a group of actors that either know about or can ist in their country.This "familiarity effect"occurs learn about each other's characteristics (Granovetter as migrants provide a signal to investors that allows 1973).Scholars have long recognized the importance of social networks for fostering economic exchange when formal institutions are absent or incomplete(e.g., 6 We should note that there are other mechanisms by which migrant networks channel capital back to their home country.Studies of over- Greif 1989:North 2005).5 From this perspective,we seas migrant communities have documented the role that coethnic can identify numerous ways in which migrant net- networks play in transmitting technical information and investment works facilitate cross-border investment,ways that are capital back to their country of origin (e.g.,Saxenian,2002,2006). More recent contributions have demonstrated the importance of consistent with prior research documenting departures migrant networks for channeling capital in the form of remittances from the ICAPM of international investment.Within (Leuth and Ruiz-Arranz 2006:Ratha and Shaw 2007). this context,migrant networks influence investment 7 Choi (2003)tells the story of Kyuk-ho Shin and Son Masayoshi- by facilitating the familiarity effect and by decreasing both of whom amassed their wealth while living in Japan and both of whom engaged in millions of dollars worth of FDI into Korea. Migrants are aware of this advantage,as Schulte(2008)documents with a quote from one of her interviewees:"Logically,one has advan 4 Loungani,Mody,and Razin(2002)reach a similar conclusion re- tages as a Turk when approaching business partners [in Turkey.One garding the positive relationship between bilateral telephone traffic speaks the same language,one is aware that small talk is required and FDI and one is on the same level of understanding,one socializes,one The relational approach to economic sociology focuses on rela- has the same humour,one shares interest in specific topics.That is a tions between parties to a transaction rather than on the transaction major advantage"(p.8). itself.This view,that economic processes are "embedded"in social Examples include Freinkman(2002)on Armenia,Kapur(2001) relations,has been used to study labor markets(Granovetter 1973). and Saxenian (2002)on India,Kleinman(1996)on Israel,and Rauch business transactions (Uzzi 1996),and FDI(Bandelj 2002.2007). and Casella (2002)and Weidenbaum and Hughes(1996)on China 586Familiarity Breeds Investment August 2010 measures of commonality are then interpreted in the context of greater familiarity, better information, lower barriers to entry, and smaller transactions costs. Scholars also interpret negative coefficients on the (log of) distance in gravity models of international investment as a proxy for information asymmetries. The greater the distance from a market, so the argu￾ment goes, the greater the information cost and the lower the level of investment. Arguing that distance proxies for information costs, however, is theoretically unsatisfying, and, in a series of articles, Portes and Rey (2005; Portes, Rey, and Oh 2001) employ a more direct measure of information asymmetries and transactions costs by including a measure of bilateral telephone traf- fic. They find that telephone traffic is associated with higher levels of bilateral portfolio investment.4 These approaches remain incomplete. Even mod￾els that include measures of communication flows and communication costs find that investors retain a home bias (e.g., Loungani, Mody, and Razin 2002). Taking this as their point of departure, a growing literature ar￾gues that investment across country may be driven not by familiarity, but rather by “cultural affinity,” whereby individuals have more trust in individuals and institu￾tions from countries that share common cultural char￾acteristics (e.g., Guiso, Sapienza, and Zingales 2005; Siegel, Licht, and Schwartz 2008). Cultural similarity, viewed within the context of ICAPMs, would constitute a more direct measure of (the lack of) information costs and should be correlated with lower transactions costs and a greater ease of doing business across border. This is where we join the literature on cross-border investment. Rather than developing empirical proxies for cultural affinity, economic familiarity, and infor￾mation asymmetries, we argue that diaspora networks help link sources of investment to specific destinations. Migrant Networks and Cross-border Capital How do migrant networks fit into an explanation for cross-national investment? A network can be under￾stood as a group of actors that either know about or can learn about each other’s characteristics (Granovetter 1973). Scholars have long recognized the importance of social networks for fostering economic exchange when formal institutions are absent or incomplete (e.g., Greif 1989; North 2005).5 From this perspective, we can identify numerous ways in which migrant net￾works facilitate cross-border investment, ways that are consistent with prior research documenting departures from the ICAPM of international investment. Within this context, migrant networks influence investment by facilitating the familiarity effect and by decreasing 4 Loungani, Mody, and Razin (2002) reach a similar conclusion re￾garding the positive relationship between bilateral telephone traffic and FDI. 5 The relational approach to economic sociology focuses on rela￾tions between parties to a transaction rather than on the transaction itself. This view, that economic processes are “embedded” in social relations, has been used to study labor markets (Granovetter 1973), business transactions (Uzzi 1996), and FDI (Bandelj 2002, 2007). constraints imposed by information asymmetries and transactions costs.6 Before discussing the role of familiarity and informa￾tion asymmetries, we note that migrant networks can have a direct and observable impact on cross-border investment when they, themselves, are the actors. In his study of the Korean diaspora, for example, Choi (2003) documents how FDI into Korea—a form of investment that came late to that country—was originally spurred by ethnic Koreans residing in Japan.7 Migrant-based investment also comes from nonwealthy expatriates. Schuttler (2007) and Schulte (2008) study, respectively, ¨ the investment behavior of Moroccan and Turkish mi￾grants living in Germany. Using ethnographic and sur￾vey research, both scholars conclude that diaspora in￾vestors are well-situated investment in their homeland because of cultural and linguistic familiarity.8 There are larger literatures that make similar points about the ways in which migrant entrepreneurs have used home country connections to channel human, physical, and investment capital.9 Cross-national models of home country investment are difficult to test in the aggregate because even if we surveyed investors it would be surprising if they would admit to making bad investments or to being privy to private information. Because our interest is in understanding broad patterns of global investment, we embed variables capturing migrant networks in well￾established empirical models; our inferences are then conditional on the set of conditioning variables, and our conclusions are thus statements about average be￾havior across a set of observations. At the aggregate level, then, how do migrants chan￾nel investment? We identify two channels: one result￾ing from increased familiarity, and another associated with a decrease in informational asymmetries. These are discussed in turn. The familiarity effect takes hold when investors in a source country become familiar with characteristics of the migrant’s homeland through their connections to, and observation of, migrant communities that ex￾ist in their country. This “familiarity effect” occurs as migrants provide a signal to investors that allows 6 We should note that there are other mechanisms by which migrant networks channel capital back to their home country. Studies of over￾seas migrant communities have documented the role that coethnic networks play in transmitting technical information and investment capital back to their country of origin (e.g., Saxenian, 2002, 2006). More recent contributions have demonstrated the importance of migrant networks for channeling capital in the form of remittances (Leuth and Ruiz-Arranz 2006; Ratha and Shaw 2007). 7 Choi (2003) tells the story of Kyuk-ho Shin and Son Masayoshi— both of whom amassed their wealth while living in Japan and both of whom engaged in millions of dollars worth of FDI into Korea. 8 Migrants are aware of this advantage, as Schulte (2008) documents with a quote from one of her interviewees: “Logically, one has advan￾tages as a Turk when approaching business partners [in Turkey]. One speaks the same language, one is aware that small talk is required and one is on the same level of understanding, one socializes, one has the same humour, one shares interest in specific topics. That is a major advantage” (p. 8). 9 Examples include Freinkman (2002) on Armenia, Kapur (2001) and Saxenian (2002) on India, Kleinman (1996) on Israel, and Rauch and Casella (2002) and Weidenbaum and Hughes (1996) on China. 586