Job Creation in Development Finance Institution (DFI) Investments: Firm-level Determinants and Effect of DFI funding Master’s Thesis

This paper is concerned with the job creation dynamic of development finance institutions’ (DFI) investments and approaches the topic from two perspectives. Firstly, it reviews the key determinants of firm-level employment growth from general economic literature and examines how they explain job creation in DFI investments. Secondly and more interestingly, the effect of DFI funding itself on firm-level employment growth is examined. Utilizing a unique firm-level dataset of 239 DFI investments of Finnfund (Finnish Fund for Industrial Cooperation Ltd), Finland’s primary DFI, during the years 2008 to 2014, this study finds several interesting results. Examining how determinants of employment growth from general economic literature explain employment growth in DFI investments, a strong negative relationship of both firm size and capital intensity with employment growth is established. This result is in line with previous literature on the relationship between firm size and employment growth and with the Cobb-Douglas relationship respectively, but has not been previously empirically tested with a sample of DFI portfolio firms. More interestingly, when controlling for firm size and capital intensity, no statistically significant relationship between returns of DFI investments and firm-level employment growth is found. This parts from previous findings of DFI practitioner literature, suggesting potential lack of methodological rigor in these studies. Secondly, additional DFI funding is found to positively and statistically significantly effect firm-level employment growth in sample firms. By matching 96 Finnfund investments that received additional funding during the years 2008 to 2014 with a group of control investments not receiving additional funding through a propensity score matching (PSM) procedure, a statistically positive effect of additional funding on average annual employment growth is established. This is the first paper to document such a micro-level relationship between DFI funding and firm-level job creation. While the employment effect does not statistically persist in one of the matched comparisons and the robustness analysis using a DID-PSM approach yields mixed results, general direction and magnitude of the observed effect strongly suggests that additional DFI funding has a positive effect on firm-level job creation. Considering that the positive effect of DFI funding on employment growth is observed as an increase in the rate of employment growth, not mere increase in number of employees, and is observable already within the same year of funding, non-financial benefits of DFI funding could have a big role in explaining the observed effect.