In this paper, we argue that some practices that work well in the West may go awry when they applied in a country with weak or underdeveloped institutions. Namely, we argue that signals that are relatively accurate reflections of quality in the West may not only not work in other countries but may be the ones that are most likely to be transmitted by counterfeits. The reason is, because the accuracy of signals in the West is supported by institutional conditions that are not available in other countries. We argue that the role of institutions in the accuracy of signals is often poorly understood by both theory and practice. We support this argument by looking at investment decisions with regards of 1999 banks in Russia in 1994. We show that Western investors relied on Western signals of quality to make investment decisions and exactly those banks that emitted these signals were the most likely to go bankrupt due to false signaling. Ironically, local investors who thought that the Westerners knew what they were doing relied on the ratings of reputable Western agencies and used the investment decisions of foreigners to guide their own investment decisions and thus also ended up losing a lot of money. We conclude that increasing internationalization makes understanding the role of institutions in affecting the accuracy of signals highly relevant to both theory and to practice.
Version: $Revision: 1.4 $
Last Modified: $Date: 2004/10/06 22:44:32 $ GMT
First established: July, 2004
Author: Lívia Markóczy