This paper examines political connections as barriers to entry in financial intermediation. Exploiting an unanticipated weakening of political ties between private equity firms and state and local officials, we find that public pension funds reallocate capital toward first-time private equity funds. The effects are similar across private market asset classes and concentrated among public pension investors. The reallocation reflects disruptions to existing relationships between intermediaries and capital providers, rather than shifts in the overall supply of capital to private markets. The reallocated investments exhibit superior performance. Our findings suggest that political connections impede entry in private equity, distorting capital allocation at the expense of efficiency.
Jun Chen, University of Illinois Chicago
Matthew Denes, Carnegie Mellon University