As described below, this is highly correlated with measures of rule of law and contract enforcement at the country-level. By controlling for country-level unobservables and region characteristics (such as GDP per capita and the share of college-educated workers), the correlation between residual variation in trust and region-level unobservables is likely less severe than at the countrylevel. Relative to the small number of papers that use regional variation to examine the relation between institutions and management (Amit et. al. 2015, Akcigit et. al. 2016), our large sample spanning 134 regions allows to cluster standard errors at the region-level (at which the explanatory variable of interest varies) for correct inference and examine heterogeneous effects across countries.<sup>8</sup> We find that in regions characterized by a lower level of trust, firms are more likely to be family-managed and family-managed firms are relatively larger. This is consistent with the sorting patterns predicted by our model. Highlighting the importance of our approach that leverages regional variation within countries, we find that cross-country specifications overestimate trust’s effect on family management by about 50%.<sup>9</sup> In further support of the mechanism behind our findings, we employ the Levchenko (2007) measure of product complexity at the industry-level and show that our results are stronger within more complex industries which are likely to be particularly sensitive to the external contracting environment as predicted by our framework.

While La Porta, Lopez-de-Silanes and Shleifer (1999) and Aminadav and Papaioannou (2018) focus on ownership structure, as in Villalonga and Amit (2006) we are able to break apart family ownership from management and explore which drives differences in firm performance. We find that (i) founder firms (i.e. young, family firms) perform better than their older counterparts and that (ii) family-owned but professionally-managed firms perform better than those which are both family-owned and family-managed. This reinforces the Bloom and Van Reenen (2007) findings that primogeniture is especially harmful for management practices, and provides additional evidence that it is family management rather than family ownership that is detrimental to firm performance.

Family-managed firms are on average 24.8% less productive than professionally-managed firms. Our prior results therefore suggest that strong contractual institutions should raise aggregate productivity by lowering the share of family-managed firms. Using our sufficient statistic approach that allows to us to relate changes in trust to changes in TFP through its effect on the share of professionally-managed firms, we find that a one standard deviation increase in trust increases TFP by 2.68% and that moving from the minimum trust region to the maximum increases TFP by 14.65%. Stepping back to the national-level where we can use the rule of law index directly, we find that a one standard deviation increase in a country’s rule of law increases TFP

> 8First, Amit et. al. (2015) examine how family ownership and management respond to regional variation in measures of institutional development in China. The institutional variables measure investment climate (e.g. taxes, bureaucratic and customs delays) and economic development (average firm market value) rather than trust. Their data have only 6 observations of these institutional outcomes across regions. Second, Akcigit, Alp and Peters (2016) have an empirical component to their paper that uses variation in trust across Indian states. However, their data only provides information on family ownership, while our data allows to us to explicitly measure whether or not firms are family-managed. They also only have 22 observations of trust (Indian states). In contrast, our data spans 134 regions in 11 countries which gives us enough power to cluster standard at the region-level to identify the effect of trust on managerial decisions.

> 9The direction of this bias intuitive: countries with higher trust (our proxy for contractual institutions) are likely to have other unobservables that also increase the relative return to professional management. For example, better overall economic conditions may increase the benefit from hiring outside managers if firms anticipate that professional managers will allow them to expand in the future.

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