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The Very Dark Side of Internal Capital Markets: Evidence from Diversified Business Groups in Korea

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Author Info
Lee, Sangwoo
Park, Kwangwoo
Shin, Hyun-Han
Abstract

This paper examines the capital allocation within Korean chaebol firms during the period from 1991 to 2000. We find strong evidence that, during the pre-Asian financial crisis period in the early 1990's, poorly performing firms with less investment opportunities invest more than well-performing firms with better growth opportunities. We also find the evidence of cross-subsidization among firms in the same chaebol group during the pre-crisis period. It appears that the existence of the "dark" side of internal capital markets explains most part of this striking phenomenon where "tunneling" practice has been common during the pre-crisis period. However, the inefficient capital allocation seems to disappear after the crisis as banks gain more power and market disciplines inefficient chaebol firms.

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Paper provided by Center for Economic Institutions, Institute of Economic Research, Hitotsubashi University in its series CEI Working Paper Series with number 2005-7.

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Length: 39 p.
Date of creation: Oct 2005
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Handle: RePEc:hit:hitcei:2005-7

Note: This Version: May 8, 2005
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Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Pinkowitz, Lee & Williamson, Rohan, 2001. "Bank Power and Cash Holdings: Evidence from Japan," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 14(4), pages 1059-82.
  2. Shin, Hyun-Han & Park, Young S., 1999. "Financing constraints and internal capital markets: Evidence from Korean 'chaebols'," Journal of Corporate Finance, Elsevier, vol. 5(2), pages 169-191, June. [Downloadable!] (restricted)
  3. Stein, Jeremy C, 1997. " Internal Capital Markets and the Competition for Corporate Resources," Journal of Finance, American Finance Association, vol. 52(1), pages 111-33, March. [Downloadable!] (restricted)
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  4. Gordon M Phillips & Vojislav Maksimovic, 1999. "Do Conglomerate Firms Allocate Resources Inefficiently?," Working Papers 99-11, Center for Economic Studies, U.S. Census Bureau. [Downloadable!]
  5. Raghuram Rajan & Henry Servaes & Luigi Zingales, . "The Cost of Diversity: The Diversification Discount and Inefficient Investment," CRSP working papers 463, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
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  6. Meyer, Margaret & Milgrom, Paul & Roberts, John, 1992. "Organizational Prospects, Influence Costs, and Ownership Changes," Journal of Economics & Management Strategy, Blackwell Publishing, vol. 1(1), pages 9-35, Spring.
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  7. Andrew Berg, 1999. "The Asia Crisis - Causes, Policy Responses and Outcomes," IMF Working Papers 99/138, International Monetary Fund.
  8. Lamont, Owen, 1997. " Cash Flow and Investment: Evidence from Internal Capital Markets," Journal of Finance, American Finance Association, vol. 52(1), pages 83-109, March. [Downloadable!] (restricted)
  9. David S. Scharfstein & Jeremy C. Stein, 2000. "The Dark Side of Internal Capital Markets: Divisional Rent-Seeking and Inefficient Investment," Journal of Finance, American Finance Association, vol. 55(6), pages 2537-2564, December. [Downloadable!] (restricted)
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  10. Ramon Moreno, 1998. "What caused East Asia's financial crisis?," FRBSF Economic Letter, Federal Reserve Bank of San Francisco, issue Aug 7. [Downloadable!]
  11. Hoshi, Takeo & Kashyap, Anil & Scharfstein, David, 1991. "Corporate Structure, Liquidity, and Investment: Evidence from Japanese Industrial Groups," The Quarterly Journal of Economics, MIT Press, vol. 106(1), pages 33-60, February. [Downloadable!] (restricted)
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  12. Hyun-Han Shin & René M. Stulz, 1998. "Are Internal Capital Markets Efficient?," The Quarterly Journal of Economics, MIT Press, vol. 113(2), pages 531-552, May. [Downloadable!] (restricted)
  13. Steven Radelet & Jeffrey Sachs, 1998. "The Onset of the East Asian Financial Crisis," NBER Working Papers 6680, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  14. Eduardo Borensztein & Jong-Wha Lee, 2000. "Financial Crisis and Credit Crunch in Korea - Evidence from Firm-Level Data," IMF Working Papers 00/25, International Monetary Fund.
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  15. David S. Scharfstein, 1998. "The Dark Side of Internal Capital Markets II: Evidence from Diversified Conglomerates," NBER Working Papers 6352, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Gennaioli, Nicola & Rossi, Stefano, 2008. "Judicial Discretion in Corporate Bankruptcy," CEI Working Paper Series 2008-5, Center for Economic Institutions, Institute of Economic Research, Hitotsubashi University. [Downloadable!]
  2. Gennaioli, Nicola & Rossi, Stefano, 2008. "Optimal Resolutions of Financial Distress by Contract," CEI Working Paper Series 2008-6, Center for Economic Institutions, Institute of Economic Research, Hitotsubashi University. [Downloadable!]
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