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Investor protection, ownership, and the cost of capital

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Author Info
Himmelberg, Charles P.
Hubbard, R. Glenn
Love, Inessa

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Abstract

The authors combine the agency theory of the firm with risk diversification incentives for insiders. Principal-agent problems between insiders and outsiders force insiders to retain a larger share in their firm than they would under a perfect risk diversification strategy. The authors predict that this higher share of insider ownership and the resulting exposure of insiders to higher idiosyncratic risk will result in underinvestment and higher cost of capital. Using firm-level data from 38 countries, the authors provide evidence in support of their theoretical model, showing that the premium for bearing idiosyncratic riskvaries between zero and six percent and decreases in the level of outside investor protection. The results of the study imply that policies aimed at strengthening investor protection laws and their enforcement will improve capital allocation and result in higher growth.

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Paper provided by The World Bank in its series Policy Research Working Paper Series with number 2834.

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Date of creation: 30 Apr 2002
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Handle: RePEc:wbk:wbrwps:2834

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Keywords: Economic Theory&Research International Terrorism&Counterterrorism Fiscal&Monetary Policy Banks&Banking Reform Capital Markets and Capital Flows Economic Theory&Research International Terrorism&Counterterrorism Banks&Banking Reform Environmental Economics&Policies Financial Crisis Management&Restructuring

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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.:
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  21. Anusha Chari & Peter Blair Henry, 2001. "Stock Market Liberalizations and the Repricing of Systematic Risk," NBER Working Papers 8265, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  25. Fluck, Zsuzsanna, 1999. "The Dynamics of the Management-Shareholder Conflict," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 12(2), pages 379-404.
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  27. Himmelberg, Charles P. & Hubbard, R. Glenn & Palia, Darius, 1999. "Understanding the determinants of managerial ownership and the link between ownership and performance," Journal of Financial Economics, Elsevier, vol. 53(3), pages 353-384, September. [Downloadable!] (restricted)
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  31. La Porta, Rafael & Lopez-de-Silanes, Florencio & Shleifer, Andrei & Vishny, Robert, 2000. "Investor protection and corporate governance," Journal of Financial Economics, Elsevier, vol. 58(1-2), pages 3-27. [Downloadable!] (restricted)
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Full references

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. Césaire A. Meh & Vincenzo Quadrini, 2004. "Uninsurable Investment Risks," Working Papers 04-29, Bank of Canada. [Downloadable!]
    Other versions:
  2. Albuquerque, Rui & Wang, Neng, 2005. "Agency Conflicts, Investment and Asset Pricing," CEPR Discussion Papers 4955, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
    Other versions:
  3. Aaron Tornell, . "Concentrated Ownership and Bailout Guarantees (November 2005)," UCLA Economics Online Papers 407, UCLA Department of Economics. [Downloadable!]
  4. William H. Greene & Abigail S. Hornstein & Lawrence J. White & Bernard Y. Yeung, 2006. "Multinationals Do It Better: Evidence on the Efficiency of Corporations’ Capital Budgeting," Working Papers 06-04, New York University, Leonard N. Stern School of Business, Department of Economics. [Downloadable!]
    Other versions:
  5. Ayyagari, Meghana & Demirguc-Kunt, Asli & Maksimovic, Vojislav, 2005. "How well do institutional theories explain firms'perceptions of property rights?," Policy Research Working Paper Series 3709, The World Bank. [Downloadable!]
  6. Bernard Yeung & Lubomir Litov & Kose John, 2004. "Corporate Governance and Managerial Risk Taking: Theory and Evidence Author-Name: Bernard Yeung," Working Papers 04-35, New York University, Leonard N. Stern School of Business, Department of Economics. [Downloadable!]
  7. Richard Hofler & Julie Ann Elston & Junsoo Lee, 2004. "Dividend Policy and Institutional Ownership: Empirical Evidence using a Propensity Score Matching Estimator," Discussion Papers on Entrepreneurship, Growth and Public Policy 2004-27, Max Planck Institute of Economics, Group for Entrepreneurship, Growth and Public Policy. [Downloadable!]
  8. M. Fatih Guvenen, 2002. "Does Stockholding Provide Perfect Risk Sharing?," RCER Working Papers 490, University of Rochester - Center for Economic Research (RCER), revised Mar 2003. [Downloadable!]
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  9. L. Bottazzi & M. Da Rin & T. Hellmann, 2007. "What is the Role of Legal Systems in Financial Intermediation? Theory and Evidence ," Working Papers 613, Dipartimento Scienze Economiche, Università di Bologna. [Downloadable!]
    Other versions:
  10. Peter Blair Henry & Peter Lombard Lorentzen, 2003. "Domestic Capital Market Reform and Access to Global Finance: Making Markets Work," NBER Working Papers 10064, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  11. Klapper, Leora F. & Love, Inessa, 2002. "Corporate governance, investor protection, and performance in emerging markets," Policy Research Working Paper Series 2818, The World Bank. [Downloadable!]
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