Law and Structure of the Capital Markets

In this paper, we examine whether legal systems affect the structure of capital markets in terms of the development of bond markets versus equity markets. Using a dataset of 42 developed and developing countries, we document that a country's legal system, especially investor protections, determines the structure of the capital markets in a country. Our results indicate that in countries with stronger creditor rights, the bond markets are more developed than the equity markets. Alternatively, in countries with stronger shareholder rights, the equity markets are more developed than the bond markets. Additionally, we determine that the effects of financial reforms are strongly dependent on the strength of investor protections and information disclosure.