Empirical Banking: Finance and Growth PDF

Empirical Banking Finance and Growth LA PORTA & LOPEZ-DE-SILANES & SHLEIFER & VISHNY Stefano Caiazza 2024-2025 LAW AND FINANCE (LLSV, 1998) Journal of Political Economy, 1998.  Le...

Empirical Banking Finance and Growth LA PORTA & LOPEZ-DE-SILANES & SHLEIFER & VISHNY Stefano Caiazza 2024-2025 LAW AND FINANCE (LLSV, 1998) Journal of Political Economy, 1998.  Legal Origin LLSV’s starting point is recognizing that laws in different countries are typically not written from scratch but rather transplanted voluntarily or otherwise from a few legal families or traditions. Commercial laws come from two broad traditions: common law, which is English in origin, and civil law, which derives from Roman law. Within the civil tradition, or Romano-Germanic, legal tradition is the oldest, the most influential, and the most widely distributed worldwide. It originates in Roman law, uses statutes and comprehensive codes as a primary means of ordering legal material, and relies heavily on legal scholars to ascertain and formulate its rules. Modern commercial laws originate from only three major families: French, German, and Scandinavian. The French and the German civil traditions, as well as the common-law tradition, have spread around the world through a combination of conquest, imperialism, outright borrowing, and more subtle imitation.  Legal Origin The French Commercial Code was written under Napoleon in 1807 and brought by his armies to Belgium, the Netherlands, part of Poland, Italy, and the western regions of Germany. France extended its legal influence to the Near East and Northern and sub-Saharan Africa, Indochina, Oceania, and French Caribbean islands in the colonial era. French legal influence has also been significant as well in Luxembourg, Portugal, Spain, some of the Swiss cantons, and Italy. The German Commercial Code was written in 1897 after Bismarck's unification of Germany. It had an important influence on the legal theory and doctrine in Austria, Czechoslovakia, Greece, Hungary, Italy, Switzerland, Yugoslavia, Japan, and Korea. Taiwan's laws came from China, which borrowed heavily from the German code during its modernization. The Scandinavian family is usually viewed as part of the civil-law tradition, although its law is less derivative of Roman law than theFrench and German families. The Scandinavian family is generally considered as part of the civil-law tradition, although its law is less derivative of Roman law than the French and German families  Legal Origin The common-law family includes the law of England and those laws modeled on English law. The common law is formed by judges who resolve specific disputes. Precedents from judicial decisions, as opposed to contributions by scholars, shape common law. Common law has spread to the British colonies, including the United States, Canada, Australia, India, and many other countries. LLSV rely principally on Reynolds and Flores (1989) to classify countries into legal families. In most cases, such classification is uncontroversial. In a few cases, while the basic origin of laws is clear, laws have been amended over time to incorporate influences from other families.  Legal Origin and Financial Markets The rights attached to securities become critical when managers of companies act in their interest. These rights give investors the power to extract from managers the returns on their investment. Shareholders receive dividends because they can vote out the directors who do not pay them, and creditors are paid because they have the power to repossess the collateral. Without these rights, investors would not be able to get paid, and therefore firms would find it harder to raise external finance. The differences in legal protections of investors might help explain why firms are financed and owned so differently in different countries. Why do Italian companies rarely go public? Why does Germany have such a small stock market but also maintain very large and powerful banks? Why is the voting premium – the price of shares with high voting rights relative to that of shares with low voting rights – small in Sweden and the United States, and much larger in Italy and Israel? Indeed, why were Russian stocks nearly worthless immediately after privatization – by some estimates 100 times cheaper than Western stocks backed by comparable assets – and why did Russian companies have virtually no access to external finance? Why is ownership of large American and British companies so widely dispersed?  Shareholder Rights Because shareholders exercise their power by voting for directors and on major corporate issues, experts focus on voting procedures in evaluating shareholder rights. They include voting rights attached to shares, rights that support the voting mechanism against interference by the insiders, and what we call remedial rights. Investors may be better protected when dividend rights are tightly linked to voting rights, that is, when companies in a country are subject to one-share-one-vote rules (Grossman and Hart 1988; Harris and Raviv 1988). In sum, common-law countries have the relatively strongest, and the French-civil-law countries the weakest, protections of shareholders, independent of per capita income. Shareholder Rights explanation Shareholder Rights explanation  Creditor Rights For two reasons, creditor rights are more complex than shareholder rights. First, there may be different kinds of creditors with different interests, so protecting the rights of some creditors reduces the rights of others. For example, in the case of a default, senior secured creditors may have a simple interest in getting possession of collateral no matter what happens to the firm. In contrast, junior unsecured creditors may wish to preserve the firm as a going concern so they can hope to get some of their money back if the firm turns a profit. Second, there are two general creditor strategies for dealing with a defaulting firm: liquidation and reorganization, which require different rights to be effective. The most basic right of a senior collateralized creditor is the right to repossess and then liquidate or keep collateral when a loan is in default. In some countries, the law makes it difficult for such creditors to repossess collateral, in part because such repossession leads to the liquidation of firms, which is viewed as socially undesirable. In these countries, creditors may still have powers against borrowers, namely their votes in the decisions for how to reorganize the company.  Creditor Rights Common-law countries protect investors the most, while French-civil-law countries protect them the least. German civil-law countries are in the middle, though closer to the civil-law group. The one exception is the strong protections that German civil-law countries afford secured creditors. Scandinavian countries are in the middle as well. The evidence also indicates that these results are not a consequence of richer countries' having stronger investor rights; if anything, the results for creditors are the reverse.  Enforcement In principle, a strong legal enforcement system could substitute for weak rules since active and well-functioning courts can step in and rescue investors abused by the management. To address these issues, we examine proxies for the quality of enforcement of these rights, namely estimates of "law and order" in different countries compiled by private credit risk agencies for the use of foreign investors interested in doing business in the respective countries. CIVIL LAW: Scandinavian countries: top German-civil-law countries: very close to Scandinavian ones French-civil-law: the weakest COMMON LAW Countries are behind the Scandinavian countries but ahead of French-civil-law countries.  Ownership In this section, we explore the hypothesis that companies in countries with poor investor protection have more concentrated ownership of their shares. There are at least two reasons why the ownership in such countries would be more concentrated. First, large, or even dominant, shareholders who monitor the managers might need to own more capital, ceteris paribus, to exercise their control rights and thus avoid being expropriated by the managers. Second, when they are poorly protected, small investors might be willing to buy corporate shares only at such low prices that make it unattractive for corporations to issue new shares to the public.  Conclusion First, laws differ markedly around the world, though in most places, they tend to give investors a rather limited bundle of rights. In particular, countries whose legal rules originate in the common law tradition tend to protect investors considerably more than the countries whose laws originate in the civil-law, especially the French-civil-law tradition. The German-civil- law and the Scandinavian countries take an intermediate stance toward investor protection. Second, law enforcement differs a great deal around the world. German-civil-law and Scandinavian countries have the best quality of law enforcement. Law enforcement is strong in common-law countries as well, whereas it is the weakest in the French-civil-law countries. Third, the data support the hypothesis that countries develop substitute mechanisms for poor investor protection.  Financial Institutions and capital market development Compared to French-civil-law, Common-law is associated with the following: (a) Better investor protection, which in turn is associated with improved financial development, better access to finance, and higher ownership dispersion. (b) Lighter Government ownership and regulation, which are in turn associated with less corruption, better functioning labor markets, smaller unofficial economies, and (c) Less formalized and more independent judicial systems, which are, in turn, associated with more secure property rights and better contract enforcement. In interpreting the evidence in light of the Legal Origins Theory, it is easiest to proceed in reverse: from judicial independence to government regulation to finance. The evidence on judicial independence directly confirms the predictions. Common law countries succeed in finance because their regulatory strategies seek to sustain markets rather than replace them.