Corporate Transparency and Resource Allocation

This post comes from Jere R. Francis, Inder K. Khurana, Raynolde Pereira and Shawn Huang of the University of Missouri-Columbia.

In our paper Does Corporate Transparency Contribute to Efficient Resource Allocation? which was recently accepted for publication in the Journal of Accounting Research, we examine whether the country-level information environment positively affects the timely reallocation of resources in response to growth shocks (or changes in growth opportunities) by improving the transfer of resources from industries which experience negative growth shocks to those that experience positive growth shocks.

We hypothesize that if a pair of countries has a high level of corporate transparency in each country, then investors are better able to recognize and direct resources towards industries which experience positive growth shocks and away from industries which experience negative growth shocks, irrespective of financial development. Our sample consists of calculated correlations in industry growth rates for 666 country pairs based on 37 unique countries and 37 manufacturing industries for the period 1980-1990 using industry-level data from a United Nations Industrial Development Organization (2000) database. We merge these correlations with country-level measures of corporate transparency that capture the quality of the financial reporting regime, the intensity of private information collection, the quality of information dissemination structures, the level of earnings opacity and stock price synchronicity.

We find transparency is positively associated with the correlation in industry-specific growth rates across country pairs. This positive association is consistent with the notion that corporate transparency helps to channel resources to those particular industries with good growth opportunities and hence contributes to more effective inter-sector allocation of resources. These results generally hold across alternative measures of transparency. In addition, we find that the impact of corporate transparency on the co-movement in growth rates is greater for country pairs with similar levels of economic development. Third, we find that the residual transparency metrics positively explain co-movements in industry-specific growth rates among country pairs, which indicates that transparency over and above that predicted by the underlying institutions facilitates resource allocation. Finally, we measure a country’s level of ex ante growth opportunities using the price-earnings ratio of global industry portfolios weighted by a country’s industrial mix and find that it is only countries with high transparency where there is an association between ex ante global growth opportunities of firms (within a country) and the country’s realized ex post growth in real GDP per capita. This result is consistent with the argument that firms in more transparent settings are better able to exploit global growth shocks and thus achieve higher realized growth rates.

The full paper is available for download here.

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