Who Cares? Corporate Governance in Today’s Equity Markets

There are two main sources of confusion in the public corporate governance debate. One is the confusion about the role of public policy in corporate governance. The other is a lack of empirical knowledge among commentators about the corporate landscape and the way that today’s stock markets influence the conditions for exercising long term and value creating corporate governance. This paper tries to mitigate some of this confusion and to increase awareness in both respects.

In terms of public policy it is important to understand that the general corporate governance discussion usually takes place on two different levels. And both are legitimate. One is concerned with the everyday workings of individual companies: how they organize their internal procedures, staff their company organs and build their corporate culture. Much of this is unique to the company in question. The choices to be made are often a matter of business judgment and are seldom in a domain where policy makers and regulators have any specific expertise.

The other level – the policy level – is concerned with the overall functioning of the business sector, particularly those companies that have (or potentially will have) their shares listed on the stock market. At this level, the objective is to provide corporations and investors with a legal and regulatory framework that maximize their contribution to economic growth. Of particular concern is the way that corporate governance policies impact the level and quality of private sector investment, which is the well-documented basis for sustainable growth. The reason for this focus is that the quality of corporate governance rules and regulations impacts each and every stage of the investment process: they influence the availability of equity capital to corporations that want to grow and create new jobs; they influence the efficiency with which corporations are scrutinized and how well capital is allocated between them, and; they influence how the individual corporations that receive capital are monitored and governed on a day-to-day basis.

In terms of the empirical context, the paper explains some fundamental changes in the functioning of equity markets that may call for a fresh look at the economic effectiveness of corporate governance regulations. One important observation is the dramatic shift in new listings from developed to emerging markets over the last decade. An important corporate governance implication of this shift is that concentrated ownership at company level has become the dominant form of ownership structure in listed companies worldwide. We also discuss whether the lack of new listings (and the numerous de-listings) in developed markets during the last decade may partly be an unintended consequence of profound changes in stock market de-regulation leading to extensive market fragmentation and new technology driven trading practices, such as co-located high-frequency trading. We also discuss the possible impact of new regulatory burdens on publicly traded corporations in terms of increased compliance and reporting requirements.

The extensive discussion about new listings illustrates the important, but often neglected point that corporate governance rules and regulations do not only affect companies that are already publicly traded. From a policy perspective, it is equally important to assess the way they affect the incentives for tomorrow’s companies to use public equity markets to realize their full potential in terms of growth and job creation.

The paper also documents how the lengthened and ever more complex chain of intermediaries between savers and companies may influence the efficiency of capital allocation and the willingness of investors to take an active long-term interest in the companies that they own. It is shown that institutional investors are a highly heterogeneous group and that their willingness and ability to engage in corporate governance primarily depend on the economic incentives that follow from their different business models, investment strategies and trading practices. We provide examples of how regulatory initiatives to increase shareholder engagement may have unintended consequences, and note that the diversity and complexity of the investment chain can render general policies or regulation ineffective.

The full paper is available for download here.