|Title:||Two essays on formal institutions and debt finance|
|Advisors:||Chui, Chun Wai (AF)|
Corporations -- Finance
Hong Kong Polytechnic University -- Dissertations
|Department:||School of Accounting and Finance|
|Pages:||ix, 156 pages : color illustrations|
|Abstract:||After the seminal work of La Porta et al. (1997), a large number of studies have focused on the association between law and finance. My thesis consists of two essays on formal institution and corporate finance. The first essay investigates how the establishment of competition laws affects cost of debt worldwide. The second essay examines how electoral system in a country influences leverage and debt maturity of firms in that country. Many studies on the linkage between product market competition and corporate finance concentrate on how competition influences firms' cash flows (Peress, 2010), stock returns (Gaspar and Massa, 2006), corporate governance (Giroud and Mueller, 2011), and capital structure (Brander and Lewis, 1986, 1988; Bolton and Scharfstein, 1990; Lee, 2011; Rathinasamy et al., 2000). However, less is known on the relation between product market competition and cost of debt. Valta (2012) finds that the cost of debt of firms in the United States is particularly high for firms in competitive industries. It is because firms in a more competitive market have higher bankruptcy risk. In the first essay, I investigate the effect of product market competition on firms' cost of debt worldwide. Competition can increase bankruptcy risk, lower agency cost, and enhance asset liquidity (Merton, 1974; Myers, 1977; Chen, 1978) and these factors influence firms' cost of debt. In particular, the first essay looks at how competition laws that regulate the level of competition may affect cost of debt. In this essay, I compare firms' cost of debt before and after competition law establishment on the country level and conduct analyses on firm-year and country-year observations in 33 countries during the period of 1988 to 2012. The evidences suggest that cost of debt reduced significantly after a country establishing competition laws. Furthermore, the results also show that firms' cost of debt is significantly higher in countries with stricter competition laws.|
The second essay is on institution and capital structure. Previous studies have examined how various institutional factors (e.g., Index of legal efficiency, Integrity of the legal environment and Corruption perception index) affect capital structure (e.g., Demirguc-Kunt and Maksimovic, 1999; Fan et al., 2011). The second essay focuses on how a country's electoral system may influence firms' capital structure choices. Pagano and Volpin (2005) show that employment protection is stronger in proportional electoral systems than majoritarian electoral system, while investor protection is weaker in proportional electoral systems than majoritarian electoral system. In a proportional electoral system, managers and controlling shareholders tend to issue more debt to protect their interests from employees' requirement of higher compensations. On the other hand, investors in a proportional electoral system are less protected in the stock market so they participate more in the debt market. Furthermore, entrepreneurs in proportional electoral systems are more political powerful and hence can easier to borrow debt with longer maturities. Empirical tests are conducted using firm-year data from 1994 to 2009 in 34 countries. I find that firms issue more debt and more long-term debt in countries with proportional electoral system than those with majoritarian electoral system. In summary, electoral system is an important determinant of firms' capital structure across country.
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