The Limits of Financial Globalization

Abstract

Despite the dramatic reduction in explicit barriers to international investment activity over the last 60 years, the impact of financial globalization has been surprisingly limited. I argue that country attributes are still critical to financial decision-making because of "twin agency problems" that arise because rulers of sovereign states and corporate insiders pursue their own interests at the expense of outside investors. When these twin agency problems are significant, diffuse ownership is inefficient and corporate insiders must co-invest with other investors, retaining substantial equity. The resulting ownership concentration limits economic growth, financial development, and the ability of a country to take advantage of financial globalization.

Idiosyncratic volatility, executive compensation and corporate governance: examination of the direct and moderate effects

“…John et al (2008) put forth two arguments showing a positive association between investor protection and corporate risk-taking in poor governance countries. A company's dominant shareholders may receive large private benefits by virtue of their control (Morck et al 2005;Stulz 2005). There is a negative association between investor protection and risk-taking because the action may indicate less fear of expropriation by CEOs and less need for dominant shareholders.…”

Financial Integration and the Cost of Capital: A Study of the Brazilian Equity Market

“…The risk-sharing motivation seems more reasonable when assuming that foreign investors (namely institutional investors) started to trade in the previously segmented market, sharing the risks associated to the financial asset with the local investors (Stulz, 2005). The other rationale behind the risk-sharing hypothesis, that local investors can trade freely in international markets, is a bit more complicated, and may not hold if we consider that domestic investors can face barriers to trade in international markets, or if the market continues to be at least mildly segmented even after some level of integration (as argued by Errunza & Losq, 1985).…”

“…As foreign investors are usually more sophisticated and better informed, they pressure firms from previously segmented markets to improve corporate governance standards when these markets are liberalized. Improved corporate governance leads to lower cost of capital through reductions in agency costs (Stulz, 2005). Graham and Harvey (2000) evaluated the impact of financial liberalization of emerging equity markets on the cost of capital of firms by comparing the change in the dividend yield before and after the liberalization process.…”

“…Theory suggests that as a previously segmented equity market integrates to the global financial market, the cost of equity capital on the previously segmented market falls (Stulz, 2005).…”

Introduction

“…• Rapid financial integration (Stultz, 2005) • Increased import penetration (GA TT, WTO, etc. ), which has stimulated trade to expand much faster than GDP on a world-wide scale.…”