Information Asymmetry and Corporate Governance

Abstract:     
We examine the impact of a firm's asymmetric information on its choice of three mechanisms of corporate governance: the intensity of board monitoring, the exposure to market discipline, and CEO pay-for-performance sensitivity. We find that firms facing greater asymmetric information tend to use less intensive board monitoring but rely more on market discipline and CEO incentive alignment. These results are consistent with the monitoring cost hypothesis. These results also support the notion that firms endogenously and optimally choose governance. Consistent with this viewpoint, we find that firm performance is not related to governance for the overall sample. However, firms suffer poor performance when the Sarbanes-Oxley Act and related regulations force them to deviate from equilibrium. Our evidence therefore suggests that regulators should use caution when imposing uniform corporate governance requirements on all firms.

Number of Pages in PDF File: 39

Keywords: corporate governance, asymmetric information, board monitoring, pay-for performance, anti-takeover provisions

JEL Classification: D82, J33, G30, G32, G38

working papers series