Short-Termism, the Financial Crisis, and Corporate Governance

Abstract:     
This article is a comprehensive exploration of why financial and nonfinancial firms engage in short-termism with particular attention given to the financial crisis of 2007-2009. Short-termism, which is also referred to as earnings management (or, alternatively, managerial myopia), consists of the excessive focus of corporate managers, asset managers, investors and analysts on short-term results, whether quarterly earnings or short-term portfolio returns, and a repudiation of concern for long-term value creation and the fundamental value of firms. This article examines market and internal firm dynamics that contribute to short-termism, which requires an examination of various structural, informational, behavioral and incentive problems operating within firms and markets. This article also discusses various regulatory responses to mitigate short-termism, including provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010. It is the objective of this article to seek changes that would improve our financial system and prevent a financial meltdown in the future, such as the financial crisis of 2007-2009 that has had such a devastating impact on the U.S. and global economies.

Number of Pages in PDF File: 101

Keywords: short-termism, financial crisis, corporate governance, earnings management, myopia, momentum reading, high frequency trading, short-term trading, transient institutional investors, shareholder voting rights, herding, corporate culture, Frank-Dodd, shadow banking system, subprime mortgages

JEL Classification: G18, G38, K22, K29, M14, M40

Accepted Paper Series