International Differences in the Cost of Equity Capital: Do Legal Institutions and Securities Regulation Matter?
University of Pennsylvania - The Wharton School
University of Chicago - Booth School of Business; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI); Center for Financial Studies (CFS); University of Pennsylvania - Wharton Financial Institutions Center; CESifo Research Network
Journal of Accounting Research, Vol. 44, No. 3, pp. 485-531, 2006
This paper examines international differences in firms' cost of equity capital across 40 countries. We analyze whether the effectiveness of a country's legal institutions and securities regulation is systematically related to cross-country differences in the cost of equity capital. We employ several models to estimate firms' implied or ex ante cost of capital. Our results support the conclusion that firms from countries with more extensive disclosure requirements, stronger securities regulation and stricter enforcement mechanisms have a significantly lower cost of capital. We perform extensive sensitivity analyses to assess the potentially confounding influence of countries' long-run growth differences on our results. We also show that, consistent with theory, the cost of capital effects of strong legal institutions become substantially smaller and, in many cases, statistically insignificant as capital markets become globally more integrated.
Keywords: Cost of equity, Disclosure regulation, Law and finance, International finance, Country risk, Legal system
JEL Classification: G14, G14, G15, G38, K22, M41, M45, M47Accepted Paper Series
Date posted: January 17, 2006 ; Last revised: November 20, 2011
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