Download This PaperCorporate Governance and Long-Run Risk Premia
61 Pages Posted: 26 Aug 2019 Last revised: 11 Nov 2025
Date Written: August 21, 2019
Abstract
This paper examines how corporate governance impacts equity returns when economic conditions switch. In our framework, optimal governance policies reflect the trade-off between the benefits of good governance and agency costs. Well-governed firms adopt more conservative policies, resulting in lower agency costs. Yet, a U-shaped relationship emerges between governance quality and risk premia. Firms with poor governance have higher risk premia due to lower equity valuations and higher leverage ratios. Conversely, well-governed firms exhibit higher premia because they grow faster during expansions, causing their returns to fluctuate more at the business cycle frequency. We provide empirical evidence for these findings.
Keywords: equity pricing, long-run risk, Corporate governance
JEL Classification: G30, G12
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