Institutions, Investor Protection, and Corporate Choices in Developing Economies

Abstract

This paper examines the extent to which differences in legal tradition, judicial efficiency, and investor protection affect debt financing and risk taking across developing economies. We find that firms in common law countries have the highest preference for debt financing while corporations in countries of socialist legal tradition assume the greatest levels of risk. Further, judicial efficiency matters most across developing economies. When legal formalism is high, firms contract more debt, but they are less willing to undertake risky investments. The findings also support the “dark side” to strong creditor rights in bankruptcy, but this “dark side” is sector-dependent.

Keywords: Developing Economies, Corporate Financing, Risk Taking, Legal Origin, Investor Protection

JEL Classification: G15, G32, G34, O16