Corporate Governance Over the Business Cycle

Abstract

I provide empirical evidence that badly governed firms respond more to aggregate shocks than do well governed firms. I build a simple model where managers are prone to overinvest and where shareholders are more willing to tolerate such a behavior in goodtimes. The model successfully explains the average profit differences as well as thecyclical behavior of sales, employment and investment for firms with different governancequalities. The quantitative results suggest that governance conflicts can explain 30% ofaggregate volatility.