Investor Protection, Ownership, and the Cost of Capital

50 Pages Posted: 19 Mar 2002

See all articles by Charles P. Himmelberg

Charles P. Himmelberg

Goldman, Sachs & Co.

R. Glenn Hubbard

Columbia Business School - Finance and Economics; National Bureau of Economic Research (NBER)

Inessa Love

World Bank - Development Economics Data Group (DECDG)

Date Written: April 2004

Abstract

Himmelberg, Hubbard, and Love combine the agency theory of the firm with risk diversification incentives for insiders. Principal-agent problems between insiders and outsiders force insiders to retain a larger share in their firm than they would under a perfect risk diversification strategy. The authors predict that this higher share of insider ownership and the resulting exposure of insiders to higher idiosyncratic risk will result in underinvestment and higher cost of capital. Using firm-level data from 38 countries, the authors provide evidence in support of their theoretical model, showing that the premium for bearing idiosyncratic risk varies between zero and six percent and decreases in the level of outside investor protection.

The results of the study imply that policies aimed at strengthening investor protection laws and their enforcement will improve capital allocation and result in higher growth.

This paper - a product of Finance, Development Research Group - is part of a larger effort in the group to study corporate governance and access to finance.

JEL Classification: G31, G32, E22, D92, O16

Suggested Citation

Himmelberg, Charles P. and Hubbard, Robert Glenn and Love, Inessa, Investor Protection, Ownership, and the Cost of Capital (April 2004). World Bank Policy Research Working Paper No. 2834. Available at SSRN: https://ssrn.com/abstract=303969

Charles P. Himmelberg (Contact Author)

Goldman, Sachs & Co. ( email )

200 West St
New York, NY 10233
917-343-3218 (Phone)

Robert Glenn Hubbard

Columbia Business School - Finance and Economics ( email )

3022 Broadway
New York, NY 10027
United States

HOME PAGE: http://www.gsb.columbia.edu/faculty/ghubbard

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Inessa Love

World Bank - Development Economics Data Group (DECDG) ( email )

1818 H Street, N.W.
Washington, DC 20433
United States

HOME PAGE: http://econ.worldbank.org/staff/ilove

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