The Price of Property Rights: Institutions, Finance, and Economic Growth

Abstract

Using a unique data set of foreign equities traded on the London Stock Exchange (LSE) in the
late 19th century, we study the relation between the security of property rights, finance, and growth. We find that British investors demanded a higher equity cost of capital from firms operating in countries with weak property-rights institutions. Further, country-level expropriation risk is negatively related to 19th-century capital flows and present-day economic and financial development. A simple equilibrium model of the protection of investor property rights and capital flows rationalizes these findings. This evidence indicates that institutional quality influences growth, in part, through its effect on the cost of capital and investment.

Keywords: Institutions, property rights, cost of capital, economic growth, financial development

JEL Classification: F36, G15, O16