What is the Role of Legal Systems in Financial Intermediation? Theory and Evidence

66 Pages Posted: 21 Feb 2005 Last revised: 22 Jan 2019

See all articles by Laura Bottazzi

Laura Bottazzi

University of Bologna - Department of Economics; Bocconi University - IGIER - Innocenzo Gasparini Institute for Economic Research; University of Bologna - Rimini Center for Economic Analysis (RCEA)

Marco Da Rin

Tilburg University, Department of Finance; Tilburg Law and Economics Center (TILEC); European Corporate Governance Institute (ECGI)

Thomas F. Hellmann

University of Oxford - Said Business School; University of Oxford - Said Business School

Date Written: March 1, 2008

Abstract

We develop a theory and empirical test of how the legal system affects the relationship between venture capitalists and entrepreneurs. The theory uses a double moral hazard framework to show how optimal contracts and investor actions depend on the quality of the legal system. The empirical evidence is based on a sample of European venture capital deals. The main results are that with better legal protection, investors give more non-contractible support and demand more downside protection. These predictions are supported by the empirical analysis. Using a new empirical approach of comparing two sets of fixed-effect regressions, we also find that the investor's legal system is more important than that of the company in determining investor behavior. confirm the predictions of the model.

Keywords: Financial intermediation, legal systems, investor behavior, corporate governance, optimal contracts

JEL Classification: G10, G18, K20

Suggested Citation

Bottazzi, Laura and Da Rin, Marco and Hellmann, Thomas F., What is the Role of Legal Systems in Financial Intermediation? Theory and Evidence (March 1, 2008). ECGI - Finance Working Paper No. 82/2005; IGIER Working Paper No. 283; Sauder School of Business Working Paper; TILEC Discussion Paper No. 2008-014; CentER Discussion Paper Series No. 2008-30. Available at SSRN: https://ssrn.com/abstract=667263 or http://dx.doi.org/10.2139/ssrn.667263

Laura Bottazzi

University of Bologna - Department of Economics

Strada Maggiore 45
Bologna, 40125
Italy

Bocconi University - IGIER - Innocenzo Gasparini Institute for Economic Research ( email )

Via Roentgen 1
Milan, 20136
Italy
+39 02 5836 3326 (Phone)
+39 02 5836 3302 (Fax)

HOME PAGE: http://www.igier.uni-bocconi.it/bottazzi

University of Bologna - Rimini Center for Economic Analysis (RCEA) ( email )

Via Patara, 3
Rimini (RN), RN 47900
Italy

Marco Da Rin (Contact Author)

Tilburg University, Department of Finance ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands

Tilburg Law and Economics Center (TILEC)

Warandelaan 2
Tilburg, 5000 LE
Netherlands

European Corporate Governance Institute (ECGI)

c/o ECARES ULB CP 114
B-1050 Brussels
Belgium

Thomas F. Hellmann

University of Oxford - Said Business School ( email )

Park End Street
Oxford, OX1 1HP
Great Britain
+44 (0)1865 288937 (Phone)

HOME PAGE: http://www.sbs.ox.ac.uk/community/people/thomas-hellmann

University of Oxford - Said Business School ( email )

Park End Street
Oxford, OX1 1HP
Great Britain
+44 (0)1865 288937 (Phone)

HOME PAGE: http://www.sbs.ox.ac.uk/community/people/thomas-hellmann

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