The current global financial crisis (GFC) has attracted the attention of academics and policy makers worldwide,all searching for the causes and possible remedial alternatives.
Originating in the financial sector,the GFC affected major stock markets around the globe,typically loosing close to half of their value initially,though somewhat recovering partially in the last couple of years. As many have searched for the root of the cause,one question in particular has been raised: Was the global financial crisis caused by corporate governance failures?
According to a report commissioned by Organisation for Economic Co-operation and Development (OECD) steering group on corporate governance,the current corporate governance system did in fact fail the test.
However AUT University Professor and Chair of Finance Alireza Tourani-Rad,together with a number of other experts in the field,believe this is actually not the case as far as non-financial firms are concerned.
In a recent prize winning paper,Professor Tourani-Rad et al investigated the nature of corporate governance practices by corporations around the globe. Exploring the impact on corporate performance and market values during the financial crisis,Professor Tourani-Rad et al found that the stock market meltdown observed in 2008 provided a major stress test for the market-oriented corporate governance model advocated and pursued by many advanced economies of the world.
"Under normal circumstances,there is some empirical support for the notion that better governed firms do perform better in terms of their financial performance and stock market returns. However in this instance,this has not been the case" says Professor Tourani-Rad.
Through their research,Professor Tourani-Rad et al examined the relationship between internal corporate governance and performance of industrial firms during the GFC period (intentionally excluding financial firms and banks,as these have been culprit for the crisis and investigated by several other authors).
Constructing a detailed database for a cross-country sample of 4046 publicly traded non-financial firms from 23 countries,Professor Tourani-Rad et al found that after controlling for well-established factors among firms,such as their size,risk,growth opportunities,liquidity,institutional ownership,and legal origins,well-governed firms in fact do not outperform poorly governed firms.
"Our evidence poses a significant challenge to the widely held belief by regulators and financial economists who espouse the cause of good corporate governance,as there seems to be no relationship during the financial crisis," says Professor Tourani-Rad.
"Our research helps to put in perspective the widely-disseminated opinion in financial press that corporate governance failure is somehow associated with the dramatic decline in stock prices experienced by markets worldwide. We certainly found no linkage between the firm-level quality of corporate governance and performance during the recent extreme crisis."
Professor Tourani-Rad et al argue that in fact investors rapidly change their asset allocation away from risky stocks to safe assets in such a situation.
"This reallocation results in prompt liquidation of stocks without regard to the quality corporate governance. Thus the benefits of good governance are not reflected during a financial crisis," says Professor Tourani-Rad.
"Admittedly,while there hasn't been any dramatic corporate governance failures among industrial firms,existing corporate governance arrangements do not go far enough in mitigating steep declines in performance during the global financial crisis."
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Was the global financial crisis caused by corporate governance failures?
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